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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended DECEMBER 31, 1997
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission File Number 0-13304
CHANTAL PHARMACEUTICAL CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 22-2276346
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1350 AVENUE OF THE AMERICAS 16TH FLOOR, NEW YORK, NEW YORK 10019
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (212) 767-1776
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding twelve (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
--- ---
The number of shares of Common Stock, $.01 par value, outstanding as of
February 13, 1998, was 34,624,450.
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CHANTAL PHARMACEUTICAL CORPORATION
INDEX TO FORM 10-Q
Part I: Financial Information Page Number
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ITEM 1 - Financial Statements
Consolidated Balance Sheets as of December 31, 1997
and June 30, 1997................................................3
Consolidated Statements of Operations for the three and six months
ended December 31, 1997 and December 31, 1996....................4
Consolidated Statements of Cash Flows for the six months
ended December 31, 1997 and December 31, 1996....................5
Notes to Consolidated Financial Statements................................6
ITEM 2 Management's Discussion and Analysis
of Financial Condition and Results of Operations.................8
PART II: OTHER INFORMATION
Item 1 - Legal Proceedings................................................10
Item 5 - Other Information................................................10
Item 6 - Exhibits and Reports on Form 8-K.................................10
Signatures................................................................11
2
Item 1. Financial Statements
CHANTAL PHARMACEUTICAL CORPORATION
CONSOLIDATED BALANCE SHEETS
December 31, June 30,
ASSETS 1997 1997
- ------ ------------ --------
(unaudited)
Current assets
Cash and cash equivalents $ 134,147 $ 150,587
Short-term investment 23,883 23,883
Accounts receivable, trade, net 240,331 796,762
Inventory, net 2,146,197 2,904,723
Prepaid expenses and other current assets 104,683 203,248
------------ ------------
Total current assets 2,649,241 4,079,203
Long-term inventory 2,647,063 2,832,822
Property and equipment, net of accumulated depreciation 603,751 783,014
License rights, net 5,418,674 5,800,000
Patents and trademarks, net 46,472 49,920
Prepaid royalties, net 609,937 652,406
Deposits and other assets 135,019 684,272
Organization cost, net 54,933 70,628
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TOTAL ASSETS $ 12,165,090 $ 14,952,265
------------ ------------
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts payable $ 5,726,012 $ 5,438,600
Accrued liabilities 2,143,538 2,294,013
Royalties payable 652,668 652,668
Current portion of long-term capital lease obligation 1,023 47,653
Short-term note payable to distributor - 183,000
Related party note payable 325,665 -
Short-term borrowings 56,820 41,465
------------ ------------
Total current liabilities 8,905,726 8,657,399
Long term liabilities
Capital lease obligation, less current portion - 289,014
Convertible Debentures 840,000 5,250,000
------------ ------------
Total liabilities 9,745,726 14,196,413
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Stockholders' equity
Preferred stock, $.10 par value; 1,000,000 shares
authorized; 500,000 Preferred Series C shares issued
and outstanding. Liquidation preference of $500,000 50,000 50,000
Common stock, $.01 par value; 50,000,000 shares
authorized; 34,624,450 and 18,190,516 shares issued
and outstanding at December 31, 1997 and June 30, 1997 346,244 181,905
Additional paid-in capital-preferred stock 2,204,000 2,204,000
Additional paid-in capital - common stock 56,412,417 52,204,860
Accumulated deficit (56,593,297) (53,884,913)
------------ ------------
Total stockholders' equity (See Note 1) 2,419,364 755,852
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TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 12,165,090 $ 14,952,265
------------ ------------
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See accompanying notes.
3
CHANTAL PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
For the three and six months ended December 31, 1997 and December 31, 1996
(unaudited)
Three Months Ended Six Months Ended
December 31 December 31
1997 1996 1997 1996
------------ ------------ ------------ ------------
Revenues:
Product sales, net $ 1,428,299 $ 3,805,447 $ 2,330,500 $ 5,634,453
License fees and other income 128,187 30,650 145,566 111,280
------------ ------------ ------------ ------------
Total revenues 1,556,486 3,836,097 2,476,066 5,745,733
Costs of goods sold 338,978 760,654 798,154 1,088,817
------------ ------------ ------------ ------------
Gross profit 1,217,508 3,075,443 1,677,912 4,656,916
Marketing and other expenses 1,174,298 1,760,392 1,899,973 3,634,901
General and administrative 855,222 1,258,249 1,933,255 2,883,263
Amortization of license rights 211,898 229,724 423,795 459,447
Research and development 7,443 88,186 16,399 90,530
------------ ------------ ------------ ------------
Loss from operations (1,031,353) (261,108) (2,595,510) (2,411,225)
Other income (expense):
Interest income 1,750 7,121 3,185 8,503
Interest expense 7,532 (106,547) (116,059) (133,480)
Non-cash interest expense on
Convertible debenture - (1,045,000) - (1,045,000)
------------ ------------ ------------ ------------
Loss before minority interest (1,022,071) (1,405,534) (2,708,384) (3,581,202)
Minority interest - (6,792) - 113,777
------------ ------------ ------------ ------------
Net Loss $ (1,022,071) $ (1,412,326) $ (2,708,384) $ (3,467,425)
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
Net Loss per share $ (0.04) $ (0.08) $ (0.13) $ (0.19)
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
Weighted average shares outstanding 24,714,469 18,190,516 21,507,557 18,190,516
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
See accompanying notes.
4
CHANTAL PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the six months ended December 31, 1997 and December 31, 1996
(unaudited)
Six Months Ended
December 31,
1997 1996
---- ----
Cash flows from operating activities:
Net Loss $(2,708,384) $(3,467,425)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization 756,259 709,979
Allowance for sales returns 64,995 (42,729)
Loss on disposition of assets 147,922 6,426
Minority interest (113,777)
Non-cash interest expense on Convertible
debenture 1,045,000
Changes in operating assets and liabilities:
Accounts receivable 491,436 (2,821,240)
Inventory 944,285 127,841
Prepaid expenses and other current assets 98,565 (720,350)
Other assets 301,420 185
Accounts payable and accrued liabilities 136,937 (195,954)
----------- -----------
Net cash provided by (used in) operating activities 233,435 (5,472,044)
----------- -----------
Cash flows from investing activities:
Additions to property and equipment (72,251) (9,687)
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Cash flows from financing activities:
Proceeds from issuance of short-term debt/notes
payable from distributor 167,851 5,874,226
Payments on short-term borrowings (335,496) (382,402)
Payments and cancellation on capital lease obligation (335,644) (33,755)
Proceeds from issuance of related party note payable 325,665 -
----------- -----------
Net cash provided by (used in) financing activities (177,624) 5,458,069
----------- -----------
Net decrease in cash and cash equivalents (16,440) (23,662)
Cash and cash equivalents:
At beginning of period 150,587 305,668
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At end of period $ 134,147 $ 282,006
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----------- -----------
Supplemental non-cashflow information: See Note 3.
See accompanying notes.
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CHANTAL PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
NOTE 1 - GENERAL
The accompanying interim consolidated financial statements of Chantal
Pharmaceutical Corporation (the "Company") have been prepared without audit
pursuant to the rules and regulations of the Securities and Exchange
Commission. Certain information and footnote disclosures normally included
in the financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such rules
and regulations, although the Company believes that the disclosures made are
adequate to make the information presented not misleading. In the opinion of
management, all adjustments, consisting only of normal recurring adjustments,
necessary to present fairly the financial position of the Company as of
December 31, 1997, and the results of its operations for the three and six
months periods ended December 31, 1997 and 1996, and the cash flows for the
six months ended December 31, 1997 and 1996 have been included. The results
of operations for the interim periods are not necessarily indicative of the
results which may be realized for the full year. For further information,
refer to the consolidated financial statements and footnotes thereto included
in the Company's Annual Report on Form 10-K for the fiscal year ended June
30, 1997.
Effective December 31, 1997, in order to properly reflect the Company's 90%
interest in its Chantal Skin Care Corporation subsidiary ("CSCC"), the
Company eliminated $910,615 of minority interest because the liabilities of
CSCC exceeded the assets at that date. The effect of the adjustments on prior
periods will be determined in conjunction with the year end closing.
The Company has been informed that the extensive delays in its realizing due
VAT reimbursement from the German Finanzamt office in excess of $345,000
(DM600,000), which amount has been the allocated funding sources for payment
to the outstanding creditors of the Company's wholly-owned German subsidiary,
Chantal Pharmaceutical GmbH, has caused Chantal Pharmaceutical GmbH employees
and creditors to seek the equivalent of bankruptcy protection in Germany. A
consequence may be that the Company risks loss of control of the subsidiary;
accordingly, the assets and liabilities and results of operations of the
subsidiary are not included in the accompanying financial statements. For
the six months ended December 31, 1997, the financial statements reflect a
$161,083 write-off of the net assets of the subsidiary.
NET LOSS PER SHARE
The computation of net loss per share for the three and six months periods
ended December 31, 1997 and 1996 are based on the weighted average number of
common and common equivalent shares outstanding. When dilutive, stock
options, warrants and convertible Preferred Stock are included as share
equivalents using the treasury stock method. Primary and fully diluted
earnings per share are the same for each of the periods presented.
NOTE 2 - LITIGATION AND CONTINGENCIES
The Company and Chantal Burnison are defendants in an action titled MARKSMAN
PARTNERS, L.P., ON BEHALF OF ITSELF AND ALL OTHERS SIMILARLY SITUATED VS.
CHANTAL PHARMACEUTICAL CORPORATION AND CHANTAL BURNISON, filed on February 7,
1996 in the United States District Court, Central District of California,
Western Division, Case No. 96-0872. This action is a securities class action
on behalf of all persons who purchased or otherwise acquired the common stock
of the Company between July 10, 1995 and January 5, 1996, inclusive.
The MARKSMAN PARTNERS action is based on a contention that the Company's
accounting for sales revenue, because of the nature of its distribution
agreement with Stanson Marketing, Inc. overstated its revenues for fiscal
(June 30) 1995 and for the September 30, 1995 quarter ($3 million and $10
million, respectively), which , the action claims, violated generally
accepted accounting principles and the Federal securities laws. The
complaint notes that Chantal Burnison sold 300,000 shares during the class
period (The sales were actually made by CBD Pharmaceutical Corporation from
approximate holdings of 1.3 million shares.) The complaint appears to rely
on details of the contractual relationship with the distributor to contend
that the revenues should not have been booked by the Company based on shipped
orders from the distributor, since among other reasons, plaintiffs allege
that Stanson, during the relevant time period, had the right to require the
Company to purchase Stanson on a formula dependent on its income from the
Company's products' sales, and the Company did not have a substantial history
of selling through the distributor and the distribution system. The action
seeks monetary damages in an unspecified amount. An amount sought on the
basis stated in the complaint would be substantially in excess of the
Company's current net worth.
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The Company believes its financial reports were correctly presented under
generally accepted accounting principles. A motion to dismiss the MARKSMAN
PARTNERS action was denied, and pre-trial discovery in the MARKSMAN PARTNERS
action has commenced. The Company is defending itself against the claims
asserted in the litigation.
In late January 1998, the District Court granted Plaintiff's motion to amend
the complaint to include Coopers and Lybrand, LLP, the Company's former
auditors ("C&L"), Stanson Medical Marketing, Inc., the Company's North
America distributor ("Stanson"), and Fred Reinstein, identified as the
President of Stanson, as defendants. On February 9, 1998, the Court entered
an order allowing the Company's local counsel in this action to withdraw. At
the same time the Court ordered a 30-day stay in the proceedings.
A derivative action based on many of the same contentions as made in Marksman
has been filed against the Company and Chantal Burnison. The action,
entitled Baruch Singer and Dorothea E. Wakefield vs. Chantal Burnison,
defendant, and Chantal Pharmaceutical Corporation, nominal defendant, was
filed in the Superior Court of the State of California, the County of Los
Angeles, case No. BC 147327. In June 1997, the plaintiffs amended the
complaint to assert a claim against C&L for negligence and professional
malpractice arising out of C&L's audit of the Company's fiscal year 1995
financial statements which are the subject of both the Marksman and Singer
actions. C&L's motion to dismiss the case was denied.
On October 2, 1997, C&L filed a cross complaint naming the Company, Ms.
Burnison and Does 1-50 as defendants. The Company did not answer the
Complaint but the Plaintiffs filed an answer on their behalf. On January 29,
1998, the Court (i) granted C&L's motion to strike the answer filed by
Plaintiffs; (ii) denied Plaintiffs' motion to intervene without prejudice;
and (iii) instructed C&L not to take the default of the Company prior to a
status conference on April 3, 1998.
In mid-January, 1998, the Company was advised by correspondence from NASD
that because the Company's stock trading price failed to maintain a closing
bid price of greater or equal to $1.00 per share, the Company's common stock
would be delisted from the NASDAQ SmallCap Market as of January 16, 1998.
The Company requested a hearing which was granted and the NASD issued a stay
until the hearing date, February 19, 1998.
Due to the continuing cash flow problems (see "Management's Discussion and
Analysis - Liquidity and Capital Resources") the Company is delinquent in the
payment of its operating expenses. As a consequence, numerous creditors have
threatened legal action and some have filed actions, resulting in six
creditors receiving judgments totaling approximately $650,000, of which
$400,000 is damages and interest alleged by a Regulation S investor of the
Company's October 1996 convertible debenture (See Note 3 below). The Company
is negotiating with these creditors to preclude further legal action by them.
A former international marketing consultant to the Company, Epic Group (Mark
and Mary Presser) has brought an action in Hong Kong courts against the
Company for alleged $180,000 consulting fees due it. The Company has retained
Hong Kong counsel to both defend and file a cross-complaint against Epic
Group/the Pressers for breach of contract and damages. The Company presently
maintains an approximate $900,000 (at cost) inventory of Chantal Skin Care
products at a third party Hong Kong-based warehouse. The plaintiffs have
attempted seizure of the inventory pending resolution of the litigation. The
Court reversed a motion for subject seizure by plaintiffs. However, pending
resolution, either by settlement or court judgment of this litigation, the
carrying value of the inventory has been completely reserved as of December
31, 1997.
NOTE 3 - CONVERTIBLE DEBENTURES
As of December 31, 1997, the Company issued an aggregate of 16,433,934 shares
of common stock upon conversion of $4,410,000 principal amount and $107,089
accrued interest; at an average of $.28 per share of its 8% convertible
debentures which were sold in October 1996 in a $5.25 million principal
amount offering completed under Regulation S. The conversion price is the
lesser of $3.91 or 80% of the average closing bid price of the Company's
common stock for the five business days preceding the conversion date.
Certain investors have commenced action against the Company relating to the
offering. The Company has honored all conversions tendered and has accrued
an amount it believes adequate to cover all damages relating to the
conversions.
On January 30, 1998, Arbinter Omnivalor S.A. ("Arbinter") filed a "Motion
for appointment of receiver for failure to obey order of court" in the Court
of Chancery of the State of Delaware in and for New Castle County (C.A. No.
15788-NC). Arbinter alleges that the Company failed to pay $400,000 of
damages and interest related to Arbinter's conversion of its debentures and
additionally failed to issue unrestricted shares for some of the conversions.
A hearing is scheduled on the Motion for March 3, 1998, and negotiations
have begun with Arbinter.
-7-
CHANTAL PHARMACEUTICAL CORPORATION
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES
The Company is experiencing a severe cash flow shortage and is delinquent in
payments of its operating expenses. At the present time, and during the six
months ending December 31, 1997, its primary sources of cash revenue are:
(i) its own telemarketing sales, (ii) its own July 1997 launched sales to
North American retail outlets, (iii) payments by Stanson Marketing Inc., from
Stanson's collection of its outstanding accounts receivable relating to
Chantal Skin Care products and (iv) payments by Stanson from sales of Chantal
Skin Care products on Home Shopping Network.
The Company's telemarketing operations and retail sales for the six months
ended December 31, 1997 aggregated approximately $250,000 per month (see
RESULTS OF OPERATIONS). During the six months, the Company also received
approximately $1,095,000 from Stanson and $326,000 of loans from Chantal
Burnison, the Company's Chairman and Chief Executive Officer.
Cash flow has been severely affected by Stanson's discontinuance of an active
Chantal Skin Care products' marketing program (see RESULTS OF OPERATIONS) and
the inability of the Company to effectively launch its own direct-to-retail
marketing program with national advertising. Financing to fund a national
advertising program has been seriously curtailed by the uncertainty and
litigation cost prohibitiveness of pending litigation. Management, in
cooperation with crisis management advisors, is pursuing settlement
negotiations.
Both telemarketing and sales at retail are highly dependent on advertising.
Broad-based advertising has been limited by the lack of available cash. The
Company has been funding advertising on a limited basis including regional
radio and T.V. spots.
The Company, in consult with investment banker, has retained crisis
management financial and operational advisors to (i) evaluate its July
1-December 31, 1997 retail marketing operations, (ii) finalize an agreement
with Stanson, (iii) negotiate with creditors, (iv) settle pending litigation
and (v) develop a going forward business plan. There can be no assurances,
however, that these plans can be accomplished or that sufficient cash can be
realized to meet marketing and distribution plans.
In their opinion on the June 30, 1997 financial statements, the Company's
auditors, because of the continuing losses from operation and the deficiency
in working capital, raised substantial doubt about its ability to continue as
a going concern.
The Company does not have any material commitments for capital expenditures.
The Company's operations are not significantly affected by inflation. Due to
the recent and continuing devaluation of the currencies of certain Pacific
Rim countries against the US dollar, the Company's licensees and
sub-licensees have been forced to delay the launch of the Company's product
in those areas.
RESULTS OF OPERATIONS
The Company announced June 9, 1997 that it had reached an Agreement in
Principle with Stanson, its North American distributor, for termination of
its June 1995 Marketing Agreement. Concomitant with such Agreement in
Principle, the Company, through its 90% owned subsidiary, Chantal Skin Care
Corporation, commenced its own launch of sale of Chantal Skin Care products
to U.S. and Canada retail outlets. The Company instructed Stanson, and
Stanson complied, to phase out its sales to U.S. and Canada retail and
cooperate in the transitional assignment to the Company of these retail
accounts. To date, a substantial portion of the Company's sales to retail
store customers are upon payment terms such that the retail store customers'
obligations to pay the Company for the product does not arise until a product
sale is made to the products' end-consumer. Such sales are referred to, in
the industry, as Point of Sale ("POS"). Additionally, the POS payment term
retail outlets have the right to return unsold product to the Company.
Accordingly, no revenue is recognized on such POS sales until cash is
collected. For the six months ended December 31, 1997, no revenue was
recognized from POS sales. During these six months, the Company directly
shipped approximately $2,226,721 of its products to retailers. A substantial
portion, approximately $1,700,000 (valued at the Company's wholesale prices
to the retail outlet customers), was inventory sold on POS terms.
Stanson, with agreement of the Company, continued its sale of Chantal Skin
Care products to Home Shopping Network, a distribution channel established,
with the permission of the Company, by Stanson. For the six months ended
December 31, 1997, HSN sales at HSN's retail prices of the Company's products
were $3.2 million; of which $1.5 million were realized by Stanson, the
majority of which was for sale of Stanson inventory.
The Company, upon advice of its crisis management consultants, is presently
negotiating a modification to the Distribution Agreement with Stanson. If
consummated, the agreement will provide for: (i) a sharing of the cash
proceeds from Stanson sale of its inventory, including HSN sales, (ii)
cooperation in the marketing of Company-owned inventory, and (iii) resolution
of certain accounting disputes between the parties. There can be no
assurances, however, that an agreement can be reached with Stanson.
-8-
At the present time because of, among other things, the uncertainty of
collection, revenue from POS sales and Stanson is recognized when cash is
collected. Accordingly, the Company has established, by decreasing revenues,
a 100% allowance against the Stanson receivable.
Revenue for the three and six months periods ended December 31, 1997
decreased by 60% and 57% respectively from the comparable period in 1996.
The 1996 periods included $960,000 (principally in the December quarter) of
export sales to Taiwan -- there were no such sales in 1997. Revenues
recognized on sales to Stanson decreased in the 1997 periods by $2.6 million
for the six months ($1.6 million for the three months) from the comparable
1996 periods. A substantial portion of the 1996 revenues were reserved as of
June 30, 1997 -- see the June 30, 1997 Form 10-K. In addition, telemarketing
sales decreased by 35% and 38% for the three and six months periods.
Cost of good sold, as a percentage of revenues, was favorably impacted in the
December 1997 quarter due to the fact that $570,000 of revenue was recognized
from Stanson without any associated costs (such costs had been recognized in
earlier periods). All of the 1997 periods includes reserves for shipments to
Stanson and the effect of company implemented lower prices of product to
consumers.
Marketing and other selling expenses decreased by 33% and 48% for the three
and six months periods ended December 31, 1997 as compared to the 1996
periods; primarily due to decreases in advertising expenditures of
approximately $971,000, decreased consulting services of approximately
$616,000 and decreased promotional expenditures of approximately $167,000.
General and administrative expenses decreased by 32% and 33% for the three
and six months periods ended December 31, 1997 as compared to the 1996
periods; primarily due to decrease in legal services of approximately
$642,000 and decrease in insurance expenditures of approximately $130,000.
Interest expense relates primarily to the convertible debentures which were
issued in October 1996 and which were substantially converted in the 1997
periods.
Research and development expenditures decreased in 1997 due to the Company's
limited financial resources.
-9-
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Note 1, 2 and 3 to financial statements.
ITEM 5. OTHER INFORMATION
Because of cost considerations, the Company did not renew its Directors and
Officers liability insurance effective November 25, 1997. The Company's Board
of Directors has reduced in number from 5 to 2. Resigned directors are
Joseph Daly, Robert Pinco, and Charles D. Strang.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27 Financial Data Schedule
(b) Reports on 8-K
None
-10-
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CHANTAL PHARMACEUTICAL CORPORATION
----------------------------------
(Registrant)
February 17, 1997 BY: /s/ CHANTAL BURNISON
----------------------------------
CHANTAL BURNISON
Chairman of the Board
and Chief Executive Officer
/s/ CHARLES P. SCALZO
----------------------------------
CHARLES P. SCALZO
(Principal Financial Officer)
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