UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K/A
(Amendment No. 1)
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended March 31, 2005
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 1-15345
GALAXY NUTRITIONAL FOODS, INC.
(Exact name of registrant as specified in its charter)
Delaware 25-1391475
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2441 Viscount Row
Orlando, Florida 32809
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (407) 855-5500
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share American Stock Exchange
(Title of Class) (Name of exchange on which registered)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes |X| No |_|
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K/A or any amendment to
this Form 10-K/A. |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes |_| No |X|
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act.).
Yes |_| No |X|
The aggregate market value of the common equity held by non-affiliates as of
September 30, 2004 (the last business day of the registrant's most recently
completed second fiscal quarter) was $9,041,667 based on the closing price of
such common equity of $1.27 per share on that date. All executive officers and
directors of the registrant and all persons filing a Schedule 13D or a Schedule
13G with the Securities and Exchange Commission in respect to the registrant's
common stock have been deemed, solely for the purpose of the foregoing
calculation, to be "affiliates" of the registrant.
The number of shares outstanding of the registrant's common stock as of July 12,
2005 was 20,043,474.
DOCUMENTS INCORPORATED BY REFERENCE: None
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EXPLANATORY NOTE
The purpose of this Form 10-K/A is to amend Part II, Items 6, 7, 8 and 9A of the
Annual Report on Form 10-K (the "Form 10-K") of Galaxy Nutritional Foods, Inc.
(the "Company") for its fiscal year ended March 31, 2005, as filed with the
Securities and Exchange Commission on July 14, 2005. Except as set forth in this
Form 10-K/A, this Form 10-K/A does not reflect any events that occurred after
the filing of the Form 10-K or modify, amend or update any disclosures contained
in the Form 10-K to reflect any subsequent events. Except as set forth in this
Form 10-K/A, the Company is not making any changes to, or updating any
disclosures contained in, the Form 10-K.
This Form 10-K/A is being filed in response to comments that the Staff of the
Securities and Exchange Commission made to the Form 10-K primarily related to
the Company's accounting for its Series A convertible preferred stock during the
periods from April 2001 through October 2004 and other mark-to-market
securities, including warrants and shares exercised through a note receivable,
during the periods from March 2001 through October 2004. The issues relate to
accounting for securities that are reflected as income or expense through
earnings as non-cash charges. These non-cash charges do not affect the Company's
revenues, cash flows from past or future operations, or its liquidity. As
discussed in Note 17 of the financial statements, the Company has reflected a
net increase in additional paid-in-capital and accumulated deficit in the amount
of $383,684 as of March 31, 2005. For the years ended March 31, 2005, 2004,
2003, 2002 and 2001, the Company has restated its financial statements to
reflect a net loss of ($3,859,783), ($3,299,277), ($957,221), ($16,721,149) and
($5,385,763), respectively. This is a gain/(loss) of $506,766, ($337,104),
($1,991,349), $338,003, and $1,100,000, respectively from what was previously
reported.
Additionally, the Company reclassified the $2,220,590 value of those shares of
common stock, which the Company has undertaken the obligation to register for
resale pursuant to a registration rights agreement, out of stockholders' equity
and into temporary equity due to a change in estimate related to the assumption
that the maximum potential liquidated damages under such registration rights
agreement may be greater than the difference in fair values between registered
and unregistered shares.
In addition, this Form 10-K/A also updates Part II, Item 9A to reflect
management's conclusion that the changes reflected in Part II, Items 6, 7 and 8
of this Form 10-K/A are the result of a material weakness relating to the
accounting and disclosure for complex and non-standard stockholders' equity
transactions.
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TABLE OF CONTENTS
For FORM 10-K/A
PAGE NO.
PART I.
Item 6. Selected Financial Data 1
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations 2
Item 8. Financial Statements and Supplementary Data 28
Item 9A. Controls and Procedures 59
PART IV.
Item 15. Exhibits and Financial Statement Schedules 60
SIGNATURES 64
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PART I
FORWARD LOOKING STATEMENTS
THIS FORM 10-K/A CONTAINS FORWARD-LOOKING STATEMENTS. THESE STATEMENTS RELATE TO
FUTURE EVENTS OR OUR FUTURE FINANCIAL PERFORMANCE. THESE FORWARD-LOOKING
STATEMENTS ARE BASED ON OUR CURRENT EXPECTATIONS, ESTIMATES AND PROJECTIONS
ABOUT OUR INDUSTRY, MANAGEMENT'S BELIEFS AND CERTAIN ASSUMPTIONS MADE BY OUR
COMPANY. WORDS SUCH AS "ANTICIPATE," "EXPECT," "INTEND," "PLAN," "BELIEVE,"
"SEEK," "PROJECT," "ESTIMATE," "MAY," "WILL," AND VARIATIONS OF THESE WORDS OR
SIMILAR EXPRESSIONS ARE INTENDED TO IDENTIFY FORWARD-LOOKING STATEMENTS. THESE
STATEMENTS ARE NOT GUARANTEES OF FUTURE PERFORMANCE AND ARE SUBJECT TO CERTAIN
RISKS, UNCERTAINTIES AND ASSUMPTIONS THAT ARE DIFFICULT TO PREDICT. THEREFORE,
ACTUAL RESULTS MAY DIFFER MATERIALLY FROM OUR HISTORICAL RESULTS AND THOSE
EXPRESSED OR FORECASTED IN ANY FORWARD-LOOKING STATEMENTS AS A RESULT OF A
VARIETY OF FACTORS, INCLUDING THOSE SET FORTH IN "RISK FACTORS" AND ELSEWHERE
IN, OR INCORPORATED BY REFERENCE INTO, THIS FORM 10-K/A. WE UNDERTAKE NO
OBLIGATION TO PUBLICLY UPDATE OR REVISE ANY FORWARD-LOOKING STATEMENTS FOR ANY
REASON, EVEN IF NEW INFORMATION BECOMES AVAILABLE OR OTHER EVENTS OCCUR IN THE
FUTURE.
ITEM 6. SELECTED FINANCIAL DATA (Restated).
Fiscal Year Ended March 31,
(1) (1) (1) (2)
2005 2004 2003 2002 2001
------------ ------------ ------------ ------------ ------------
Net sales $ 44,510,487 $ 36,176,961 $ 40,008,769 $ 42,927,104 $ 45,085,937
Employment contract expense (3) (444,883) (1,830,329) -- -- --
Income tax benefit (expense) -- -- -- (1,560,000) 240,000
Cumulative effect of change in
accounting policy -- -- -- -- (786,429)
Net income (loss) (3,859,783) (3,299,277) (957,221) (16,721,1494) (5,385,763)
Net income (loss) to common
stockholders (4,261,855) (4,757,087) (2,530,390) (18,748,345) (5,385,763)
Net income (loss) per common share
- basic & diluted (0.25) (0.32) (0.21) (1.78) (0.57)
Total assets 27,769,666 29,961,816 33,325,334 36,115,051 48,083,126
Long-term obligations 8,000,627 9,740,094 10,170,195 12,511,461 14,720,875
Redeemable Convertible Preferred
Stock -- 2,573,581 2,324,671 2,156,311 --
(1) See Material Historical Events under Business Environment in Item 7
for a summary of the major events during the fiscal years ended
March 31, 2005, 2004 and 2003.
(2) In addition to the line items detailed above, the net loss for
fiscal year ended March 31, 2002 included approximately $5.4 million
in accounts receivable and inventory write-downs, non-cash
compensation expense of approximately $400,000, approximately $1
million in fixed asset disposals and unused trade credit write-offs,
and approximately $2.4 in non-cash interest, derivative and fair
value expenses.
(3) See Employment Contract Expense under Results of Operations in Item
7 below for further information.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following information in this Management's Discussion and Analysis of
Financial Condition and Results of Operations ("MD&A") is intended to enhance a
reader's understanding of the financial condition, changes in financial
condition and results of operations of our Company. This MD&A is a supplement to
and should be read in conjunction with our Financial Statements and notes
thereto contained in Item 8. Terms such as "fiscal 2005", "fiscal 2004" or
"fiscal 2003" refer to our fiscal years ended March 31, 2005, 2004 and 2003,
respectively.
This MD&A contains the following sections:
o Restatement
o Business Environment
o Critical Accounting Policies
o Recent Accounting Pronouncements
o Results of Operations
o Liquidity and Capital Resources
o Contractual Obligations
o Forward Looking Statements
Restatement
This Form 10-K/A and the restated financial statements included herein reflect a
correction of our accounting and disclosure primarily related to our Series A
convertible preferred stock during the periods from April 2001 through October
2004 and other mark-to-market securities, including warrants and shares
exercised through a note receivable, during the periods from March 2001 through
October 2004. The issues relate to accounting for securities that are reflected
as income or expense through earnings as non-cash charges. These non-cash
charges do not affect our revenues, cash flows from past or future operations,
or our liquidity. As discussed in Note 17 of the financial statements, we have
reflected a net increase in additional paid-in-capital and accumulated deficit
in the amount of $383,684 as of March 31, 2005. For the years ended March 31,
2005, 2004, 2003, 2002 and 2001, we have restated our financial statements to
reflect a net loss of ($3,859,783), ($3,299,277), ($957,221), ($16,721,149) and
($5,385,763), respectively. This is a gain/(loss) of $506,766, ($337,104),
($1,991,349), $338,003, and $1,100,000, respectively from what was previously
reported.
Additionally, the Company reclassified the $2,220,590 value of those shares of
common stock, which the Company has undertaken the obligation to register for
resale pursuant to a registration rights agreement, out of stockholders' equity
and into temporary equity due to a change in estimate related to the assumption
that the maximum potential liquidated damages under such registration rights
agreement may be greater than the difference in fair values between registered
and unregistered shares.
Business Environment
General
Our Company is principally engaged in developing, manufacturing and marketing a
variety of healthy cheese and dairy related products, as well as other cheese
alternatives, and is a leading producer of dairy alternative products made with
soy. These healthy cheese and dairy related products include low or no fat, no
saturated fat, no trans-fat, low or no cholesterol and lactose-free varieties.
These products are sold throughout the United States and internationally to
customers in the retail and food service markets.
Healthy Cheese and Alternative Cheese Industry
We are the market leader within our alternative cheese category niche, but in
being so, the category increases or decreases partly as a result of our
marketing efforts. We believe that the greatest source of future growth in the
cheese alternative category will come through customers shifting to cheese
alternatives from natural cheese. Rather than focusing primarily on consumers
with a preference or medical condition predisposing them to non-dairy cheese and
comparing our products to other cheese alternative brands, we intend to focus on
educating cheese consumers on the healthy attributes of cheese alternatives
versus traditional cheese.
We use several internal and external reports to monitor sales by brand, segment,
form and channel of sale to determine which items are increasing or decreasing
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both in units sold and price per unit. By reviewing these reports along with
industry data from publications, syndicated retail consumption reports, and
conversations with major retailers, other manufacturers in the food and beverage
industry, and ingredient and service suppliers, we analyze trends in the
consumer marketplace and make decisions on which brands to promote.
In order to positively impact sales volume throughout fiscal 2006, we are
focusing on the following initiatives:
o Consumer focused advertising. We plan to increase consumer
advertising (in TV, magazine, and event sponsorship) and consumer
promotions (for example, on-pack "cents off" coupons, "cents off"
coupons delivered via newspapers, in-store product sampling, and
product benefit communication at the point of purchase/shelf) that
highlight and communicate the benefits of our products to meet the
consumer demand for low carbohydrate and high protein products.
o Increase retailer penetration and geographical distribution. By
increasing our presence on the store shelves, we seek to increase
household penetration and build market share in specific markets.
o Increase brand awareness. We seek to increase sales by generating
consumer awareness of new products or flavors through product trials
and generating more repeat purchases on our Veggie(TM) and Wholesome
Valley(R) brands through improved taste, color, aroma, texture and
packaging.
We believe that the combination of "healthy" product attributes, improved taste
and product functionality will lead to better than expected consumer experiences
with our products. Our focus is to transfer those improved consumer experiences
into enhanced market share and increased sales of our higher margin products.
Material Historical Events
During fiscal 2003, we achieved positive cash flows from operations on an annual
basis for the first time in our Company's history as a publicly-traded company.
We achieved this goal through efficiencies in production, purchase discounts,
realignment of the sales mix toward higher margin items, reduction in overall
number of items being sold and inventoried, improved customer fulfillment
levels, new terms of sale, new customer invoice promotion settlement processes,
new trade spending strategies and additional cost reductions through rigorous
management.
During fiscal 2004, we refinanced or paid in full all of our credit facilities
that were in existence at the end of fiscal 2003. This payoff and refinancing
was accomplished through a new asset based lender, renewing and increasing our
loans with our bank and through equity financings. This financial restructuring
improved our operations and financial position and reduced interest expense
nearly $1.6 million during fiscal 2004. Additionally, in fiscal 2004, we nearly
doubled the positive cash flow from operations due to the restructuring and
continued focus on producing only high margin items.
During fiscal 2005, we redeemed the remaining 30,316 Series A convertible
preferred shares that were outstanding as of October 6, 2004 for $2,279,688. The
cash for the redemption was obtained through an equity financing (see Equity
Financing under Liquidity and Capital Resources for further details).
In early fiscal 2005, we made the decision to take on a few additional
private-label manufacturing contracts at lower margins in order to utilize some
of our excess production capacity. One of the new contract customers accounted
for 12% of our sales during fiscal 2005, which attributed to 65% of the increase
in sales over fiscal 2004. In the fourth quarter of fiscal 2005, we reserved
nearly $1,550,000 in accounts receivable and $210,000 in inventory related to
this customer for which we believed collection thereon was questionable. See Del
Sunshine LLC under Recent Material Developments for further details.
Also during fiscal 2005, we experienced a 32% (or nearly $2.7 million) increase
in the prices of our primary ingredient used in production. Only a portion of
this overall increase could be passed on to our customers. Additionally, the
price increase cannot be implemented immediately.
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Recent Material Developments
The Schreiber Transactions
Asset Purchase Agreement
On June 30, 2005, we entered into an Asset Purchase Agreement for the sale of
certain of our manufacturing and production equipment to Schreiber Foods, Inc.,
a Wisconsin corporation ("Schreiber"), for $8.7 million in cash.
Other key terms of the transaction are as follows:
o Since the transaction may constitute a sale of substantially all of our
assets, the transaction will be subject to obtaining approval from our
stockholders.
o The transaction is subject to other closing conditions, including obtaining
approval from our lenders, Textron Financial Corporation and Wachovia Bank
(formerly SouthTrust Bank).
o Subject to the satisfaction of the conditions described above and other
conditions as set forth in the Asset Purchase Agreement, the anticipated closing
date is November 1, 2005.
o If our stockholders do not approve the transaction, the Asset Purchase
Agreement provides for an alternative transaction whereby we would sell to
Schreiber a smaller portion of the assets, which would not constitute
substantially all of our assets and therefore would not require stockholder
approval. The purchase price for this alternative sale would be $2,115,000. This
alternative sale is subject to obtaining approval from our lenders.
o If we are unable to obtain approval from our lenders with respect to this
alternative sale, then we will negotiate in good faith with Schreiber to make
the smaller portion of the assets available for Schreiber's use on reasonably
acceptable terms, not to exceed a term of 180 days. This alternative arrangement
is also subject to obtaining approval from our lenders.
The Outsourcing Agreement
On June 30, 2005, our Company and Schreiber entered into a Supply Agreement (the
"Outsourcing Agreement"), whereby we will purchase all of our requirements for
products from Schreiber, and Schreiber will manufacture and distribute all of
our products.
Other key terms of the transaction are as follows:
o The initial term of the Outsourcing Agreement is for five years from the
effective date of September 1, 2005, and is renewable at our option for up to
two additional five-year periods.
o After November 1, 2005 and throughout the remainder of the Outsourcing
Agreement's term, Schreiber will be the sole source of supply of our products.
4
o If we do not exercise our option to renew the Outsourcing Agreement at the end
of the initial five-year period, there is a cancellation charge of $1.5 million.
If we do not exercise our option to renew the Outsourcing Agreement at the end
of the second five-year period, there is a cancellation charge of $750,000. If
the sale of the assets to Schreiber for $8,700,000, as contemplated by the Asset
Purchase Agreement described above, is not consummated, then we will not be
required to pay any cancellation charge.
o On or before November 1, 2005, Schreiber will purchase our remaining usable
raw materials, ingredients and packaging at our cost.
o The Outsourcing Agreement provides for a contingent short-fall payment
obligation by our Company if a specified production level is not met during the
second year after the effective date. If a contingent short-fall payment is
accrued after the second year, it may be reduced at the end of the third year if
the production level during the third year exceeds the specified level of
production. If the sale of the assets to Schreiber for $8,700,000, as
contemplated by the Asset Purchase Agreement, is not consummated, then we will
not be required to pay any such short-fall payment.
o Schreiber is required to deliver products to our Company or our customers that
are in compliance with our standards and specifications and all applicable laws.
Schreiber will deliver all products within 10 business days of the effective
date of such order, which is one business day after receipt of the order.
o After the transfer of all production responsibilities to Schreiber on November
1, 2005, we may not manufacture any products governed by the Outsourcing
Agreement during the term of the Outsourcing Agreement.
o Schreiber may not manufacture our products or use any of our intellectual
property other than pursuant to the terms of the Outsourcing Agreement.
t 0 0 o We may terminate the Outsourcing Agreement if our stockholders do not
approve the transaction contemplated by the Asset Purchase Agreement, by
providing notice to Schreiber within 30 days of the date that our stockholders
vote on, but do not approve, the transactions contemplated by the Asset Purchase
Agreement. The effectiveness of such termination may not be more than 180 days
after the date of such notice.
o If we do not terminate the Outsourcing Agreement and we are unable to
consummate an alternative transaction with Schreiber (as described above) prior
to January 1, 2006, then Schreiber may terminate the Outsourcing Agreement by
providing written notice to our Company prior to February 1, 2006. The
effectiveness of such termination may not be less than 180 days after the date
of such notice.
As indicated above, there are a number of conditions that must be met prior to
the consummation of these transactions. There can be no guarantee that we will
satisfy these conditions and, therefore, there can be no guarantee that the
transactions will be consummated.
Transition Challenges
The asset sale and outsourcing arrangement with Schreiber are subject to a
number of conditions that must be met prior to the consummation of these
transactions. In addition to the closing conditions described above, we will
face additional challenges during the transition. These challenges include, but
are not limited to, the following:
o Coordinating customer shipments while the inventory and production
equipment is in transit from our facilities to the Schreiber
facilities;
o Reserving enough inventory on-hand to fill customer orders while
production equipment is in transit;
o Maintaining consistent formulas and quality in our products after
the transition;
o Having enough cash to build inventory and pay any severance
arrangements during the transition;
o Reduction of production personnel and severance arrangements related
to these personnel; and
o In the event of a sale of the assets whereby we would not receive
enough sale proceeds to pay off our debt to our lenders in full, we
would need to negotiate with our lenders so that they would agree to
release their liens on the assets. If they will not agree to do so,
we may be required to raise additional funds to pay our lenders in
full prior to their maturity dates.
5
o We may be required to negotiate with the landlords of our leased
premises the possibilities of early lease termination or subleasing
our facilities.
Each one of these events must be carefully timed and coordinated in order to
avoid problems with cash flow, litigation, loss of customer sales, and other
tangible and intangible affects. However, we believe that the long-term benefits
in the transition from a manufacturing company to a branded marketing company
will far outweigh the short-term challenges of the transition. Without the
cash-flow burden of carrying inventory and managing manufacturing overhead and
production issues, we believe that we can focus a substantially greater amount
of time and resources on the sale of our products. Additionally, we plan to
enhance our marketing efforts in order to increase our consumer base and sales
volume.
Transaction Effect
Assuming that the sale of assets to Schreiber is completed in accordance with
the Asset Purchase Agreement and we continue to operate under the Outsourcing
Agreement with Schreiber, some of the effects of the transaction will be as
follows:
o We will no longer be a manufacturing company, but will be solely a
branded marketing company.
o We have two facilities that we lease in Orlando, Florida. After all
production is moved completely to Schreiber, we may be required to
have discussions with our landlords regarding the use of our
facilities. We are still exploring our options regarding the
facilities, which include, but are not limited to: 1) negotiating an
early termination with the landlords; 2) continuing to make lease
payments until the end of the lease terms; or 3) subleasing the
facilities.
o We will be eliminating 115 employee positions and creating 5 new
employee positions. Our anticipated total number of full-time
employees after November 1, 2005 will be 31.
o Upon the sale of the assets, we will be removing in excess of 84% of
the net book value of our equipment. The extent to which the
proceeds of $8,700,000 do not exceed the net book value of the
assets, will result in a substantial loss on sale of assets.
o It is likely that the majority, if not all, of the proceeds from the
sale of the assets will be paid to our lenders. In particular, our
debt to Wachovia Bank will be required to be paid in full. Repayment
of the Wachovia Bank debt will result in a reduction of annual debt
service payments in excess of $1,800,000.
o We will no longer have the carrying value of inventory nor need to
use asset based financing to support the production of inventory. In
the recent past, we averaged 50 to 60 days of sales in inventory.
o We will be able to take advantage of Schreiber's lower production
costs rather than the high production costs of our underutilized
production facility.
o We anticipate substantial savings on delivery charges related to the
distribution of our products to our customers.
Debt Maturities
We have incurred substantial debt in connection with the financing of our
business. The aggregate principal amount outstanding under our two credit
facilities is approximately $13,201,134 as of July 12, 2005. This amount
includes a revolving line of credit from Textron Financial Corporation
("Textron") in the amount of $5,399,149 and a note payable to Wachovia Bank
("Wachovia") in the amount of $7,801,985. We anticipate that the proceeds from
the sale of our assets to Schreiber will pay the Wachovia term loan in full.
However, in the event that the sale is not completed as anticipated, we will
need to refinance the Wachovia term loan on or before its maturity date of July
31, 2006. The initial term of the Textron loan ends on May 26, 2006, but this
6
loan automatically renews for additional one-year periods unless terminated by
our Company or Textron through a written notice 90-days prior thereto or as
otherwise provided in the loan agreement. If we are unable to refinance or renew
our existing credit facilities, or if additional financing is not available on
terms acceptable to us, we will be unable to satisfy such facilities by their
maturity dates. In such an event, Textron and Wachovia could exercise their
respective rights under their loan documents, which could include, among other
things, declaring defaults under the loans and pursuing foreclosure on our
assets that are pledged as collateral for such loans. If such an event occurred
with either Textron or Wachovia, it is unlikely that we would be able to
effectively continue the operation of our business.
Del Sunshine LLC
Pursuant to an oral contract manufacturing and distribution arrangement among
our Company, Del Sunshine LLC ("Del"), a Delaware limited liability company, and
Non-Dairy Specialty Foods, LLC ("Non-Dairy"), a Nevada limited liability company
and affiliate of Del, we began manufacturing certain private label products for
Del and delivering them directly to Del's customers, including Del's major
customer, Wal*Mart, Inc. in April 2004. These private label products were
produced using label and packaging trademarks owned by Del. Sales to Del
accounted for 12% of our sales during fiscal 2005, which attributed to 65% of
the increase in sales over fiscal 2004. The business with Del resulted in an
account receivable owed to our Company of approximately $1,550,000 as of April
11, 2005. In the fourth quarter of fiscal 2005, we reserved nearly $1,550,000 in
accounts receivable and wrote off $210,000 in inventory related to Del based
upon our determination in April 2005 that collection from Del was questionable
as of March 31, 2005.
On April 11, 2005, we executed with Del a Trademark License Agreement and an
Assignment of Accounts Receivable Agreement. Pursuant to the Trademark License
Agreement, Del licensed to us the rights in certain Del trademarks, which
allowed us to sell products directly to Del's customers, including Wal*Mart,
Inc. and other food retailers, using such trademarks. In consideration for the
license, we agreed to pay to Del a 5% royalty on the net sales of such products.
In accordance with the Trademark License Agreement, we can offset any royalties
that we may owe to Del under the agreement against our account receivable and
other amounts owed to us by Del.
Pursuant to the Assignment of Accounts Receivable Agreement, Del assigned to us
any and all accounts receivable owed to Del by Wal*Mart, Inc. and other food
retailers, plus monies owed to Del under current purchase orders. It was
intended that the assignment of the accounts receivable and purchase order
amounts would offset, in part, our account receivable from Del. We also agreed
not to commence any legal proceedings against Del or Non-Dairy to collect
amounts owed to us by them, excluding defenses and counterclaims against Del or
Non-Dairy made in any legal proceeding brought by them.
The effectiveness of the Trademark License Agreement and the Assignment of
Accounts Receivable Agreement was conditioned upon Del providing us with proof,
satisfactory to us, that (a) Del would be transferring to us under the
Assignment of Accounts Receivable Agreement accounts receivable and purchase
orders in excess of Four Hundred Thousand Dollars ($400,000) and (b) that
Wal*Mart, Inc. would consent to the transactions contemplated under both
agreements. Del has not satisfied either of the foregoing conditions and we do
not believe that it is likely that Del will be able to satisfy the conditions in
the future. Although we have waived the conditions as they relate to the
Trademark License Agreement, we have not waived them with respect to the
Assignment of Accounts Receivable Agreement. Currently, we are exploring our
options in addressing the issues with Del related to the effectiveness and
continuation of the Assignment of Accounts Receivable Agreement and Del's
payment of our account receivable. Since April 11, 2005, we have accrued
approximately $40,000 in royalties under the Trademark License Agreement and
offset them against the receivable owed to us by Del. On or about June 15, 2006,
we ceased selling products under Del's trademarks. However, the Trademark
License Agreement will continue in effect until September 30, 2005 unless we
extend it for up to two additional 6-month periods or terminate it sooner.
Measurements of Financial Performance
We focus on several items in order to measure our performance. In the short term
(1 to 3 years), we are working towards obtaining positive trends in the
following areas:
o Operating cash flow
o Gross margin in dollars and % of gross sales
7
o Operating income excluding certain employment contract expenses and
non-cash compensation related to stock based transactions
o EBITDA excluding certain employment contract expenses and non-cash
compensation related to stock based transactions
o Liquidity
o Net sales trends (as it relates to consumer demand)
o Key financial ratios (such as accounts receivable, accounts payable
and inventory turnover ratios)
o Other operating ratios and statistics
In the long term (over 3 years), we are striving to generate consistent and
predictable net sales growth with increased gross margins, while incrementally
enhancing net cash flow from operations.
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and reported amounts of income and expense during the
reporting periods presented. Our significant estimates include the allowance for
doubtful accounts receivable, provision for obsolete inventory, valuation of
deferred taxes and valuation of compensation expense on options and warrants.
Although we believe that these estimates are reasonable, actual results could
differ from those estimates given a change in conditions or assumptions that
have been consistently applied.
The critical accounting policies used by management and the methodology for
estimates and assumptions are as follows:
Valuation of Accounts Receivable and Chargebacks
We record revenue upon shipment of products to our customers and reasonable
assurance of collection on the sale. We generally provide credit terms to
customers based on net 30-day terms. We perform ongoing credit evaluations of
our accounts receivable balances and based on historical experience, make
reserves for anticipated future customer credits for promotions, discounts,
spoils, and other reasons. In addition, we evaluate the accounts for potential
uncollectible amounts based on a specific identification methodology and record
a general reserve for all remaining balances.
Based on the age of the receivable, cash collection history and past dilution in
the receivables, we make an estimate of our anticipated bad debt, anticipated
future authorized deductions due to current period activity and anticipated
collections on non-authorized amounts that customers have currently deducted on
past invoices. Actual bad debt expense increased from 1% of gross sales during
fiscal 2004 to 3% of gross sales during fiscal 2005 due to the $1,550,000
reserve for Del Sunshine as described under Recent Material Developments. Based
on this analysis, we reserved $2,299,000 and $633,000 for known and anticipated
future credits and doubtful accounts at March 31, 2005 and 2004, respectively.
We believe that this estimate is reasonable, but there can be no assurance that
our estimate will not change given a change in economic conditions or business
conditions within the food industry, our individual customer base or our
Company.
Inventory
Inventories are valued at the lower of cost or market. Cost is determined using
a weighted average, first-in, first out method. We review our inventory
valuation each month and write off the inventory related to obsolete and damaged
inventory. In addition, we reduce the value of any finished good item to market
value when that value is believed to be less than the cost of the inventory.
8
Deferred Taxes
Valuation allowances are established when necessary to reduce deferred tax
assets to the amount expected to be realized. Income tax expense is the tax
payable or refundable for the period plus or minus the change d in deferred tax
assets and liabilities.
Valuation of Non-Cash Compensation
Prior to April 1, 2003, we accounted for our stock-based employee compensation
plans under the accounting provisions of Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees," (APB No. 25).
Effective April 1, 2003, we elected to record compensation expense measured at
fair value for all stock-based payment award transactions on or after April 1,
2003, in accordance with Statement of Financial Accounting Standards ("SFAS")
No. 123, "Accounting for Stock-Based Compensation." Additionally, we furnish the
pro forma disclosures required under SFAS No. 123 and apply SFAS No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure" on a
prospective basis for all stock-based awards on or after April 1, 2003. The fair
value of the stock-based award is determined on the date of grant using the
Black-Scholes pricing model and is expensed over the vesting period of the
related award. The negative impact on diluted earnings per share related to the
issuance of employee stock options during the years ended March 31, 2005, 2004
and 2003 was approximately $0.01, $0.03 and $0.55, respectively.
Several management estimates are needed to compute the fair value of the
stock-based transactions including anticipated life, risk free interest rates,
and volatility of our stock price. Currently, we estimate the life of all awards
granted assuming that the award will remain outstanding and not be exercised
until the end of its term. This results in the highest possible value of the
award. If we were to change our estimate of the anticipated life to something
less than the maximum term, then the fair value expense per share would decrease
by approximately $.01 to $.02 per month. If we were to change our estimate of
the volatility percentage, the fair value expense per share would change by
approximately $.02 per percentage change in the volatility. If we were to change
our estimate of the interest rate, the fair value expense per share would change
by approximately $.03 per percentage change in the interest rate.
SFAS No. 123 requires that we provide pro-forma information regarding net income
(loss) and earnings (loss) per share amounts as if compensation cost for our
employee and director stock-based awards had been determined in accordance with
the fair market value method prescribed in SFAS No. 123. We estimated the fair
value of each stock-based award at the grant date by using the Black-Scholes
pricing model with the following assumptions:
Year Ended March 31, 2005 March 31, 2004 March 31, 2003
--------------------- -------------------- --------------------
Dividend Yield None None None
Volatility 45% to 46% 41% to 45% 37% to 44%
Risk Free Interest Rate 3.38% to 4.12% 2.01% to 4.28% 1.71% to 5.03%
Expected Lives in Months 60 to 120 36 to 120 60 to 120
In addition to non-cash compensation expense related to new stock-based
transactions, we also record non-cash compensation expense in accordance with
the Financial Accounting Standards Board Interpretation No. 44 ("FIN 44")
related to modifications in stock-based transactions. FIN 44 only relates to
original stock-based transactions with our employees and directors that were
granted prior to April 1, 2003 and accounted for under the accounting provisions
of APB No. 25.
FIN 44 states that when an option is repriced or there are items that
effectively reduce the price of an option, it is treated as a variable option
that is marked to market each quarter. Accordingly, any increase in the market
price of our common stock over the exercise price of the option that was not
previously recorded is recorded as compensation expense at each reporting
period. If there is a decrease in the market price of our common stock compared
9
to the prior reporting period, the reduction is recorded as compensation income
to reverse all or a portion of the expense recognized in prior periods.
Compensation income is limited to the original base exercise price (the
intrinsic value) of the options. Each period we record non-cash compensation
expense or income related to our analysis on approximately 3.5 million option
shares. Assuming that the stock price exceeds the intrinsic value on all the
variable option shares, a $0.01 increase or decrease in our common stock price
results in an expense or income, respectively, of $35,000. Due to the volatility
of the market price of our common stock, we are incapable of predicting whether
this expense will increase or decrease in the future.
Recent Accounting Pronouncements
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs, an amendment
of Accounting Research Bulletin No. 43, Chapter 4." SFAS No. 151 requires that
abnormal amounts of idle facility expense, freight, handling costs and wasted
materials (spoilage) be recorded as current period charges and that the
allocation of fixed production overheads to inventory be based on the normal
capacity of the production facilities. SFAS No. 151 is effective during fiscal
years beginning after June 15, 2005, although earlier application is permitted.
We believe that the adoption of this Statement will not have a significant
impact on our financial position, results of operations or cash flows.
In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based
Payment" ("SFAS No. 123R"), which addresses the accounting for share-based
payment transactions in which a company receives employee services in exchange
for (a) equity instruments of the company or (b) liabilities that are based on
the fair value of the company's equity instruments or that may be settled by the
issuance of equity instruments. SFAS No. 123R supercedes APB Opinion No. 25 and
amends SFAS No. 95, "Statement of Cash Flows." Under SFAS No. 123R, companies
are required to record compensation expense for all share-based payment award
transactions measured at fair value as determined by an option valuation model.
Currently, we use the Black-Scholes pricing model to calculate the fair value of
its share-based transactions. This statement is effective for fiscal years
beginning after June 15, 2005. Since we currently recognize compensation expense
at fair value for share-based transactions in accordance with SFAS No. 123, we
do not anticipate adoption of this standard will have a significant impact on
our financial position, results of operations, or cash flows. However, we are
still evaluating all aspects of the revised standard.
Results Of Operations
2005-2004 2004-2003
12 Months Ending March 31, 2005 2004 2003 $ Change $ Change
- --------------------------------------------------------------------------------------------------------------------------
Net Sales 44,510,487 36,176,961 40,008,769 8,333,526 (3,831,808)
Cost of Goods Sold 34,736,594 24,864,289 28,080,188 9,872,305 (3,215,899)
-----------------------------------------------------------------------------------
Gross Margin 9,773,893 11,312,672 11,928,581 (1,538,779) (615,909)
===================================================================================
2005-2004 2004-2003 2005 2004 2003
12 Months Ending March 31, % Change % Change % of Sales % of Sales % of Sales
- ---------------------------------------------------------------------------------------------------
Net Sales 23.0% -9.6% 100.0% 100.0% 100.0%
Cost of Goods Sold 39.7% -11.5% 78.0% 68.7% 70.2%
------------------------------------------------------------
Gross Margin -13.6% -5.2% 22.0% 31.3% 29.8%
============================================================
Net Sales
The following chart sets forth the percentage of net sales derived from our
product brands during the fiscal years ended March 31, 2005, 2004 and 2003:
10
Percentage of Net Sales
Fiscal Year Ended March 31,
Brand 2005 2004 2003
- -------------------------------------------------------------------------------
Veggie(TM) 47.5% 59.6% 61.5%
Private Label, Imitation & Other 36.2% 22.5% 20.9%
Rice(TM) 6.6% 8.1% 7.2%
Veggy (TM) 4.7% 6.2% 6.7%
Wholesome Valley(R) Organic 3.2% 1.1% 1.1%
Vegan(TM) 1.8% 2.5% 2.6%
Net sales for fiscal 2005 increased by 23% over net sales for fiscal 2004
primarily due to increased sales in private label and Wholesome Valley(R)
Organic products. During fiscal 2005, we had one new private label customer that
accounted for approximately 12% of net sales. This customer accounted for nearly
65% of the increase in fiscal 2005 sales. However, we are no longer selling to
this customer due to a shift in sales between customers (See Del Sunshine LLC
under Recent Material Developments for further details). Private label and
imitation sales consist primarily of products that generate high sales volumes
but lower gross margins.
Certain key initiatives and tactical actions implemented by our Company during
fiscal 2005 have helped counter some of the market factors that negatively
impacted the business in fiscal 2004 as described below. Such key initiatives
and tactical actions included, but were not limited to, the following:
o Created and communicated a new more meaningful brand position for
our flagship Veggie(TM) Brand and added new products. The recent
focus is to highlight the superior nutritional factors such as
cholesterol and trans-fat free, as well as targeting a broader
universe of consumers. We are attempting to attract incremental
users by convincing prior users and light users of conventional
cheese that the Veggie(TM) brand items can satisfy their needs with
great tasting nutrition. This is a departure from our past product
positioning where physiological and medical requirements were a key
driver in why consumers should buy the "healthy alternatives."
o Improved product quality in terms of taste, color, aroma, and
texture of our Veggie(TM) and Rice slices product line.
o Secured certain contract manufacturing opportunities, which we
previously turned away or did not pursue in prior years due to cash
constraints. This enabled us to better utilize some of our excess
production capacity. We increased our contract manufacturing
activities by nearly 331%, which resulted in a 19% increase in sales
during fiscal 2005 compared to fiscal 2004. Our contract
manufacturing activities relate primarily to products that generate
lower margins. As we added additional contract manufacturing
business to our product mix, our gross margin percentage has
decreased.
o Shifted the emphasis and resource allocation of our marketing
strategy from vendor promotions (retailer publications/flyers
featuring price reductions and on-shelf temporary price reductions)
to increase sales through consumer advertising (in TV, magazine, and
event sponsorship) and consumer promotions (for example, on-pack
"cents off" coupons, "cents off" coupons delivered via newspapers,
in-store product sampling, product benefit communication at the
point of purchase/shelf). We saw an increase in sales through our
consumer advertising and promotions, which highlighted and
communicated the benefits of our products to meet the consumer
demand for low carbohydrate and high protein products. This was a
significant strategy shift from past fiscal years and is based upon
retail consumption data purchased from IRI (Information Resources
Incorporated) that indicates increased sales potential from consumer
focused marketing efforts versus similar dollars being spent toward
price related vendor advertising and promotions. We experienced an
average 17% increase in sales in those markets where there were
consumer- advertising promotions.
11
During fiscal 2004, sales declined from fiscal 2003 levels due to several market
factors that had a negative affect on our business. First, consumers' eating
habits changed with the publicly recognized trend toward low-carbohydrate meal
preparation during all meals (breakfast, lunch, snack, and dinner). This led to
decreased consumption of high-carbohydrate items such as bread and those
complimentary items such as our cheese slices. Second, the number of consumers
shopping in the retail grocery and natural food stores was down versus fiscal
2003 due to the further national emergence and presence of Wal*Mart superstores
and other similar superstores that include extensive grocery operations. Third,
the Veggie(TM) brand sales were down due to the Southern California retail
grocery labor strike that occurred during fiscal 2004, but has since been
resolved.
We anticipate that our direct sales to Wal*Mart will increase from 2% of sales
in fiscal 2005 to a range between 10% and 15% of sales in fiscal 2006. This
increase is due to a shift in sales between customers rather than an increase in
product sales. Prior to fiscal 2006, we produced certain private label products
for Del Sunshine who then sold the product to Wal*Mart. Del Sunshine accounted
for 12% of sales in fiscal 2005. In fiscal 2006, we began selling these products
directly to Wal*Mart instead of through Del Sunshine (See Del Sunshine LLC under
Recent Material Developments for further details).
Based on our current projections, we anticipate continued double-digit growth in
sales through improved distribution and penetration of our core brands into the
mainstream consumer markets.
Cost of Goods Sold
Cost of goods sold increased from 70% and 69% of net sales in fiscal 2003 and
fiscal 2004 to 78% of net sales in fiscal 2005. This nine percentage point
increase in cost of goods sold was primarily due to rising raw material costs.
Of this nine percentage point increase in cost of goods sold in relation to net
sales, six percentage points were a direct result of higher key raw material
costs (including primarily casein, and to a lesser extent packaging and film
supplies) and the balance of the increase was due to the addition of certain
private label items that were sold at a lower margin resulting in a higher cost
in relation to net sales.
The principal raw material used by our Company is casein, which accounted for
approximately 65% of our raw material purchases in fiscal 2005. As casein is a
significant component of our product formulation, we are vulnerable to
short-term and long-term changes in casein pricing, which at times has been
volatile.
We experienced a 32% increase in average casein prices in fiscal 2005 compared
to average casein prices in fiscal 2004, which resulted in an increase in cost
of goods of approximately $2.7 million. In fiscal 2006, we are continuing to
experience high casein prices, the averages of which are approximately 31%
higher than the average prices for fiscal 2005. Based on current pricing trends
with our suppliers, we believe that casein prices will remain at historical
highs at least through September 30, 2005. Every 10% increase in casein prices
over the fiscal 2005 average will result in an annual cost increase of
approximately $1,100,000 assuming the same amount of pounds purchased as in
fiscal 2005. Casein prices are still high due to greater worldwide demand, as
well as lower foreign government subsidies and the decline in the US Dollar
value versus the Euro. In order to offset the high casein costs, we are
incorporating alternative formula modifications that maintain the integrity of
our product benefits as well as reducing costs in several other raw materials
and operational labor categories. We have also passed along some of the
increased costs to our customers during fiscal 2005 and will implement
additional price increases as appropriate. However, these price increases often
cannot be passed on to the customers at the same time or in proportion to the
increase in our costs and therefore, we experience lower margins on the sales of
our products.
We monitor our costs and production efficiencies through various ratios
including pounds produced per hour and cost per pound sold and use these ratios
to make decisions in purchasing, production and setting sales prices.
12
In fiscal 2006, we expect our gross profit percentage to improve over the fiscal
2005 levels despite the continued increases in raw material costs because we
have implemented price increases on some of our products, additional sales
growth is expected in our higher margin products and we have eliminated certain
low margin private label manufacturing accounts.
EBITDA, (a non-GAAP measure) as restated:
2005-2004 2004-2003
12 Months Ending March 31, 2005 2004 2003 $ Change $ Change
- -------------------------- ------------ ------------ ------------ ------------ ------------
Gross Margin 9,773,893 11,312,672 11,928,581 (1,538,779) (615,909)
------------ ------------ ------------ ------------ ------------
Operating Expenses:
Selling 5,148,426 4,981,996 4,958,272 166,430 23,724
Delivery 2,307,166 1,877,682 2,008,638 429,484 (130,956)
Employment contract expense 444,883 1,830,329 -- (1,385,446) 1,830,329
General and administrative, including
$409,746, $651,273 and $153,238 non-cash
stock compensation 4,380,436 3,954,303 3,724,127 426,133 230,176
(Gain)Loss on disposal of assets (4,500) 8,519 47,649 (13,019) (39,130)
Research and development 309,054 260,410 232,552 48,644 27,858
------------ ------------ ------------ ------------ ------------
Total operating expenses 12,585,465 12,913,239 10,971,238 (327,774) 1,942,001
------------ ------------ ------------ ------------ ------------
Income (Loss) from Operations (2,811,572) (1,600,567) 957,343 (1,211,005) (2,557,910)
Other Income (Expense), Net
Interest expense, net (1,129,977) (1,361,606) (2,923,215) 231,629 1,561,609
Derivative expense 62,829 (94,269) (105,704) 157,098 11,435
Gain (Loss) on FV of warrants 18,937 (242,835) 1,174,355 261,772 (1,417,190)
Other -- -- (60,000) -- 60,000
------------ ------------ ------------ ------------ ------------
Total (1,048,211) (1,698,710) (1,914,564) 650,499 215,854
------------ ------------ ------------ ------------ ------------
NET INCOME (LOSS) (3,859,783) (3,299,277) (957,221) (560,506) (2,342,056)
Interest expense, net 1,129,977 1,361,606 2,923,215 (231,629) (1,561,609)
Depreciation 2,172,566 2,205,053 2,273,349 (32,487) (68,296)
------------ ------------ ------------ ------------ ------------
EBITDA, (a non-GAAP measure) (557,240) 267,382 4,239,343 (824,622) (3,971,961)
============ ============ ============ ============ ============
EBITDA, (a non-GAAP measure) as restated:
2005-2004 2004-2003 2005 2004 2003
12 Months Ending March 31, % Change % Change % of Sales % of Sales % of Sales
- ---------------------------------------- ---------- ---------- ---------- ---------- ----------
Gross Margin -13.6% -5.2% 22.0% 31.3% 29.8%
---------- ---------- ---------- ---------- ----------
Operating Expenses:
Selling 3.3% 0.5% 11.6% 13.8% 12.4%
Delivery 22.9% -6.5% 5.2% 5.2% 5.0%
Employment contract expense -75.7% 0.0% 1.0% 5.1% 0.0%
General and administrative, including
$409,746, $651,273 and $153,238 non-cash
stock compensation 10.8% 6.2% 9.8% 10.9% 9.3%
(Gain)Loss on disposal of assets -152.8% -82.1% 0.0% 0.0% 0.1%
Research and development 18.7% 12.0% 0.7% 0.7% 0.6%
---------- ---------- ---------- ---------- ----------
Total operating expenses -2.5% 17.7% 28.3% 35.7% 27.4%
---------- ---------- ---------- ---------- ----------
Income (Loss) from Operations 75.7% -267.2% -6.3% -4.4% 2.4%
Other Income (Expense), Net
Interest expense, net -17.0% -53.4% -2.5% -3.8% -7.3%
Derivative expense -166.6% -10.8% 0.1% -0.3% -0.3%
Gain (Loss) on FV of warrants -107.8% -120.7% 0.0% -0.7% 2.9%
Other 0.0% -100.0% 0.0% 0.0% -0.1%
---------- ---------- ---------- ---------- ----------
Total -38.3% -11.3% -2.4% -4.7% -4.8%
---------- ---------- ---------- ---------- ----------
NET INCOME (LOSS) 17.0% 244.7% -8.7% -9.1% -2.4%
Interest expense, net -17.0% -53.4% 2.5% 3.8% 7.3%
Depreciation -1.5% -3.0% 4.9% 6.1% 5.7%
---------- ---------- ---------- ---------- ----------
EBITDA, (a non-GAAP measure) -308.4% -93.7% -1.3% 0.7% 10.6%
========== ========== ========== ========== ==========
13
(1) We utilize certain GAAP measures such as Operating Income and Net Income
and certain non-GAAP measures such as EBITDA andexclude non-cash
compensation related to stock based transactions included in general and
administrative expenses and certain employment contract expenses in order
to compute our key financial measures that are reviewed by management,
lenders and investors in order to effectively review our current on-going
operations and analyze trends related in our financial condition and
results of operations. Additionally, these measures are key factors upon
which we prepare our budgets and forecasts, calculate bonuses, and
evaluate loan covenants. These adjusted measures are not in accordance
with, or an alternative for, generally accepted accounting principles and
may be different from non-GAAP measures reported by other companies.
(2) In our calculation of key financial measures, we exclude the non-cash
compensation related to stock-based transactions because we believe that
this item does not accurately reflect our current on-going operations.
Many times non-cash compensation is calculated based on fluctuations in
our stock price, which can skew the financial results dramatically up and
down. The price of our common shares as traded on AMEX is outside our
control and typically does not reflect our current operations.
Additionally, this item is excluded by our lenders when calculating
compliance with loan covenants.
(3) In our calculation of key financial measures, we exclude the employment
contract expenses related to Angelo S. Morini and Christopher J. New
because we believe that these items do not reflect expenses related to our
current on-going operations. Additionally, these items are excluded by our
lenders when calculating compliance with loan covenants.
(4) Operating Income (Loss) has declined in the past two years due to less
dollars contributed by gross margin as discussed above under sales and
cost of goods sold and due to a large bad debt expense in fiscal 2005 as
discussed below under general and administrative. We anticipate that
operating income, as adjusted will increase in the future so that current
operations support our business objectives and growth plans.
14
Selling
We have experienced higher selling expenses primarily due to the increase in
marketing efforts. During fiscal 2005, we increased our marketing costs by
approximately $190,000 over fiscal 2004, but shifted our marketing efforts from
trade promotions to consumer advertising. The large consumer advertising costs
were primarily related to a strategic television campaign, which was undertaken
to promote our Veggie(TM) products during the second and third quarter of fiscal
2005. During fiscal 2004, advertising costs also increased by approximately
$414,000, because these costs were limited in fiscal 2003 due to the prior
financial constraints of our Company. During fiscal 2004, we noted a decrease of
approximately $298,000 in brokerage costs and $117,000 in promotional costs,
which corresponded to the decrease in sales in fiscal 2004 from fiscal 2003. We
expect selling expenses for fiscal 2006 to be higher in dollars due to increased
sales, but stable or slightly lower as a percentage of net sales as the fixed
expenses of the selling category do not increase in direct proportion to sales.
We sell our products through our internal sales force and an independent broker
network.
Delivery
Delivery expense is primarily a function of sales, and has remained consistent
at approximately 5% of net sales. We anticipate that delivery costs will
increase in the future periods due to higher fuel prices and surcharges charged
by the transportation companies, but as sales continue to increase, we
anticipate that the delivery expense will remain between 5% and 6% of net sales.
After the anticipated transfer of all production and distribution of our
products to Schreiber by November 2005, we expect our delivery expenses to
decrease significantly as a result of an agreed upon delivery price per pound of
product with Schreiber that is lower than our current delivery cost per pound of
product.
Employment Contract Expense
In connection with a Separation and Settlement Agreement dated July 8, 2004
between our Company and Christopher J. New (as further described under Item 11),
we accrued and expensed $444,883 as the two-year cost of this agreement under
employment contract expense in the second quarter of fiscal 2005. As of March
31, 2005, the remaining balance accrued was $287,253 ($220,218 in short-term
liabilities and $67,035 in long-term liabilities).
In October 2003, our Company and Angelo S. Morini entered into a Second Amended
and Restated Employment Agreement (as further described under Item 11). In
connection with this agreement, we accrued and expensed the five-year cost of
this agreement as employment contract expense in the third quarter of fiscal
2004. The total estimated costs expensed under this agreement are $1,830,329 of
which $1,292,575 remained unpaid but accrued ($366,305 as short-term liabilities
and $926,270 as long-term liabilities) as of March 31, 2005. The long-term
portion will be paid out in nearly equal monthly installments ending in October
2008.
General and administrative
During fiscal 2005, we noted an increase of approximately $426,000 in expenses
compared to fiscal 2004. This increase is the net effect of approximately a $1.6
15
million increase in bad debt expense (see Del Sunshine LLC under Recent Material
Developments for further details) and decreases in non-cash compensation income
related to stock-based transactions, as detailed below, personnel costs and
professional fees for legal and audit services. Personnel costs declined nearly
$250,000 due to the change in the employment status of Angelo S. Morini per the
amended employment agreement in October 2003. Additionally, legal fees decreased
in fiscal 2005 due to the settlement of the Schreiber lawsuit in May 2004 and
the completion of the financial restructuring in early fiscal 2004.
During fiscal 2004, there was an increase of approximately $132,000 in legal
fees due to the Schreiber lawsuit, refinancing activities and additional
reporting requirements during fiscal 2004. Additionally, we had an increase of
approximately $183,000 in director and related insurance expenses due to the
expanded Board of Directors and their activities in fiscal 2004. These increases
were offset by decreases of approximately $115,000 in consulting fees, $106,000
in personnel costs, $67,000 in bad debt write-offs, $50,000 in bank charges,
$44,000 in audit fees, and general allocation costs such as rent, depreciation
and telephone charges of approximately $200,000.
General and administrative expenses averaged 10% of net sales for the past three
years. Excluding the effects of non-cash compensation related to stock-based
transactions, we anticipate that in fiscal 2006 general and administrative
expenses will be lower both in dollars and as a percentage of sales due to the
non-recurrence of large bad debt write-offs and to increasing sales levels
without the need for an incremental increase in administrative costs.
The change in non-cash compensation related to stock-based transactions that are
included in general and administrative expenses are detailed as follows:
2005-2004
12 Months Ending March 31, 2005 2004 2003 $ Change
- --------------------------------------------------------------------------------------------------------
Stock-based award issuances 194,097 643,272 153,238 (449,175)
Option modifications under APB 25 awards 215,649 8,001 -- 207,648
----------------------------------------------------------
Non-cash compensation related to stock based
transactions 409,746 651,273 153,238 (241,527)
==========================================================
2004-2003 2005 2004 2003
12 Months Ending March 31, $ Change % of Sales % of Sales % of Sales
- ----------------------------------------------------------------------------------------------------
Stock-based award issuances 490,034 0.4% 1.8% 0.4%
Option modifications under APB 25 awards 8,001 0.5% 0.0% 0.0%
------------------------------------------------------
Non-cash compensation related to stock based
transactions 498,035 0.9% 1.8% 0.4%
======================================================
16
Effective April 1, 2003, we elected to record compensation expense measured at
fair value for all stock-based award transactions on or after April 1, 2003
under the provisions of SFAS 123. Prior to April 1, 2003, we only recorded the
fair value of stock-based awards granted to non-employees or non-directors under
the provisions of SFAS 123. The fair value of the stock-based award is
determined on the date of grant using the Black-Scholes pricing model and is
expensed over the vesting period of the related award. Prior to April 1, 2003,
we accounted for our stock-based employee and director compensation plans under
the accounting provisions of APB No. 25 as interpreted by FASB Interpretation
No. 44 ("FIN 44"). Any modifications of fixed stock options or awards granted to
employees or directors originally accounted for under APB No. 25 may result in
additional compensation expense under the provisions of FIN 44. FIN 44 covers
specific events that occurred after December 15, 1998 and was effective as of
July 1, 2000.
In accordance with the above accounting standards, we calculate and record
non-cash compensation related to our securities in the general and
administrative line item in our Statements of Operations based on two primary
items:
a. Stock-Based Award Issuances
During the fiscal years ended March 31, 2005, 2004, and 2003, we recorded
$194,097, $643,272 and $153,238, respectively, as non-cash compensation
expense related to stock-based transactions that were issued to and vested
by employees, officers, directors and consultants. This expense was
computed in accordance with SFAS No. 123 only for stock-based transactions
awarded to consultants prior to April 1, 2003 and for all stock-based
transactions awarded on or after April 1, 2003.
b. Option Modifications for Awards granted to Employees or Directors under
APB No. 25 On October 11, 2002, we repriced all outstanding options
granted to employees prior to October 11, 2002 (4,284,108 shares at former
prices ranging from $2.84 to $10.28) to the market price of $2.05 per
share. Prior to the repricing modification, the options were accounted for
as a fixed award under APB No. 25. In accordance with FIN 44, the
repricing of the employee stock options requires additional compensation
expense to be recognized and adjusted in subsequent periods for changes in
the price of our common stock that are in excess of the $2.05 stock price
on the date of modification (additional intrinsic value). If there is a
decrease in the market price of our common stock compared to the prior
reporting period, the reduction is recorded as compensation income to
reverse all or a portion of the expense recognized in prior periods.
Compensation income is limited to the original base exercise price (the
intrinsic value) of the options. This variable accounting treatment for
these modified stock options began with the quarter ended December 31,
2002 and such variable accounting treatment will continue until the
related options have been cancelled, expired or exercised. There are
3,499,841 outstanding modified stock options remaining as of March 31,
2005.
17
We recorded non-cash compensation expense of $193,649 and $8,001 related
to these modified options for the years ended March 31, 2005 and March 31,
2004. There was no non-cash compensation expense recorded for the year
ended March 31, 2003, as the market price of our stock at the end of the
period was less than the $2.05 intrinsic value of the modified options.
In connection with a Separation and Settlement Agreement dated July 8,
2004 between our Company and Mr. New (as further described under Item 11),
we agreed that Mr. New's stock option rights under that certain
Non-Qualified Stock Option Agreement dated December 5, 2002 (for 25,000
shares at an exercise price of $1.67 per share) and that certain
Non-Qualified Stock Option Agreement dated July 16, 2001 (for 100,000
shares at an exercise price of $2.05 per share) would continue in full
force and effect as if he were still employed by our Company. The stock
price on the date of the modification was $2.15. In accordance with FIN 44
for modifications that renew or increase the life on existing options, we
recorded $22,000 as additional non-cash compensation expense in the fiscal
year ended March 31, 2005.
Research and development
Research and development expenses increased each year primarily as a result of
an increase in research and development personnel costs. We anticipate that
there may be a significant increase in research and development expenses in
fiscal 2006 due to an increase in the number of personnel.
Other Income and Expense
Interest expense decreased $231,629 or 17% in fiscal 2005. The decrease in
fiscal 2005 compared to fiscal 2004 resulted primarily due to the elimination of
interest on a mezzanine loan from FINOVA Mezzanine Capital that was recorded in
the first two months of fiscal 2004 and lower lender fees charged on our debt
facilities in fiscal 2005. We are incurring and anticipate increased interest
expense during fiscal 2006 compared to fiscal 2005 due to increases in the
floating interest used by our lenders which are based on prevailing market
interest rates.
Interest expense decreased $1,561,609 or 53% in fiscal 2004. During fiscal 2003,
we amortized to interest expense $614,230 related to debt discounts on its prior
mezzanine loan from FINOVA Mezzanine Capital, Inc. This non-cash amortization
ended in September 2002 and did not occur during fiscal 2004. We also noted a
decrease in loan costs of approximately $413,722 in fiscal 2004 due to the lower
18
fees charged under the Textron credit facility compared to the FINOVA credit
facility. The remaining decrease in interest expense was the result of lower
debt balances, and lower interest rates on the outstanding debt balances partly
due to a reduction in the average prime rate during fiscal 2004 compared to
fiscal 2003. See "Debt Financing" below for further detail on our outstanding
debts and interest rates thereon.
Derivative expense represents the adjustment for the change in the fair value of
the embedded derivative in our Series A convertible preferred stock, which met
the criteria for bifurcation and separate accounting under SFAS No. 133. The
fair value of the embedded derivative was computed using the Black-Scholes
pricing model based on several factors including the underlying value of our
common stock at the end of each period. This benefit/(expense) was $62,829,
($94,269) and ($105,704) in fiscal 2005, 2004 and 2003, respectively.
Since the conversion of our Series A convertible preferred stock could have
resulted in a conversion into an indeterminable numbers of commons shares, we
determined that under the guidance in paragraph 24 of EITF 00-19, we were
prohibited from concluding that we had sufficient authorized and unissued shares
to net-share settle any warrants or options issued to non-employees. Therefore,
we reclassified the fair value of all warrants and options issued to
non-employees that were outstanding during the period that the Series A
convertible preferred stock was outstanding from April 2001 to October 2004 as a
liability. Additionally, in accordance with EITF 00-19, if a contract requires
settlement in registered shares, then it may be required to record the value of
the securities as a liability and/or temporary equity. Any changes in the fair
value of the securities based on the Black-Scholes pricing model after the
initial valuation are marked to market during reporting periods. During the
fiscal years ended March 31, 2005, 2004, and 2003, we recorded a gain/(loss) on
the fair value of warrants of $443,937, ($242,835) and $1,174,355, respectively,
related to the change in the fair values of the warrants.
Assuming the consummation of the Asset Purchase Agreement as discussed under
Recent Material Developments, we expect that our debt to Wachovia Bank will be
paid in full and there will be a significant reduction in interest expense due
to lower debt balances in fiscal 2006 as compared to fiscal 2005.
Liquidy And Capital Resources
Cash Flows from Operating Activities and Investing Activities
2005-2004 2004-2003
12 Months Ending March 31, 2005 2004 2003 $ Change $ Change
- --------------------------------- -----------------------------------------------------------------------------
Cash from operating activities 779,746 2,236,350 1,175,875 (1,456,604) 1,060,475
Cash used in investing activities (65,002) (231,778) (100,026) 166,776 (131,752)
Cash used in financing activities (602,641) (1,556,491) (1,074,419) 953,850 (482,072)
-----------------------------------------------------------------------------
Net increase in cash 112,103 448,081 1,430 (335,978) 446,651
=============================================================================
During the past three fiscal years, we have achieved positive cash flow from
operations. This was achieved mainly through higher sales volumes in fiscal 2005
and improved margins on sales in fiscal 2003 and fiscal 2004 compared to fiscal
2002. In fiscal 2005, we noted a 65% decrease in cash from operating activities
compared to fiscal 2004. This was primarily attributable to an approximate 17%
increase in net accounts receivable associated with our increase in sales. This
increase in cash used was offset by further reductions in inventory levels and
increases in accounts payable. We are continually reviewing our collection
practices, payment terms to vendors and inventory levels in order to maximize
cash flow from operations.
Cash used in investing activities primarily relates to our purchase of office
and manufacturing equipment in each fiscal year. Additionally, we noted an
increase in cash from investing activities due to decreases in our deposits and
other assets in fiscal 2005. We do not anticipate any large capital expenditures
during fiscal 2006.
We expect to maintain positive cash flows from ongoing operations during fiscal
2006. However, we anticipate a decrease in cash flow as we begin to outsource
our production late in the second quarter of fiscal 2006. We will need
19
additional cash to build up finished good inventory levels to maintain standard
orders to customers and to pay one-time costs associated with the transition
such as severance arrangements, and contract and lease cancellation fees. Based
on current projections, we expect that much of the additional cash requirements,
if not all, will come from the sale of our usable raw materials and packaging
inventory and production equipment to Schreiber in the third quarter of fiscal
2006.
Cash Flows From Financing Activities
12 Months Ending March 31, 2005 2004 2003
- ---------------------------------------------------------------------------------------------
Net borrowings (payments) on line of credit and bank 853,202 (1,485,893) (625,561)
overdrafts
Issuances of debt -- 2,000,000 500,000
Payments of debt and capital leases (1,417,103) (6,226,625) (2,434,741)
Issuances of stock 2,240,948 4,156,027 1,485,883
Redemption of preferred stock (2,279,688) -- --
---------- ---------- ----------
Cash used in financing activities (602,641) (1,556,491) (1,074,419)
========== ========== ==========
During fiscal 2005, we increased our line of credit with Textron Financial
Corporation to primarily fund our business growth. Additionally, we issued
2,000,000 shares of our common stock for aggregate gross proceeds of $2,300,000.
These proceeds were then used to redeem the remaining 30,316 Series A
convertible preferred shares held by the holders of such Series A convertible
preferred shares for a total price of $2,279,688. See "Equity Financing" below
for further details.
During fiscal 2004, we refinanced all of our credit facilities that were in
existence at the end of fiscal 2003. This refinancing was accomplished through
the payment of $4,000,000 to FINOVA Mezzanine by renewing and increasing our
loan with Wachovia Bank by $2,000,000 and through $3,850,000 in private
placement equity financings. Additionally, we replaced FINOVA Capital
Corporation with Textron Financial Corporation as our new asset based lender.
This financial restructuring improved our operations and financial position and
reduced interest expense nearly $1.6 million during fiscal 2004. The remaining
proceeds from the refinancing were used for operations and to further reduce our
accounts payable and debt balances.
During fiscal 2003, we received loan proceeds from Excalibur Limited Partnership
in the amount of $500,000 in cash. The proceeds of which were used to pay down a
portion of our outstanding debt under our term loan from Wachovia Bank. In
addition, we raised $1,500,000 through the issuance of common stock to
Stonestreet Limited Partnership. These proceeds were used to pay off our term
loan from Excalibur Limited Partnership and for working capital purposes. We
used our cash from operating activities to reduce the balance of our outstanding
debt under our line of credit from FINOVA Capital and to pay down our term loan
with Wachovia Bank.
Debt Financing
On May 27, 2003, we obtained from Textron Financial Corporation ("Textron") a
revolving credit facility (the "Textron Loan") with a maximum principal amount
of $7,500,000 pursuant to the terms and conditions of a Loan and Security
Agreement dated May 27, 2003 (the "Textron Loan Agreement"). The Textron Loan is
secured by our inventory, accounts receivable and all other assets. Generally,
subject to the maximum principal amount, which can be borrowed under the Textron
Loan and certain reserves that must be maintained during the term of the Textron
Loan, the amount available under the Textron Loan for borrowing by our Company
from time to time is equal to the sum of (i) 85% of the net amount of its
eligible accounts receivable plus (ii) 60% of our eligible inventory not to
20
exceed $3,500,000. Advances under the Textron Loan bear interest at a variable
rate, adjusted on the first (1st) day of each month, equal to the prime rate
plus 1.75% per annum (7.5% at March 31, 2005) calculated on the average cash
borrowings for the preceding month. The initial term of the Textron Loan ends on
May 26, 2006, but this loan automatically renews for additional one-year periods
unless terminated by our Company or Textron through a written notice 90-days
prior thereto or as otherwise provided in the loan agreement. As of March 31,
2005, the outstanding principal balance on the Textron Loan was $5,458,479.
The Textron Loan Agreement contains certain financial and operating covenants.
As of March 31, 2005, we failed to comply with certain requirements and
financial covenants in the Textron Loan Agreement. We fell below the fixed
charge ratio and the adjusted tangible net worth financial covenant ratios
primarily because of a large bad debt reserve and inventory write off related to
one of our customers in March 2005, as discussed under Del Sunshine LLC in
Recent Material Developments. On April 29, 2005, Textron also determined that
the credit risk increased substantially enough to downgrade our accounts
receivable with respect to such customer and deemed such accounts receivable as
ineligible for purposes of calculating our borrowing base under the Textron
Loan. This action by Textron placed our balance owed into an over-advance
position with respect to the Textron Loan. As a result, effective as of April
29, 2005, our interest rate on the Textron Loan was increased from Prime plus
1.75% to Prime plus 4.75%.
On June 3, 2005, we executed a fourth amendment to the Textron Loan that
provided a waiver of all the existing defaults for the fiscal quarters ended
December 31, 2004 and March 31, 2005 and amended the fixed charge coverage ratio
and the adjusted tangible net worth requirements for periods after March 31,
2005. Additionally, the fourth amendment allowed the Textron Loan to be in an
over-advance position not to exceed $750,000 until July 31, 2005. In exchange
for the waiver and amendments, our interest rate would remain at Prime plus
4.75% on the Textron Loan and we paid a fee of $50,000 in four weekly
installments of $12,500.
On June 16, 2005, we used a portion of the proceeds from the warrant exercises
by BH Capital Investments L.P., Excalibur Limited Partnership and Mr. Frederick
A. DeLuca (as described under Equity Financing below) to satisfy the $750,000
over-advance with Textron. In connection with the satisfaction of the
over-advance, we agreed to immediately terminate Textron's obligation to permit
any over-advances under the Textron Loan, which obligation was to expire on July
31, 2005. With the termination of the over-advance facility, the interest rate
on the Textron Loan returned to its prior level of Prime plus 1.75% (7.75% as of
June 16, 2005). In July 2005, Textron will review our financial forecasts that
reflect the outsourcing arrangement (as described under the Schreiber
Transactions in Recent Material Developments above) and will evaluate whether
any further amendments to our loan agreement will be required. Until such time,
they have reduced our borrowing availability under our line by $200,000.
However, there is no guarantee if or when they will lift this restriction on our
borrowing availability. Additionally, we may experience future credit tightening
by Textron by virtue of reserves they may require, receivables they may deem
ineligible or other rights they have under the Textron Loan Agreement.
Simultaneous with the closing of the Textron Loan in May 2003, Wachovia Bank,
N.A. successor by merger to SouthTrust Bank ("Wachovia"), extended our Company a
new term loan in the principal amount of $2,000,000. This loan was consolidated
with our March 2000 term loan with Wachovia, which had a then outstanding
principal balance of $8,131,985 for a total term loan amount of $10,131,985.
This term loan is secured by all of our equipment and certain related assets.
The balance outstanding on the term loan as of March 31, 2005 is $8,241,985.
On June 30, 2005, we entered into a Loan Modification Agreement with Wachovia
regarding our term loan. The agreement modified the following terms of the loan:
1) the loan will mature and be payable in full on July 31, 2006 instead of June
1, 2009; 2) the principal payments will remain at $110,000 per month with
accrued interest at Wachovia's Base Rate plus 1% instead of increasing to
$166,250 on July 1, 2005 as provided by the terms of the promissory note
evidencing the loan; and 3) all covenants related to our tangible net worth,
total liabilities to tangible net worth, and maximum funded debt to EBITDA
21
ratios are waived and our compliance with such covenants is not required through
the maturity of the loan on July 31, 2006. In connection with the agreement, we
agreed to pay $60,000, of which $30,000 was paid upon execution of the agreement
and $30,000 is due on August 1, 2005. As required by the terms of the agreement,
if we sell our equipment as discussed under the Schreiber Transactions in Recent
Material Developments above, the loan will be due and payable in full at the
time of sale.
The Wachovia term loan contains certain financial and operating covenants. We
fell below the requirement for the tangible net worth covenant for the quarter
ended March 31, 2005 and the requirement for the maximum funded debt to EBITDA
ratio for the year ended March 31, 2005. In accordance with the Loan
Modification Agreement referenced above, Wachovia agreed to waive compliance on
the covenants for the periods ended March 31, 2005 and through the maturity of
the loan on July 31, 2006.
Equity Financing
On April 6, 2001, in accordance with an exemption from registration under
Regulation D promulgated under the Securities Act of 1933, as amended, we
received from BH Capital Investments L.P. and Excalibur Limited Partnership ("BH
Capital and Excalibur") proceeds of approximately $3,082,000 less costs of
$181,041 for the issuance of 72,646 shares of our Series A convertible preferred
stock with a face value of $3,500,000 and warrants to purchase up to 500,000
shares of our common stock. The holders of our Series A convertible preferred
stock had the right to receive on any outstanding Series A convertible preferred
stock a ten percent (10%) stock dividend on the shares, payable one year after
the issuance of such preferred stock, and an eight percent (8%) stock dividend
for the subsequent three years thereafter, payable in either cash or shares of
preferred stock. The Series A convertible preferred stock was subject to certain
designations, preferences and rights set forth in our Restated Certificate of
Incorporation, including the right to convert such shares into shares of common
stock at any time, at a current conversion rate (subject to appropriate
adjustment for stock splits, stock dividends, recapitalizations and other
events) of the number of shares of common stock for each share of Series A
convertible preferred stock equal to the quotient of $48.18, plus all accrued
dividends that are then unpaid for each share of the Series A convertible
preferred stock divided by the lesser of (x) $1.75 or (y) 95% of the average of
the two lowest closing bid prices of our common stock on the American Stock
Exchange out of the fifteen trading days immediately prior to conversion.
Prior to October 6, 2004, BH Capital and Excalibur had converted 32,052 shares
of the Series A convertible preferred stock plus accrued dividends, into
1,206,240 shares of common stock. The conversion prices ranged from $1.28 to
$1.75 based on the above formula.
On October 6, 2004, BH Capital and Excalibur converted 10,278 Series A
convertible preferred shares into approximately 600,000 shares of common stock.
Simultaneously, the remaining 30,316 Series A convertible preferred shares held
by BH Capital and Excalibur were acquired by our Company for a total price of
$2,279,688. All previously outstanding shares of the Series A convertible
preferred stock of our Company have now been cancelled. As part of the
transaction, BH Capital and Excalibur also received warrants to purchase up to
500,000 shares of common stock at an exercise price of $2.00 per share for a
period of five years. The market price of our common stock on October 6, 2004
was $1.30. The fair value of the warrants is $205,000. In June 2005, we agreed
to reduce the per-share exercise price on all these warrants along with 530,000
other warrants issued to BH Capital and Excalibur in prior years to $1.10 in
order to induce them to exercise their warrants. All of these warrants were
exercised on June 16, 2005 for total proceeds of $1,133,000.
On October 6, 2004, we completed a private placement of our common stock,
whereby we issued a total of 2,000,000 shares to Mr. Fredrick DeLuca (an
existing stockholder of our Company) for aggregate gross proceeds to our Company
of $2,300,000. These proceeds were used to redeem our Series A convertible
preferred stock as discussed above. The purchase price of the shares was $1.15
per share (95% of the prior 5-day trading closing stock price average). Mr.
DeLuca also received a warrant to purchase up to 500,000 shares of our common
stock at an exercise price of $1.15 per share for a period of five years. In
June 2005, we agreed to reduce the per-share exercise price on this warrant to
$0.92 and reduced the per-share exercise price on a warrant issued in a prior
year to purchase up to 100,00 shares to $1.36 to induce him to exercise his
warrants. All of these warrants were exercised on June 16, 2005 for total
proceeds of $596,000.
In accordance with a registration rights agreement with Mr. DeLuca, we agreed to
file and obtain effectiveness of a registration statement with the Securities
and Exchange Commission within 180 days of closing to register the shares issued
in the private placement and to include the shares underlying the warrants
described above. We agreed that if a registration statement was not filed, or
did not become effective within the defined period of time, then in addition to
any other rights Mr. DeLuca may have, we would be required to pay certain
22
liquidated damages of $57,500 per month. We filed a registration statement on
Form S-3 on March 14, 2005. However, this registration statement has not yet
been declared effective. We have received from Mr. DeLuca an extension of time
until September 1, 2005 to have the registration statement declared effective by
the SEC. Additionally, Mr. DeLuca waived all damages and remedies for failure to
have an effective registration statement until September 1, 2005.
Summary
We believe that with the cash available on our credit facilities and proceeds
received from the equity financings together with cash flow from current
operations, we will have enough cash to meet our current liquidity needs for
general operations through March 31, 2006.
Based on current projections, we expect that much, if not all, of the additional
cash requirements for the transition charges will come from the sale of our
usable raw materials and packaging inventory and production equipment to
Schreiber in the third quarter of fiscal 2006.
Contractual Obligations
We lease our operating facilities and certain equipment under operating and
capital leases, expiring at various dates through fiscal year 2010. In addition,
we have several loan obligations as described in detail above. The table below
summarizes the principal balances of our obligations for indebtedness and lease
obligations as of March 31, 2005 in accordance with their required payment
terms:
Payments due by fiscal period
-------------------------------------------------------------------------------------------
Contractual Obligations Total 2006 2007-2008 2009-2010 Thereafter
- ----------------------- ---------------- ---------------- ---------------- --------------- ----------------
Textron credit facility (1) $ 5,458,479 $ 5,458,479 $ -- $ -- $ --
Wachovia Bank term loan 8,241,985 1,320,000 6,921,985 -- --
Interest on debt facilities (2) 1,088,000 922,000 166,000 -- --
Contractual employment agreements 1,579,828 586,523 799,644 193,661
Capital Lease Obligations (3) 497,117 400,756 76,984 19,377 --
Operating Lease Obligations 1,479,214 547,737 566,974 364,503 --
---------------- ---------------- ---------------- --------------- ----------------
Total $ 18,344,623 $ 9,235,495 $ 8,531,587 $ 577,541 $ --
================ ================ ================ =============== ================
(1) In accordance with EITF 95-22, "Balance Sheet Classification of
Borrowings Outstanding under Revolving Credit Agreements that
involve both a Subjective Acceleration Clause and a Lock-Box
Arrangement," the $5,458,479 balance owed to Textron is reflected as
current on the balance sheet and in the above schedule. However, per
the Textron Loan Agreement, the initial term of the loan does not
end until May 26, 2006.
(2) The Wachovia Bank term loan bears interest at prime plus 1% and the
Textron credit facility bears interest at prime plus 1.75%. Interest
is estimated assuming that the credit facility balance will remain
unchanged and that the prime rate will remain at its current level
of 5.75%.
(3) Includes the principal and interest portion of capital lease
payments to be paid and an additional $197,000 in fiscal 2006
related to the purchase option on a piece of equipment at the end of
its lease term.
23
On May 22, 2003, we entered into a Master Distribution and Licensing Agreement
with Fromageries Bel S.A., ("Bel") a leading branded cheese company in Europe
who is a greater than 5% stockholder in our Company. Under the agreement, we
granted Bel exclusive distribution rights for our products in a territory
comprised of the European Union States and to more than 21 other European
countries and territories (the "Territory"). We also granted Bel the exclusive
option during the term of the agreement to elect to manufacture the products
designated by Bel for distribution in the Territory. The term of the agreement
is ten years, provided that either of the parties may elect to terminate the
agreement by delivery of notice to the other between March 24, 2007 and May 22,
2007, which termination shall be effective as of the first anniversary of the
date of the notice of termination. Alternatively, the parties may mutually agree
to continue operating under the agreement, to convert the agreement to a
manufacturing and license agreement, or to terminate the agreement. We have come
to an understanding with Bel whereby we mutually agreed to terminate the
licensing agreement. We anticipate that this understanding will be formalized in
an agreement in the near future.
Forward-Looking Information
Statements other than historical information contained in this Form 10-K/A are
considered "forward-looking statements" as defined under the Private Securities
Litigation Reform Act of 1995. These statements relate to future events or our
future financial performance. These forward-looking statements are based on our
current expectations, estimates and projections about our industry, management's
beliefs and certain assumptions made by our company. Words such as "anticipate,"
"expect," "intend," "plan," "believe," "seek," "project," "estimate," "may,"
"will," and variations of these words or similar expressions are intended to
identify forward-looking statements. These statements are not guarantees of
future performance and are subject to certain risks, uncertainties and
assumptions that are difficult to predict. Therefore, actual results may differ
materially from our Company's historical results and those expressed or
forecasted in any forward-looking statement as a result of a variety of factors
as set forth below. We believe that these forward-looking statements are
reasonable at the time they are made. However, we undertake no obligation to
publicly update or revise any forward-looking statements for any reason, even if
new information becomes available or other events occur in the future.
In addition to the other information in this Form 10-K/A, the following are some
of the factors that could cause our Company's actual results to differ
materially from the expected results described in or underlying our Company's
forward-looking statements. These factors should be considered carefully while
evaluating our business and prospects. If any of the following risks actually
occur, they could seriously harm our business, financial condition, results of
operations or cash flows.
We are in the process of outsourcing the production of our products and
selling our major production assets.
The asset sale and outsourcing arrangement with Schreiber Foods, Inc are subject
to a number of conditions that must be met prior to the consummation of these
transactions. In addition to the closing conditions as described above under the
Schreiber Transactions in Recent Material Developments, we will face additional
challenges during the transition. These challenges include, but are not limited
to, the following:
o Coordinating customer shipments while the inventory and production
equipment is in transit from our facilities to the Schreiber
facilities;
o Reserving enough inventory on-hand to fill customer orders while
production equipment is in transit;
o Maintaining consistent formulas and quality in our products after
the transition;
o Having enough cash to build inventory and pay any severance
arrangements during the transition;
o Reduction of production personnel and severance arrangements related
to these personnel
o In the event of a sale of the assets whereby we would not receive
enough sale proceeds to pay off our debt to our lenders in full, we
24
would need to negotiate with our lenders so that they would agree to
release their liens on the assets. If they will not agree to do so,
we may be required to raise additional funds to pay our lenders in
full prior to their maturity dates;
o We may be required to negotiate with the landlords of our leased
premises the possibilities of early lease termination or subleasing
our facilities.
Each one of these events must be carefully timed and coordinated in order to
avoid problems with cash flow, litigation, loss of customer sales, and other
tangible and intangible affects.
We have previously been in technical default of our credit facilities.
We have a revolving line of credit from Textron Financial Corporation and a note
payable to Wachovia Bank that require us to comply with certain financial and
reporting requirements. During the fiscal years ended March 31, 2005, 2004 and
2003, we were in violation of the financial and other covenants, but the lenders
routinely waived such violations and amended the covenants in return for the
payment of waiver fees, increases in interest rates, acceleration of maturity
dates and other considerations.
In July 2005, Textron will review our financial forecasts that reflect the
subsequent events described under Material Future Events above and will evaluate
whether any further amendments to our loan agreement will be required. Pursuant
to the above Loan Modification Agreement dated June 30, 2005, Wachovia Bank
agreed to waive compliance on our three main financial covenants for the periods
ended March 31, 2005 and through the maturity of the loan on July 31, 2006. In
the event that we are in future violations of the covenants under the Textron
revolving line of credit or non-financial covenants under the Wachovia Bank loan
and we cannot amend the covenants or obtain waivers for these covenant failures,
Textron and Wachovia Bank could exercise their respective rights under their
loan documents to, among other things, declare a default under the loans,
accelerate their indebtedness such that they would become immediately due and
payable, and pursue foreclosure on our assets which are pledged as collateral
for such loans. In either event, it is unlikely that we would be able to
continue the operation of our business.
We will need additional financing and such financing may not be available.
We have incurred substantial debt in connection with the financing of our
business. The aggregate principal amount outstanding under our two credit
facilities is approximately $13,201,134 as of July 12, 2005. This amount
includes a revolving line of credit from Textron Financial Corporation
("Textron") in the amount of $5,399,149 and a note payable to Wachovia Bank
("Wachovia") in the amount of $7,801,985. We anticipate that the proceeds from
the sale of our assets to Schreiber will pay the Wachovia term loan in full.
However, in the event that the sale is not completed as anticipated, we will
need to refinance the Wachovia term loan on or before its maturity date of July
31, 2006. The initial term of the Textron loan ends on May 26, 2006, but this
loan automatically renews for additional one-year periods unless terminated by
our Company or Textron through a written notice 90-days prior thereto or as
otherwise provided in the loan agreement. If we are unable to refinance or renew
our existing credit facilities, or if additional financing is not available on
terms acceptable to us, we will be unable to satisfy such facilities by their
maturity dates. In such an event, Textron and Wachovia could exercise their
respective rights under their loan documents, which could include, among other
things, declaring defaults under the loans and pursuing foreclosure on our
assets that are pledged as collateral for such loans. If such an event occurred
with either Textron or Wachovia, it is unlikely that we would be able to
effectively continue the operation of our business.
We may issue securities with rights superior to those of the common stock,
which could materially limit the ownership rights of existing stockholders.
We may offer debt or equity securities in private and/or public offerings in
order to raise working capital and to refinance our debt. The board of directors
has the right to determine the terms and rights of any debt securities and
preferred stock without obtaining further approval of the stockholders. It is
likely that any debt securities or preferred stock that we
25
sell would have terms and rights superior to those of the common stock and may
be convertible into common stock. Any sale of securities could adversely affect
the interests or voting rights of the holders of common stock, result in
substantial dilution to existing stockholders, or adversely affect the market
price of our common stock.
Our founder and a private investor own a large percentage of the
outstanding shares, which could materially limit the ownership rights of
investors.
As of July 12, 2005, Angelo S. Morini, our founder, beneficially owned
approximately 17% of our issued and outstanding common stock and held options
and warrants which, if exercised and assuming the exercise of no other
outstanding options or warrants, would give him approximately 28% of our issued
and outstanding common stock. As of July 12, 2005, Frederick DeLuca, a private
investor, owned approximately 19% of our issued and outstanding common stock.
Investors who purchase common stock in our Company may be unable to elect any
specific members of the board of directors or exercise significant control over
us or our business as a result of Mr. Morini's and Mr. Deluca's ownership.
Forgiveness of or foreclosure on our note receivable will result in a
material affect to our reported earnings.
In June 1999, in connection with an amended and restated employment agreement
for Angelo S. Morini, our Founder, we consolidated two full recourse notes
receivable ($1,200,000 from November 1994 and $11,572,200 from October 1995)
related to the exercise of 2,914,286 shares of our common stock into a single
note receivable in the amount of $12,772,200 that is due on June 15, 2006. This
single consolidated note is non-interest bearing and non-recourse and is secured
by the 2,914,286 underlying shares of our common stock. Per the terms of the
June 1999 Employment Agreement that was amended and restated by the October 2003
Second Amended and Restated Employment Agreement between our Company and Mr.
Morini, this loan may be forgiven upon the occurrence of any of the following
events: 1) Mr. Morini is terminated without cause; 2) there is a material breach
in the terms of Mr. Morini's employment agreement; or 3) there is a change in
control of the Company for which Mr. Morini did not vote "FOR" in his capacity
as a director or a stockholder.
In the event that the $12,772,200 loan is forgiven, we would show this amount as
a forgiveness of debt in our Statement of Operations. In the event that Mr.
Morini is unable to pay the loan when due and we foreclose on the shares, we
will show a loss on collection for the amount, if any, that the value of the
2,914,286 underlying collateral shares are below the value of the note. Assuming
the market price on July 12, 2005 of $2.03, we would show a loss of
approximately $6,850,000 in the Statement of Operations. Although both of these
scenarios will result in material losses to our operations, it will not have any
affect on the balance sheet since the $12,772,200 loan amount is already shown
as a negative amount in Stockholders' Equity.
Stockholders may experience further dilution.
We have a substantial number of outstanding options and warrants to acquire
shares of common stock. As of July 12, 2005, we have a total of 5,715,165 shares
reserved for issuance upon exercise of options and warrants that we have granted
or may grant in the future. Of this total, there are 2,388,135 exercisable
options and warrants that are "in the money." "In the money" generally means
that the current market price of the common stock is above the exercise price of
the shares subject to the warrant or option. The issuance of common stock upon
the exercise of these options and warrants could adversely affect the market
price of the common stock or result in substantial dilution to our existing
stockholders.
If we lose key foreign suppliers on whom we depend, we may be unable to
obtain adequate supplies to manufacture our products.
Currently, we purchase our major ingredient, a milk protein called casein, from
several foreign suppliers. We purchase casein from foreign suppliers because
they have lower prices than domestic suppliers. However, their lower prices are
generally the result of governmental export supports or subsidies. We do have
contractual arrangements with our principal suppliers for terms up to one-year
subject to quarterly price adjustments. Because we purchase casein from foreign
suppliers, its availability is subject to a variety of factors, including
federal import regulations. If the
26
export supports or subsidies are reduced or eliminated or the United States
takes retaliatory action or otherwise establishes trade barriers with any of the
countries in which our casein suppliers are located, our business and results of
operations would be negatively affected. Moreover, exchange rate fluctuations or
the imposition of import quotas or tariffs could have an adverse effect on our
business and our ability to compete with competitors that do not rely on foreign
suppliers. We cannot assure you that we could obtain casein from U.S. sources if
the foreign supply of casein were reduced or terminated. Even if we could obtain
casein from U.S. sources, our production may be reduced during the time it takes
to change suppliers and the prices for the casein would likely be significantly
higher than we are paying now. Any of these events would negatively affect our
business, results of operations and cash flows.
We experienced a 32% increase in average casein prices in fiscal 2005 compared
to the average casein prices in fiscal 2004. In fiscal 2006, we are continuing
to experience high casein prices, the averages of which are approximately 31%
higher than the average prices for fiscal 2005. Based on current pricing trends
with our suppliers, we believe that casein prices will remain at historical
highs at least through September 30, 2005. Every 10% increase in casein prices
over the fiscal 2005 average will result in an annual cost increase of
approximately $1,100,000 assuming the same amount of pounds purchased as in
fiscal 2005. Casein prices are still high due to greater worldwide demand, as
well as lower foreign government subsidies and the decline in the US Dollar
value versus the Euro. In order to offset the high casein costs, we are
incorporating alternative formula modifications that maintain the integrity of
our product benefits as well as reducing costs in several other raw materials
and operational labor categories. Finally, we have passed along some of the
increased costs to our customers during fiscal 2005 and will propose additional
price increases as appropriate.
Competition in our industry is intense.
Competition in the natural food segment of the food industry is intense. We
believe that as consumers become more interested in healthy food alternatives
the competition in our markets will increase substantially. Therefore, the
effectiveness of our advertising, marketing and promotional programs and the
financial resources necessary for their implementation is an important part of
our sales growth plan. Our primary competition consists of equally matched sized
companies such as Tree of Life, White Wave, Yves and Tofutti Brands that
manufacture soy-based products, such as alternative cheese slices, sour creams,
cream cheese and related products. In addition, we compete with major companies
such as Kraft, which produces products under the Kraft Free(R) label, Borden's,
and ConAgra, which produces products under the Healthy Choice(R) label. Each of
these companies has substantially greater name recognition and greater research
and development, marketing, financial and human resources than we have. These
advantages have led to a substantially greater market penetration and product
acceptance than we have developed. In addition, our competitors may succeed in
developing new or enhanced products, which are better than our products. These
companies may also prove to be more successful than us in marketing and selling
these products. We cannot assure you that we will be able to compete
successfully with any of these companies or achieve a greater market share than
we currently possess. Increased competition as to any of our products or
services could result in price reductions, reduced margins, and loss of market
share, which could negatively affect our business, prospects, results of
operations and financial condition.
Consumer eating habits and shopping trends may change and negatively
impact demand for our products.
There could be a decrease in demand for our products as consumers' tastes,
preferences, shopping behavior, and overall evaluation of health benefits change
over time. This is demonstrated in the recent change in consumer eating habits
with the publicly recognized trend toward low-carbohydrate meal preparation
during all meals (breakfast, lunch, snack, and dinner), which has led to
decreased consumption of items such as bread and our primary complementary
product of cheese slices. Additionally, the number of consumers shopping in the
retail grocery and natural food stores is down due to the further national
emergence and presence of Wal*Mart superstores and other similar superstores
which include extensive grocery operations. Our
27
product selection is growing but is still limited at Wal*Mart. Therefore, our
sales growth with this account may not be able to fully counter the decline in
retail grocery trends. In response to this change in consumer shopping, we are
redesigning our products and packaging formats to specifically target growth
opportunities in the superstore, warehouse club and mass merchandiser markets
(such as Wal*Mart, Costco, Kmart, Target, and Sam's Club). With the growth in
the aging population of U.S. consumers, there could be price pressure on our
products due to the fixed income nature of this population segment.
Demand for our products could be hindered due to changing conditions
within the distribution channels through which we sell our products.
Our sales could suffer based upon market place abnormalities such as retailer,
distributor, and/or food service operator labor strikes. Further, consolidation
within the industry could result in store closings, store layouts, and operating
strategies that are incompatible with our product requirements.
We rely on the protection of our trademarks, and the loss of a trademark
would negatively impact the products associated with the trademark, which could
materially adversely affect our business.
We own several registered and unregistered trademarks, which are used in the
marketing and sale of our products. We have invested a substantial amount of
money in promoting our trademarked brands. However, the degree of protection
that these trademarks afford us is unknown. Further, we may not have the money
necessary to engage in actions to prevent infringement on our trademarks. A loss
of a material trademark would negatively impact the products associated with it,
and could negatively affect our business, prospects, results of operations,
financial condition and cash flows.
We do not have patent protection for our formulas and processes, and a
loss of ownership of any of our formulas and processes would negatively impact
our business.
We believe that we own our formulas and processes. However, we have not sought,
and do not intend to seek, patent protection for our formulas and processes.
Instead, we rely on the complexity of our formulas and processes, trade secrecy
laws, and employee confidentiality agreements. However, we cannot assure you
that other companies will not acquire our confidential information or trade
secrets or will not independently develop equivalent or superior products or
technology and obtain patent or similar rights. Although we believe that our
formulas and processes have been independently developed and do not infringe the
patents or rights of others, a variety of components of our processes could
infringe existing or future patents, in which event we may be required to modify
our processes or obtain a license. We cannot assure you that we will be able to
do so in a timely manner or upon acceptable terms and conditions. The failure to
do either of the foregoing would negatively affect our business, results of
operations, financial condition and cash flows.
Because we sell food products, we face the risk of exposure to product
liability claims.
We, like any other seller of food products, face the risk of exposure to product
liability claims in the event that our quality control procedures fail and the
consumption of our products causes injury or illness. With respect to product
liability claims, our insurance may not continue to be available at a reasonable
cost, or, if available, may not be adequate to cover liabilities. We generally
seek contractual indemnification and insurance coverage from parties supplying
us products, but this indemnification or insurance coverage is limited, as a
practical matter, to the creditworthiness of the indemnifying party, and their
carriers, if any, as well as the limits of any insurance provided by suppliers.
If we do not have adequate insurance or contractual indemnification available,
product liability claims relating to defective products could have a material
adverse effect on our financial condition, results of operations and cash flows.
Government regulation could increase our costs of production and increase
our legal and regulatory expenses.
We are subject to extensive regulation by federal, state, and local governmental
authorities regarding the quality, purity, manufacturing, distribution, and
labeling of food products. We cannot assure that you that we will be able to
continue to comply with these or future regulations, without inordinate cost or
interruption of our operations. Failure to comply with applicable laws and
regulations could subject us to civil remedies, including fines, injunctions,
recalls or seizures, as well as possible criminal sanctions, which could have a
material adverse effect on our business.
28
Rising interest rates could negatively affect our results of operations.
The interest rates of most of our outstanding debts fluctuate based upon changes
in our lenders' prime rate. Increases in the prime rate will result in an
increase in our cost of funds, and would negatively affect our results of
operations. We are anticipating future increases in interest rates during the
fiscal year ending March 31, 2006. We have not entered into any derivative
instruments such as interest rate swap or hedge agreements to manage our
exposure to rising interest rates.
29
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Report of Registered Public Accounting Firm
To the Board of Directors and Stockholders
Galaxy Nutritional Foods, Inc.
Orlando, Florida
We have audited the accompanying balance sheets of Galaxy Nutritional Foods,
Inc. as of March 31, 2005 and 2004 and the related statements of operations,
stockholders' equity and cash flows for each of the three years in the period
ended March 31, 2005. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform, an audit of its internal control over
financial reporting. Our audit included consideration of internal control over
financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Galaxy Nutritional Foods, Inc.
as of March 31, 2005 and 2004 and the results of its operations and its cash
flows for each of the three years in the period ended March 31, 2005 in
conformity with accounting principles generally accepted in the United States of
America.
As discussed in Note 17 to the accompanying financial statements, the Company
has restated its 2001 through 2005 financial statements.
/s/ BDO Seidman, LLP
Atlanta, Georgia
July 12, 2005, except in Note 17 as to which the date is September 28, 2005.
30
GALAXY NUTRITIONAL FOODS, INC.
Balance Sheets
MARCH 31, MARCH 31,
NOTES 2005 2004
------- ------------ ------------
17 RESTATED RESTATED
ASSETS
CURRENT ASSETS:
Cash $ 561,782 $ 449,679
Trade receivables, net of allowance for
doubtful accounts of $2,299,000 and $633,000 2 4,644,364 3,964,198
Inventories 3 3,811,470 4,632,843
Prepaid expenses and other 4 219,592 266,301
------------ ------------
Total current assets 9,237,208 9,313,021
PROPERTY AND EQUIPMENT, NET 5 18,246,445 20,232,089
OTHER ASSETS 286,013 416,706
------------ ------------
TOTAL $ 27,769,666 $ 29,961,816
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Line of credit 6 $ 5,458,479 $ 4,605,277
Accounts payable 3,057,266 1,266,346
Accrued and other current liabilities 7 2,130,206 3,284,191
Current portion of accrued employment contract 8 586,523 366,305
Current portion of term notes payable 6 1,320,000 1,140,000
Current portion of obligations under capital leases 8 194,042 231,432
------------ ------------
Total current liabilities 12,746,516 10,893,551
ACCRUED EMPLOYMENT CONTRACT, less current portion 8 993,305 1,293,142
TERM NOTES PAYABLE, less current portion 6 6,921,985 8,241,985
OBLIGATIONS UNDER CAPITAL LEASES, less current portion 8 85,337 204,967
------------ ------------
Total liabilities 20,747,143 20,633,645
------------ ------------
COMMITMENTS AND CONTINGENCIES 8 -- --
TEMPORARY EQUITY:
Series A redeemable convertible preferred stock, $.01 par value; 9
authorized 200,000 shares; 43,894 shares outstanding -- 2,573,581
Common stock, subject to registration, $.01 par value; 2,000,000 9
shares issued and outstanding 2,220,590 --
STOCKHOLDERS' EQUITY:
Common stock, $.01 par value; authorized 85,000,000 shares; 16,411,474
and 15,657,321 shares issued 164,115 156,573
Additional paid-in capital 65,838,227 63,938,643
Accumulated deficit (48,307,748) (44,447,965)
------------ ------------
17,964,594 19,647,251
Less: Notes receivable arising from the exercise of
stock options 8 (12,772,200) (12,772,200)
Treasury stock, 30,443 shares, at cost (120,461) (120,461)
------------ ------------
Total stockholders' equity 4,801,933 6,754,590
------------ ------------
TOTAL $ 27,769,666 $ 29,961,816
============ ============
See accompanying notes to financial statements
31
GALAXY NUTRITIONAL FOODS, INC.
Statements of Operations
RESTATED (Note 17)
Years ended March 31, 2005 2004 2003
------------ ------------ ------------
NET SALES $ 44,510,487 $ 36,176,961 $ 40,008,769
COST OF GOODS SOLD 34,736,594 24,864,289 28,080,188
------------ ------------ ------------
Gross margin 9,773,893 11,312,672 11,928,581
------------ ------------ ------------
OPERATING EXPENSES:
Selling 5,148,426 4,981,996 4,958,272
Delivery 2,307,166 1,877,682 2,008,638
Employment contract expense-general and administrative
(Note 8) 444,883 1,830,329 --
General and administrative, including $409,746,
$651,273 and $153,238 non-cash charges related to
stock transactions (Note 9) 4,380,436 3,954,303 3,724,127
(Gain) Loss on asset disposals (4,500) 8,519 47,649
Research and development 309,054 260,410 232,552
------------ ------------ ------------
Total operating expenses 12,585,465 12,913,239 10,971,238
------------ ------------ ------------
INCOME (LOSS) FROM OPERATIONS (2,811,572) (1,600,567) 957,343
------------ ------------ ------------
OTHER INCOME (EXPENSE):
Interest expense (1,129,977) (1,361,606) (2,923,215)
Derivative income (expense) 62,829 (94,269) (105,704)
Gain (loss) on fair value of warrants 18,937 (242,835) 1,174,355
Other expense -- -- (60,000)
------------ ------------ ------------
Total other income (expense) (1,048,211) (1,698,710) (1,914,564)
------------ ------------ ------------
NET INCOME (LOSS) $ (3,859,783) $ (3,299,277) $ (957,221)
Less:
Preferred Stock Dividends (Note 9) 82,572 201,791 264,314
Preferred Stock Accretion to Redemption Value (Note 9) 319,500 1,256,019 1,308,855
------------ ------------ ------------
NET LOSS TO COMMON STOCKHOLDERS $ (4,261,855) $ (4,757,087) $ (2,530,390)
============ ============ ============
BASIC AND DILUTED NET LOSS PER COMMON SHARE (Note 11) $ (0.25) $ (0.32) $ (0.21)
============ ============ ============
See accompanying notes to financial statements
32
GALAXY NUTRITIONAL FOODS, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
RESTATED (Note 17)
Common Stock
--------------------------- Notes
Additional Receivable
Paid-In Accumulated for Common Treasury
Shares Par Value Capital Deficit Stock Stock Total
------------ ---------- ------------ ------------ ------------ ---------- -----------
Balance at March 31, 2002 11,540,041 $ 115,400 $ 56,439,191 $(40,191,467) $(12,772,200) $ (120,461) $ 3,470,463
Exercise of options 1,000 10 4,240 -- -- -- 4,250
Issuance of common stock under
employee stock purchase plan 9,880 99 19,564 -- -- -- 19,663
Issuance of common stock 585,828 5,859 2,295,269 -- -- -- 2,301,128
Conversion of preferred stock 624,936 6,249 845,726 -- -- -- 851,975
Fair value of stock-based
transactions -- -- 18,200 -- -- -- 18,200
Dividends on preferred stock -- -- (264,314) -- -- -- (264,314)
Accretion of discount on preferred
stock (339,446) -- -- -- (339,446)
Net loss -- -- -- (957,221) -- -- (957,221)
------------ ---------- ------------ ------------ ------------ ---------- -----------
Balance at March 31, 2003 12,761,685 127,617 59,018,430 (41,148,688) (12,772,200) (120,461) 5,104,698
Exercise of options 7,911 79 16,138 -- -- -- 16,217
Exercise of warrants 200,000 2,000 358,000 -- -- -- 360,000
Issuance of common stock under
employee stock purchase plan 16,339 163 28,364 -- -- -- 28,527
Issuance of common stock 2,211,478 22,115 3,929,242 -- -- -- 3,951,357
Conversion of preferred stock 459,908 4,599 794,921 -- -- -- 799,520
Fair value of stock-based
transactions -- -- 491,308 -- -- -- 491,308
Non-cash compensation related to
variable securities -- -- 8,001 -- -- -- 8,001
Dividends on preferred stock -- -- (201,791) -- -- -- (201,791)
Accretion of discount on preferred
stock -- -- (503,970) -- -- -- (503,970)
Net loss -- -- -- (3,299,277) -- -- (3,299,277)
------------ ---------- ------------ ------------ ------------ ---------- -----------
Balance at March 31, 2004 15,657,321 156,573 63,938,643 (44,447,965) (12,772,200) (120,461) 6,754,590
Exercise of options 13,893 139 18,717 -- -- -- 18,856
Costs associated with
issuance of common stock -- -- (22,500) -- -- -- (22,500)
Issuance of common stock under
employee stock purchase plan 18,894 189 23,813 -- -- -- 24,002
Issuance of common stock 2,000,000 20,000 1,863,090 -- -- -- 1,883,090
Conversion of preferred stock 721,366 7,214 840,215 -- -- -- 847,429
Fair value of stock-based
transactions -- -- 83,224 -- -- -- 83,224
Non-cash compensation related to
variable securities -- -- 215,649 -- -- -- 215,649
Dividends on preferred stock -- -- (82,572) -- -- -- (82,572)
Accretion of discount on preferred
stock -- -- 823,038 -- -- -- 823,038
Net loss -- -- -- (3,859,783) -- -- (3,859,783)
------------ ---------- ------------ ------------ ------------ ---------- -----------
Balance at March 31, 2005 16,411,474 $ 164,115 $ 65,838,227 $(48,307,748) $(12,772,200) $ (120,461) $ 4,801,933
============ ========== ============ ============ ============ ========== ===========
See accompanying notes to financial statements
33
GALAXY NUTRITIONAL FOODS, INC.
Statements of Cash Flows
Years Ended March 31, 2005 2004 2003
------------ ------------ ------------
(Note 17) (RESTATED) (RESTATED) (RESTATED)
CASH FLOWS FROM OPERATING ACTIVITIES: (Note 12)
Net Loss $ (3,859,783) $ (3,299,277) $ (957,221)
Adjustments to reconcile net loss to net cash from (used in)
operating activities:
Depreciation and amortization 2,172,566 2,205,053 2,273,349
Amortization of debt discount and financing costs 116,522 236,321 1,264,273
Provision for losses on trade receivables (Note 2) 1,666,000 (221) (177,245)
Derivative (income) expense (62,829) 94,269 105,704
(Gain) Loss on fair value of warrants (18,937) 242,835 (1,174,355)
Non-cash compensation related to stock-based transactions
(Note 9) 409,746 651,273 153,238
(Gain) Loss on disposal of assets (4,500) 8,519 47,649
(Increase) decrease in:
Trade receivables (2,346,166) 999,049 364,907
Inventories 821,373 661,657 454,152
Prepaid expenses and other 46,709 189,012 (67,369)
Increase (decrease) in:
Accounts payable 1,790,920 (1,426,143) (1,520,021)
Accrued and other liabilities 48,125 1,674,003 408,814
------------ ------------ ------------
NET CASH FROM (USED IN) OPERATING ACTIVITIES 779,746 2,236,350 1,175,875
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (104,339) (221,585) (214,003)
Proceeds from sale of equipment 4,500 -- --
(Increase) decrease in other assets 34,837 (10,193) 113,977
------------ ------------ ------------
NET CASH FROM (USED IN) INVESTING ACTIVITIES (65,002) (231,778) (100,026)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Decrease in book overdrafts -- (1,151,276) (41,580)
Net borrowings (payments) on line of credit 853,202 (334,617) (583,981)
Borrowings on term notes payable -- 2,000,000 500,000
Repayments on term notes payable (1,140,000) (1,572,760) (1,763,265)
Repayments on subordinated note payable -- (4,000,000) --
Financing costs for long term debt (37,500) (288,230) (239,539)
Principal payments on capital lease obligations (239,603) (365,635) (431,937)
Proceeds from exercise of common stock options 18,856 16,217 4,250
Proceeds from exercise of common stock warrants, net of costs -- 360,000 --
Proceeds from issuance of common stock under employee stock
purchase plan 24,002 28,527 19,663
Proceeds from issuance of common stock, net of costs 2,198,090 3,751,283 1,461,970
Redemption of preferred stock (2,279,688) -- --
------------ ------------ ------------
NET CASH FROM (USED IN) FINANCING ACTIVITIES (602,641) (1,556,491) (1,074,419)
------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH 112,103 448,081 1,430
CASH, BEGINNING OF YEAR 449,679 1,598 168
------------ ------------ ------------
CASH, END OF YEAR $ 561,782 $ 449,679 $ 1,598
============ ============ ============
See accompanying notes to financial statements.
34
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies
Business
Galaxy Nutritional Foods, Inc. (the "Company") is principally engaged in
the development, manufacturing and marketing of a variety of healthy
cheese and dairy related products, as well as other cheese alternatives.
These healthy cheese and dairy related products include low, reduced or no
fat, low or no cholesterol and lactose-free varieties. These products are
sold throughout the United States and internationally to customers in the
retail, food service and industrial markets. The Company's headquarters
and manufacturing facilities are located in Orlando, Florida.
Accounts Receivable
Accounts receivable are customer obligations due under normal trade terms.
The Company evaluates the collectibility of its accounts receivable on a
combination of factors. In circumstances where it is aware of a specific
customer's inability to meet its financial obligations, it records a
specific allowance to reduce the amounts recorded to what it believes will
be collected. In addition to reserving for potential uncollectible
accounts, the Company uses its allowance for trade receivables account to
estimate future credits that will be issued to customers for items such as
rebates, sales promotions, coupons, and spoils that relate to current
period sales. The Company also records these additional reserves for
potential uncollectible amounts and future credits based on certain
percentages, which are determined based on historical experience and its
assessment of the general financial conditions affecting its customer
base. After all attempts to collect a receivable have been exhausted and
failed, the receivable is written off against the allowance.
Inventories
Inventories are valued at the lower of cost (weighted average, which
approximates FIFO) or market. The cost elements included in inventories
are direct material cost, direct labor and overhead allocations. Material
cost consists of the cost of ingredients and packaging that go into the
production of the item. Labor consists of the wages for those employees
directly making the item. Overhead is applied to inventory units based on
the normal capacity of the production facilities and consists of factory
overhead costs such as indirect labor, benefits, supplies, repairs,
depreciation and utilities expended during the production process.
35
Property and Equipment
Property and equipment are stated at cost. Depreciation is computed over
the estimated useful lives of the assets by the straight-line method for
financial reporting and by accelerated methods for income tax purposes.
Capital leases are recorded at the lower of fair market value or the
present value of future minimum lease payments. Assets under capital
leases are amortized by the straight-line method over their useful lives.
Revenue Recognition
Sales are recognized upon shipment of products to customers. The Company
offers a right of return policy on certain products sold to certain retail
customers in the conventional grocery stores and mass merchandising
industry. If the product is not sold during its shelf life, the Company
will allow a credit for the unsold merchandise. Since the shelf life of
the Company's products range from 6 months to one year, the Company
historically averages less than 2% in credits for unsold product. The
Company's reserve on accounts receivable takes these potential future
credits into consideration. Certain expenses such as slotting fees,
rebates, coupons and other discounts are accounted for as a reduction to
Revenues.
Marketing and Advertising
The Company expenses the production costs of advertising the first time
the advertising takes place and expenses slotting fees and direct response
advertising costs in the period incurred. Advertising expense was
approximately $1,539,000, $910,000, and $224,000 during the years ended
March 31, 2005, 2004, and 2003, respectively.
Shipping and Handling Costs
The Company accounts for certain shipping and handling costs related to
the acquisition of goods from its vendors as Cost of Goods Sold. However,
shipping and handling costs related to the shipment of goods to customers
is classified as Delivery expense.
36
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
Stock Based Compensation
Prior to April 1, 2003, the Company accounted for its stock-based employee
compensation plans under the accounting provisions of Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," (APB No. 25).
Effective April 1, 2003, the Company elected to record compensation
expense measured at fair value for all stock-based payment award
transactions on or after April 1, 2003, in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 123, "Accounting for
Stock-Based Compensation." Additionally, the Company furnishes the pro
forma disclosures required under SFAS No. 123 and applies SFAS No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure" on a
prospective basis for all stock-based awards on or after April 1, 2003.
The fair value of the stock-based award is determined on the date of grant
using the Black-Scholes pricing model and is expensed over the vesting
period of the related award. The negative impact on diluted earnings per
share related to the issuance of employee stock options during the years
ended March 31, 2005, 2004 and 2003 was approximately $0.01, $0.03 and
$0.55, respectively.
SFAS No. 123 requires the Company to provide pro-forma information
regarding net income (loss) and earnings (loss) per share amounts as if
compensation cost for the Company's employee and director stock-based
awards had been determined in accordance with the fair market value method
prescribed in SFAS No. 123. The Company estimated the fair value of each
stock-based award at the grant date by using the Black-Scholes pricing
model with the following assumptions:
Year Ended March 31, 2005 March 31, 2004 March 31, 2003
------------------ ------------------ ------------------
Dividend Yield None None None
Volatility 45% to 46% 41% to 45% 37% to 44%
Risk Free Interest Rate 3.38% to 4.12% 2.01% to 4.28% 1.71% to 5.03%
Expected Lives in Months 60 to 120 36 to 120 60 to 120
Under the accounting provisions of SFAS No. 123, the Company's net loss
and net loss per basic and diluted share would have been reduced to the
pro forma amounts indicated below:
Year Ended March 31, 2005 March 31, 2004 March 31, 2003
---------------- ---------------- ----------------
Net loss to common stockholders as reported $ (4,261,855) $ (4,757,087) $ (2,530,390)
Add: Stock-based compensation expense included
in reported net income 409,746 651,273 (1,021,117)
Deduct: Stock-based compensation expense
determined under fair value based method for
all awards (519,024) (1,070,997) (5,614,237)
---------------- ---------------- ----------------
Pro forma net loss to common stockholders (4,371,133) $ (5,176,811) $ (9,165,744)
================ ================ ================
Net loss per common share:
Basic & diluted - as reported $ (0.25) $ (0.32) $ (0.21)
================ ================ ================
Basic & diluted - pro forma $ (0.26) $ (0.35) $ (0.76)
================ ================ ================
Income Taxes
Deferred income taxes are recognized for the tax consequences of temporary
differences between the financial reporting bases and the tax bases of the
Company's assets and liabilities in accordance with SFAS No. 109.
Valuation allowances are established when necessary to reduce deferred tax
assets to the amount expected to be realized. Income tax expense is the
tax payable or refundable for the period plus or minus the change during
the period in deferred tax assets and liabilities.
37
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
Net Income (Loss) per Common Share
Net income (loss) per common share is computed by dividing net income or
loss by the weighted average shares outstanding. Diluted income (loss) per
common share is computed on the basis of weighted average shares
outstanding plus potential common shares which would arise from the
exercise of stock options, warrants and conversion of the Series A
convertible preferred stock.
Financial Instruments
Statement of Financial Accounting Standards No. 107, "Disclosures about
Fair Value of Financial Instruments," requires disclosure of fair value
information about financial instruments. Fair value estimates discussed
herein are based upon certain market assumptions and pertinent information
available to management as of March 31, 2005.
The respective carrying value of certain on-balance-sheet financial
instruments approximated their fair values. These financial instruments
include cash, trade receivables, accounts payable and accrued liabilities.
Fair values were assumed to approximate carrying values for these
financial instruments since they are short term in nature and their
carrying amounts approximate fair values or they are receivable or payable
on demand. The fair value of the Company's line of credit, long-term debt,
and capital leases is estimated based upon the quoted market prices for
the same or similar issues or on the current rates offered to the Company
for debt of the same remaining maturities.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and reported amounts
of revenues and expense during the reporting period. The Company's
significant estimates include the allowance for doubtful accounts
receivable, which is made up of reserves for promotions, discounts and bad
debts, provision for inventory obsolescence, valuation of deferred taxes,
and valuation of stock options and warrants. Actual results could differ
from those estimates.
Segment Information
The Company does not identify separate operating segments for management
reporting purposes. The results of operations are the basis on which
management evaluates operations and makes business decisions. The
Company's sales are generated primarily within the United States of
America.
Reclassifications
Certain items in the financial statements of prior periods have been
reclassified to conform to current period presentation.
Recent Accounting Pronouncements
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs, an
amendment of Accounting Research Bulletin No. 43, Chapter 4." SFAS No. 151
requires that abnormal amounts of idle facility expense, freight, handling
costs and wasted materials (spoilage) be recorded as current period
charges and that the allocation of fixed production overheads to inventory
be based on the normal capacity of the production facilities. SFAS No. 151
is effective during fiscal years beginning after June 15, 2005, although
earlier application is permitted. The Company believes that the adoption
of this Statement will not have a significant impact on the financial
position, results of operations or cash flows of the Company.
In December 2004, the FASB issued SFAS No. 123 (revised 2004),
"Share-Based Payment" ("SFAS No. 123R"), which addresses the accounting
for share-based payment transactions in which a company receives employee
services in exchange for (a) equity instruments of the company or (b)
liabilities that are based on the fair value of the company's equity
instruments or that may be settled by the issuance of equity instruments.
SFAS No. 123R supercedes APB Opinion No. 25 and amends SFAS No. 95,
"Statement of Cash Flows." Under SFAS No. 123R, companies are required to
record compensation expense for all share-based payment
38
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
award transactions measured at fair value as determined by an option
valuation model. Currently, the Company uses the Black-Scholes pricing
model to calculate the fair value of its share-based transactions. This
statement is effective for fiscal years beginning after June 15, 2005.
Since the Company currently recognizes compensation expense at fair value
for share-based transactions in accordance with SFAS No. 123, it does not
anticipate adoption of this standard will have a significant impact on its
financial position, results of operations, or cash flows. However, the
Company is still evaluating all aspects of the revised standard.
(2) Schedule of Valuation Account
Balance at Charged to Write-Offs,
Beginning of Costs and Retirements and Balance at
Year Expenses Collections End of Year
------------------------------------------------------------------------------------------------------------------
Year Ended March 31, 2003:
Allowance for trade receivables $ 810,466 $ 2,159,891 $ (2,337,136) $ 633,221
Year Ended March 31, 2004:
Allowance for trade receivables $ 633,221 $ 2,433,458 $ (2,433,679) $ 633,000
Year Ended March 31, 2005:
Allowance for trade receivables $ 633,000 $ 2,477,931 $ (811,931) $ 2,299,000
In addition to reserving for potential uncollectible accounts, the Company
uses its allowance for trade receivables account to estimate future
credits that will be issued to customers for items such as discounts,
rebates, sales promotions, coupons, slotting fees and spoils that relate
to current period sales. For the years ended March 31, 2005, 2004 and
2003, the Company recorded an expense of $1,609,134, $59,908, and
$127,389, respectively related to bad debt. For the year ended March 31,
2005 the bad debt expense was approximately 3.3% of gross sales and for
the years ended March 31, 2004 and 2003, it was less than 0.5% of gross
sales.
(3) Inventories
Inventories are summarized as follows:
March 31, 2005 March 31, 2004
--------------- ---------------
Raw materials $ 1,451,588 $ 1,786,586
Finished goods 2,359,882 2,846,257
--------------- ---------------
Total $ 3,811,470 $ 4,632,843
=============== ===============
(4) Prepaid Expenses and Other
Prepaid expenses are summarized as follows:
March 31, 2005 March 31, 2004
--------------- ---------------
Employee advances $ 9,695 $ 10,195
Prepaid commissions -- 47,322
Prepaid insurance 109,198 49,786
Other 100,699 158,998
--------------- ---------------
Total $ 219,592 $ 266,301
=============== ===============
39
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
(5) Property and Equipment
Property and equipment are summarized as follows:
Useful Lives March 31, 2005 March 31, 2004
------------------ ------------------ ------------------
Leasehold improvements 10-25 years $ 3,254,805 $ 3,215,260
Machinery and equipment 5-20 years 28,139,177 27,113,145
Equipment under capital leases 7-10 years 923,255 1,808,810
Construction in progress 112,649 112,649
------------------ ------------------
32,429,886 32,249,864
Less accumulated depreciation and amortization 14,183,441 12,017,775
------------------ ------------------
Property and equipment, net $ 18,246,445 $ 20,232,089
================== ==================
(6) Line of Credit and Notes Payable
On May 27, 2003, the Company obtained from Textron Financial Corporation
("Textron") a revolving credit facility (the "Textron Loan") with a
maximum principal amount of $7,500,000 pursuant to the terms and
conditions of a Loan and Security Agreement dated May 27, 2003 (the
"Textron Loan Agreement"). The Textron Loan is secured by the Company's
inventory, accounts receivable and all other assets. Generally, subject to
the maximum principal amount, which can be borrowed under the Textron Loan
and certain reserves that must be maintained during the term of the
Textron Loan, the amount available under the Textron Loan for borrowing by
the Company from time to time is equal to the sum of (i) 85% of the net
amount of its eligible accounts receivable plus (ii) 60% of the Company's
eligible inventory not to exceed $3,500,000. Advances under the Textron
Loan bear interest at a variable rate, adjusted on the first (1st) day of
each month, equal to the prime rate plus 1.75% per annum (7.5% at March
31, 2005) calculated on the average cash borrowings for the preceding
month. The initial term of the Textron loan ends on May 26, 2006, but this
loan automatically renews for additional one-year periods unless
terminated by our Company or Textron through a written notice 90-days
prior thereto or as otherwise provided in the loan agreement. However, in
accordance with EITF 95-22, "Balance Sheet Classification of Borrowings
Outstanding under Revolving Credit Agreements that involve both a
Subjective Acceleration Clause and a Lock-Box Arrangement," the balance is
reflected as current on the balance sheet. As of March 31, 2005, the
outstanding principal balance on the Textron Loan was $5,458,479.
The Textron Loan Agreement contains certain financial and operating
covenants. Due to the $444,883 charge to operations related to the
Separation and Settlement Agreement between the Company and Christopher J.
New, its former Chief Executive Officer, the Company fell below the
requirement for the adjusted tangible net worth and the fixed charge
coverage ratio covenants for the quarter ended September 30, 2004. In a
third amendment to the Textron Loan Agreement dated November 10, 2004,
Textron agreed to change a definition in the loan covenants, the effect of
which brought the Company back into compliance with both ratios.
As of March 31, 2005, the Company failed to comply with certain
requirements and financial covenants in the Textron Loan Agreement. The
Company fell below the fixed charge coverage ratio and the adjusted
tangible net worth financial ratios primarily because of a large bad debt
reserve and inventory write off related to one of its customers in March
2005 as detailed in Notes 2 and 16. On April 29, 2005, Textron also
determined that the credit risk increased substantially enough to
downgrade the Company's accounts receivable with respect to such customer
and deemed such accounts receivable as ineligible for purposes of
calculating the Company's borrowing base under the Textron Loan. This
action by Textron placed the Company into an over-advance position with
respect to the Textron Loan. As a result, effective as of April 29, 2005,
the Company's interest rate on the Textron Loan was increased from Prime
plus 1.75% to Prime plus 4.75%.
On June 3, 2005, the Company executed a fourth amendment to the Textron
Loan that provided a waiver on all the Existing Defaults for the fiscal
quarters ended December 31, 2004 and March 31, 2005 and amended the fixed
charge coverage ratio and the adjusted tangible net worth
40
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
requirements for periods after March 31, 2005. Additionally, the fourth
amendment allowed the Textron Loan to be in an over-advance position not
to exceed $750,000 until July 31, 2005. In exchange for the waiver and
amendments, the Company's interest rate would remain at Prime plus 4.75%
on the Textron Loan and the Company paid a fee of $50,000 in four weekly
installments of $12,500.
On June 16, 2005, the Company used a portion of the proceeds from the
warrant exercises described in Note 19 to satisfy the $750,000
over-advance with Textron. In connection with the satisfaction of the
over-advance, the Company agreed to immediately terminate Textron's
obligation to permit any over-advances under the Textron Loan, which
obligation was to expire on July 31, 2005. With the termination of the
over-advance facility, the interest rate on the Textron Loan returned to
its prior level of Prime plus 1.75% (7.75% as of June 16, 2005). In July
2005, Textron will review the Company's financial forecasts that reflect
the subsequent events described in Note 19 and will evaluate whether any
further amendments to the Textron Loan Agreement will be required.
Simultaneous with the closing of the Textron Loan in May 2003, Wachovia
Bank, N.A. successor by merger to SouthTrust Bank ("Wachovia") extended
the Company a new term loan in the principal amount of $2,000,000. This
loan was consolidated with the Company's March 2000 term loan with
Wachovia Bank, which had a then outstanding principal balance of
$8,131,985 for a total term loan amount of $10,131,985. This term loan is
secured by all of the Company's equipment and certain related assets. The
balance outstanding on the term loan as of March 31, 2005 is $8,241,985.
On June 30, 2005, the Company entered into a Loan Modification Agreement
with Wachovia Bank, N.A. regarding its loan. The agreement modified the
following terms of the loan: 1) the loan will mature and be payable in
full on July 31, 2006 instead of June 1, 2009; 2) the principal payments
will remain at $110,000 per month with accrued interest at Wachovia's Base
Rate plus 1% instead of increasing to $166,250 on July 1, 2005 as provided
by the terms of the promissory note evidencing the loan; and 3) all
covenants related to the Company's tangible net worth, total liabilities
to tangible net worth, and maximum funded debt to EBITDA ratios are waived
and compliance is not required by the Company through the maturity of the
loan on July 31, 2006. In connection with the agreement, the Company
agreed to pay $60,000, of which $30,000 was paid upon execution of the
agreement and $30,000 is due on August 1, 2005. As required by the terms
of the agreement, if the Company sells the equipment, the loan will be due
and payable in full at the time of sale. Aggregate maturities of the
Wachovia term loan payable over future years are as follows: 2006 -
$1,320,000 and 2007 - $6,921,985.
The Wachovia term loan contains certain financial and operating covenants.
The Company fell below the requirement for the tangible net worth covenant
for the quarter ended March 31, 2005 and the requirement for the maximum
funded debt to EBITDA ratio for the year ended March 31, 2005. Per the
above Loan Modification Agreement, Wachovia agreed to waive compliance on
the covenants for the periods ended March 31, 2005 and through the
maturity of the loan on July 31, 2006.
In October 2000, the Company obtained a $1.5 million bridge loan from
Wachovia Bank, which was guaranteed by Angelo S. Morini, the Company's
founder, and secured by the pledge of one million shares of the Company's
common stock owned by him. Interest on this note was at the prime rate.
The loan was paid in full in February 2004 and the collateral shares were
returned to the Company.
In March 2002, Angelo S. Morini, the Company's founder, loaned $330,000 to
the Company in order for it to pay down certain notes payable that were
coming due. This loan bore interest at the prime rate and was due on or
before June 15, 2006. In connection with a Second Amended and Restated
Employment Agreement effective October 13, 2003 between Mr. Morini and the
Company, the Company offset $167,603 of unreimbursed advances owed to it
by Mr. Morini and certain family members against the balance of the loan
and issued an aggregate of 55,087 shares of the Company's common stock
(valued at approximately $2.95 per share) as payment in full.
On August 15, 2002, the Company executed and delivered to Target
Container, Inc. a $347,475 promissory note in satisfaction of its accounts
payable obligation to this vendor. This note bore interest at 7% per annum
and was due in twelve equal monthly installments of $30,066. This note was
paid in full by September 30, 2003.
On September 30, 1999, the Company obtained a $4 million subordinated loan
from FINOVA Mezzanine to finance additional working capital and
41
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
capital improvement needs. This loan was paid in full as of May 30, 2003
by the proceeds from the new loan from Wachovia Bank, as discussed above,
and from the equity proceeds raised in the private placements in May 2003,
as discussed in Note 9.
(7) Accrued and Other Current Liabilities
Accrued and other current liabilities are summarized as follows:
March 31, 2005 March 31, 2004
--------------------- ---------------------
Tangible personal property taxes $ 1,049,841 $ 918,282
Warrant liability 740,000 664,898
Derivative liability -- 806,993
Accrued dividends on preferred stock -- 549,838
Other 340,365 344,180
--------------------- ---------------------
Total $ 2,130,206 $ 3,284,191
===================== =====================
(8) Commitments and Contingencies
Leases
The Company leases its operating facilities and certain equipment under
operating and capital leases, expiring at various dates through its fiscal
year 2009. The following schedule presents the Company's obligations as of
March 31, 2005, regarding (1) future minimum lease payments under capital
leases, together with the present value of the net minimum lease payments
and (2) future minimum rental payments required under operating leases
that have initial or remaining terms in excess of one year:
Capital Operating
Leases Leases
---------------- ------------------
2006 $ 203,756 $ 547,737
2007 40,775 300,196
2008 36,209 266,778
2009 19,377 272,734
2010 91,769
---------------- ------------------
Total net minimum lease payments 300,117 $ 1,479,214
==================
Less amount representing interest (20,738)
----------------
Present value of the net minimum lease payments 279,379
Less current portion (194,042)
----------------
Long-term obligations under capital leases $ 85,337
================
The total capitalized cost for equipment under capital lease is $923,255
with accumulated depreciation of $328,364 as of March 31, 2005.
Rental expense was approximately, $1,055,000, $1,088,000, and $1,190,000
for the fiscal years ended March 31, 2005, 2004, 2003, respectively.
Employment Agreements
o Angelo S. Morini
In a Second Amended and Restated Employment Agreement effective October
13, 2003, Angelo S. Morini the Company's Founder, Vice-Chairman and
President resigned from his positions with the Company as Vice Chairman
and President and he is no longer involved in the daily operations of the
Company. He retains the title of Founder and has been named Chairman
Emeritus. Mr. Morini continues to be a member of the Company's Board of
Directors. Additionally, he may carry out special assignments designated
to him by the Chairman of the Board. The agreement is for a five-year
period beginning October 13, 2003 and provides for an annual base salary
of $300,000, plus standard health insurance benefits, club dues and an
auto allowance. Other material provisions of the agreement are as follows:
42
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
1. For the term of the agreement, the Company shall cause Mr. Morini to be
nominated for election to the Company's Board of Directors as a member of
the slate of directors proposed by the Company in its proxy statement for
any meeting of the Company's stockholders whereby directors shall be
elected. Notwithstanding the foregoing, in the event Mr. Morini is not
elected to the Board of Directors by the stockholders at any meeting of
the Company's stockholders for which the proxy statement indicates Mr.
Morini is nominated for election as a member of the slate of directors
proposed by the Company, such obligations shall immediately cease.
2. The Company will obtain, and maintain in effect during the term of Mr.
Morini's agreement, for the benefit of Mr. Morini (or reimburse Mr. Morini
for the cost of) a two million dollar ($2,000,000) term life insurance
policy insuring Mr. Morini's life, the beneficiaries of which shall be
designated by Mr. Morini.
3. Mr. Morini and the Company agreed that Mr. Morini and certain family
members received advances from the Company of which $167,603 was
unreimbursed as of October 13, 2003, and (ii) the Company owed $330,000 to
Mr. Morini pursuant to a loan on March 28, 2002 to the Company. Mr. Morini
and the Company agreed to offset the unreimbursed advances against the
amounts owed by the Company, and, in repayment of the remainder of the
amounts owed by the Company, the Company issued an aggregate of 55,087
shares of the Company's common stock to Mr. Morini (valued at
approximately $2.95 per share based on the average of the closing prices
for the five trading days preceding the effective date of the Agreement).
4. Mr. Morini has agreed that during the term of his agreement, and for a
period of one (1) year following his termination of the agreement for any
reason other than pursuant to termination without cause, a material breach
of the agreement, or a change of control (as defined in the agreement) in
the Company for which he did not vote, he will not, directly or
indirectly, either as an employee, employer, consultant, agent, principal,
partner, stockholder (other than owning fewer than one percent (1%) of the
outstanding shares of a public corporation), corporate officer, director,
or any other individual or representative capacity, engage or participate
in any business that directly competes with the Company within those areas
in the United States in which the Company is doing business as of the date
of termination.
5. If the agreement is terminated by the Company without cause, Mr. Morini
shall: (a) be entitled to continued payment of his annual compensation,
health insurance benefits, club dues, auto allowance and life insurance
benefits for the remainder of the term of the agreement, (b) become fully
"vested" under the terms of any stock option agreements executed and
delivered prior to, along with, or after the agreement and (c) be released
from the terms of the $12,772,200 Loan Agreement dated June 15, 1999 and
all monies outstanding thereunder will be forgiven by the Company. The
provisions of the agreement related to the forgiveness of the $12,772,200
loan remain unchanged from the first Amended and Restated Employment
Agreement dated June 15, 1999. Mr. Morini acknowledges that his change in
role does not constitute a termination of Mr. Morini by the Company, under
the First Amended and Restated Employment Agreement.
6. If Mr. Morini terminates his agreement in any manner other than in
connection with a material breach of the agreement by the Company, he
shall not be entitled to receive any further compensation or benefits.
However, if he terminates his agreement in connection with a material
breach of the agreement or with a change of control (as defined in the
Agreement) in the Company for which he did not vote, he will be released
from the terms of the $12,772,200 Loan Agreement dated June 15, 1999 and
all monies outstanding thereunder will be forgiven by the Company. The
provisions of the Agreement related to the forgiveness of the $12,772,200
loan remain unchanged from the first Amended and Restated Employment
Agreement dated June 15, 1999.
Because Mr. Morini is no longer performing ongoing services for the
Company, the Company accrued and expensed the five-year cost of this
agreement in the quarter ended December 31, 2003. The total estimated
costs expensed under this agreement are $1,830,329 of which $1,292,575
remained unpaid but accrued ($366,305 as short-term liabilities and
$926,270 as long-term liabilities) as of March 31, 2005. The long-term
portion will be paid out in nearly equal monthly installments ending in
October 2008.
In the event that the $12,772,200 loan is forgiven, the Company would show
this amount as a forgiveness of debt in our Statement of Operations. In
the event that Mr. Morini is unable to pay the loan when due and the
Company forecloses on the shares, the Company will show a
43
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
loss on collection for the amount, if any, that the value of the 2,914,286
underlying collateral shares are below the value of the note. Assuming the
market price on July 12, 2005 of $2.03, the Company would show a loss of
approximately $6,850,000 in the Statement of Operations. Although both of
these scenarios will result in material losses to the Company's
operations, it will not have any affect on the balance sheet since the
$12,772,200 loan amount is already shown as a reduction to Stockholders'
Equity.
o Christopher J. New
On July 8, 2004, Christopher J. New resigned from his position as Chief
Executive Officer in order to pursue other opportunities. In accordance
with the Separation and Settlement Agreement between the Company and Mr.
New, the Company recorded $444,883 related to the employment contract
expense in July 2004. This settlement will be paid out in nearly equal
installments over two years payable on the Company's regular payroll
dates. In addition to the compensation, the Company agreed that Mr. New's
stock option rights under that certain Non-Qualified Stock Option
Agreement dated December 5, 2002 (for 25,000 shares at an exercise price
of $1.67 per share) and that certain Non-Qualified Stock Option Agreement
dated July 16, 2001 (for 100,000 shares at an exercise price of $2.05 per
share) will continue in full force and effect as if he was still employed
by the Company. As of March 31, 2005, the remaining balance accrued was
$287,253 ($220,218 in short-term liabilities and $67,035 in long-term
liabilities).
In connection with the modification of the stock options as described
above, the Company recorded $22,000 as additional non-cash compensation
expense in the fiscal year ended March 31, 2005 pursuant to FIN 44 for
modifications that renew or increase the life on existing options. The
stock price on the date of the modification was $2.15.
o Michael E. Broll
On July 8, 2004, Michael E. Broll, a member of the Company's Board of
Directors, was appointed as the Chief Executive Officer upon the
resignation of Mr. New. The Company entered into a one-year employment
agreement with Mr. Broll pursuant to which Mr. Broll is entitled to
receive an annual base salary of $200,000 plus a performance bonus at the
discretion of the Board, standard health benefits, a housing allowance of
up to $3,500 per month and an auto allowance of $1,500 per month. The
employment agreement renews automatically for one-year periods unless
cancelled by either party ninety days prior to the end of the term. In the
event Mr. Broll's employment is terminated without cause, he will be
entitled to receive one year of his base salary as severance. Mr. Broll
received a discretionary cash bonus of $25,000 in the quarter ended March
31, 2005.
The Company currently has employment agreements with several of its key
employees that provide for up to five-year severance in the event they are
terminated without cause.
Litigation
On May 17, 2002, Schreiber Foods, Inc. of Green Bay, Wisconsin, filed a
lawsuit against the Company in the federal district court for the Eastern
District of Wisconsin ("Wisconsin lawsuit"), being Case No. 02-C-0498,
alleging various acts of patent infringement. The Complaint alleged that
the Company's machines for producing individually wrapped slices infringed
certain claims of U.S. Patents Nos. 5,112,632, 5,440,860, 5,701,724 and
6,085,680. Schreiber Foods was seeking a preliminary and permanent
injunction prohibiting the Company from further infringing acts and was
also seeking damages in the nature of either lost profits or reasonable
royalties.
On May 6, 2004, Schreiber Foods and the Company executed a settlement
agreement pursuant to which all claims in the patent infringement lawsuit
were dismissed. Pursuant to this settlement agreement, the Company
procured a worldwide, fully paid-up, nonexclusive license to own and use
all of the Company's individually wrapped slice equipment, which Schreiber
alleged infringed on Schreiber's patents. The Company was not obligated to
make any cash payment in connection with the settlement of the lawsuit or
the license granted in the settlement agreement. The settlement agreement
restricts the Company from using the slicing equipment to co-pack product
for certain specified manufacturers, however, the Company is not currently
engaged in any co-packing business with any of the specified parties, and
does not contemplate engaging in the future in any co-packing business
with the specified parties.
44
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
Pursuant to the settlement agreement, if, during the term of the license,
the Company receives an offer to purchase the Company or its business, the
Company must notify Schreiber of the offer and Schreiber will have the
option to match the offer or make a better offer to purchase the Company
or its business. Acceptance of the Schreiber offer is subject to the
approval by the Company's Board of Directors, however, if the Board of
Directors determines that the Schreiber offer is equal to or better than
the other offer, the Board of Directors must take all permitted actions to
accept the offer and recommend it to the Company's stockholders for
approval.
The term of the license extends through the life of all patents named in
the lawsuit (and all related patents) and is assignable by the Company in
connection with the sale of its business. In the event the assignee uses
the applicable equipment to manufacture private label product, and such
private label product accounts for more than 50% of the total product
manufactured on the applicable equipment, the assignee will be required to
pay Schreiber a royalty in an amount to be agreed upon by Schreiber and
the assignee, but in any event not more than $.20 per pound of product for
each pound of private label product manufactured by the assignee in any
year that exceeds the amount of private label product manufactured by the
Company in the year preceding the sale of the Company or its business. In
the event that the parties cannot agree upon a royalty rate, the assignee
retains the license rights but private label production must be maintained
at a level less than 50% of the total product manufactured on the
applicable equipment.
(9) Capital Stock
Non-Cash Compensation Related to Stock-Based Transactions
Effective April 1, 2003, the Company elected to record compensation
expense measured at fair value for all stock-based award transactions on
or after April 1, 2003 under the provisions of SFAS 123. Prior to April 1,
2003, the Company only recorded the fair value of stock-based awards
granted to non-employees or non-directors under the provisions of SFAS
123. The fair value of the stock-based award is determined on the date of
grant using the Black-Scholes pricing model and is expensed over the
vesting period of the related award. Prior to April 1, 2003, the Company
accounted for its stock-based employee and director compensation plans
under the accounting provisions of APB No. 25 as interpreted by FASB
Interpretation No. 44 ("FIN 44"). Any modifications of fixed stock options
or awards granted to employees or directors originally accounted for under
APB No. 25 may result in additional compensation expense under the
provisions of FIN 44. FIN 44 covers specific events that occurred after
December 15, 1998 and was effective as of July 1, 2000.
In accordance with the above accounting standards, the Company calculates
and records non-cash compensation related to its securities in the general
and administrative line item in the Statements of Operations on two
primary items:
a. Stock-Based Award Issuances
During the fiscal years ended March 31, 2005, 2004, and 2003, the
Company recorded $194,097, $643,272 and $153,238, respectively, as
non-cash compensation expense related to stock-based transactions
that were issued to and vested by employees, officers, directors and
consultants. This expense was computed in accordance with SFAS No.
123 only for stock-based transactions awarded to consultants prior
to April 1, 2003 and for all stock-based transactions awarded on or
after April 1, 2003.
b. Option Modifications for Awards granted to Employees or Directors
under APB No. 25
On October 11, 2002, the Company repriced all outstanding options
granted to employees prior to October 11, 2002 (4,284,108 shares at
former prices ranging from $2.84 to $10.28) to the market price of
$2.05 per share. Prior to the repricing modification, the options
were accounted for as a fixed award under APB No. 25. In accordance
with FIN 44, the repricing of the employee stock options requires
additional
45
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
compensation expense to be recognized and adjusted in subsequent
periods for changes in the price of the Company's common stock that
are in excess of the $2.05 stock price on the date of modification
(additional intrinsic value). If there is a decrease in the market
price of the Company's common stock compared to the prior reporting
period, the reduction is recorded as compensation income to reverse
all or a portion of the expense recognized in prior periods.
Compensation income is limited to the original base exercise price
(the intrinsic value) of the options. This variable accounting
treatment for these modified stock options began with the quarter
ended December 31, 2002 and such variable accounting treatment will
continue until the related options have been cancelled, expired or
exercised. There are 3,499,841 outstanding modified stock options
remaining as of March 31, 2005.
The Company recorded non-cash compensation expense of $193,649 and
$8,001 related to these modified options for the years ended March
31, 2005 and March 31, 2004. There was no non-cash compensation
expense recorded for the year ended March 31, 2003, as the market
price of the Company's stock at the end of the period was less than
the $2.05 intrinsic value of the modified options.
In connection with a Separation and Settlement Agreement dated July
8, 2004 between the Company and Mr. New, the Company agreed that Mr.
New's stock option rights under that certain Non-Qualified Stock
Option Agreement dated December 5, 2002 (for 25,000 shares at an
exercise price of $1.67 per share) and that certain Non-Qualified
Stock Option Agreement dated July 16, 2001 (for 100,000 shares at an
exercise price of $2.05 per share) would continue in full force and
effect as if he were still employed by the Company. The stock price
on the date of the modification was $2.15. In accordance with FIN 44
for modifications that renew or increase the life on existing
options, the Company recorded $22,000 as additional non-cash
compensation expense in the fiscal year ended March 31, 2005.
Employee Stock Purchase Plan
In January 1992, the Company's stockholders approved the 1991 Employee
Stock Purchase Plan (the "1991 Purchase Plan"). The 1991 Purchase Plan
provides for the sale of up to an aggregate of 85,714 shares of common
stock to eligible employees. Up to 500 shares may be purchased by each
eligible employee at the lesser of 85% of the fair market value of the
shares on the first or last business day of the six-month purchase periods
ending August 31 and February 28. Substantially all full-time employees
are eligible to participate in the plan. During the year ended March 31,
2005, 18,894 shares were issued under this plan at prices of $1.31 and
$1.23 per share. During the year ended March 31, 2004, 16,339 shares were
issued under this plan at prices of $1.49 and $1.96 per share. During the
year ended March 31, 2003, 9,880 shares were issued under this plan at
prices of $1.55 and $2.80 per share. The weighted average exercise price
of the shares issued were $1.27, $1.75, and $1.99 per share for the fiscal
years ended March 31, 2005, 2004 and 2003, respectively. As of March 31,
2005, there were 10,901 shares available for purchase under the 1991
Purchase Plan.
Stock Options
At March 31, 2005, the Company has three employee stock option plans,
which were adopted in 1987, 1991, and 1996 and has granted additional
non-plan stock options. Under the Company's stock option plans, qualified
and nonqualified stock options to purchase up to 200,500 shares of the
Company's common stock may be granted to employees and members of the
Board of Directors. The maximum and typical term of options granted under
the plans is ten years. Generally, options vest from zero to three years.
The Company estimated the fair value of all options issued during the
periods using the Black-Scholes option-pricing model. This model uses the
assumptions listed in Note 1 under Stock Based Compensation for each
period. The estimated fair value is then recorded as a charge to non-cash
compensation in the general and administrative line item in the Statement
of Operations. During the fiscal years ended March 31, 2005 and 2004, the
Company recorded $150,763 and $347,158, respectively, as non-cash
compensation expense related to options that were issued to and vested by
employees and directors. There was no non-cash compensation expense
recorded during the year ended March 31, 2003, because the Company
accounted for its stock-based employee and director compensation plans
under the accounting provisions of APB No. 25 and all options were issued
at market price on the date of the grant.
46
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
The following table summarizes information about activity under all stock
option plans:
Weighted-Average Weighted-Average
Exercise Price Fair Value of
Shares per Share Options Granted
------------- ------------------ --------------------
Balance, March 31, 2002 103,544 $ 4.54 --
Granted - at market 25,858 4.37 $2.51
Exercised (1,000) 4.25 --
Forfeited or Expired (23,096) 2.43 --
------------- ------------------
Balance, March 31, 2003 105,306 2.66 --
Granted - at market 914 2.90 $1.65
Exercised (7,911) 2.05 --
Forfeited or Expired (2,948) 4.96 --
------------- ------------------
Balance, March 31, 2004 95,361 2.64 --
Granted - at market 63,930 1.28 $0.77
Exercised (13,893) 1.36 --
Forfeited or Expired (429) 19.25 --
------------- ------------------
Balance, March 31, 2005 144,969 $ 2.11 --
============= ==================
The Company has also made individual issuances of non-qualified, non-plan
options. The following table summarizes information about non-plan stock
option activity:
Weighted-Average Weighted-Average
Exercise Price Fair Value of
Shares per Share Options Granted
------------- ------------------- -------------------
Balance, March 31, 2002 2,705,840 3.93 --
Granted - at market 3,907,041 3.51 $1.72
Forfeited or Expired (2,066,041) 2.06 --
------------- -------------------
Balance, March 31, 2003 4,546,840 3.17 --
Granted - at market 400,000 2.73 $0.77
Forfeited or Expired (300,000) 2.24 --
------------- -------------------
Balance, March 31, 2004 4,646,840 3.19 --
Granted - at market 270,000 1.69 $0.48
------------- -------------------
Balance, March 31, 2005 4,916,840 $ 3.02 --
============= ===================
On September 30, 2003, the stockholders of the Company approved the
issuance of 4,375,411 of these non-plan options of which 4,275,411 are
still outstanding as of March 31, 2005.
47
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
The following table summarizes information about plan and non-plan stock
options outstanding and exercisable at March 31, 2005:
Weighted-Average Weighted-Average
Range of Exercise Prices Options Outstanding Remaining Life Exercise Price
- -------------------------------- ------------------------------ --------------------- --------------------
$ 1.20 - 1.99 383,573 6.3 years $ 1.60
2.00 - 2.99 1,745,333 3.9 years 2.11
3.00 - 3.99 1,921,198 4.4 years 3.41
4.00 - 4.99 576,716 4.9 years 4.29
5.00 - 5.99 432,797 2.3 years 5.20
6.00 -10.28 2,192 3.2 years 8.39
------------------------------
5,061,809
==============================
Weighted-Average Weighted-Average Exercise
Range of Exercise Prices Options Exercisable Remaining Life Price
- -------------------------------- --------------------- --------------------- ---------------------------
$ 1.20 - 1.99 283,573 6.9 years $ 1.62
2.00 - 2.99 1,739,333 3.9 years 2.11
3.00 - 3.99 1,921,198 4.4 years 3.41
4.00 - 4.99 501,716 4.7 years 4.27
5.00 - 5.99 432,797 2.3 years 5.20
6.00 -10.28 2,192 3.2 years 8.39
---------------------
4,880,809
=====================
Stock Warrants
At March 31, 2005, the Company had outstanding warrants to purchase the
Company's common stock, which were issued in connection with sales
consulting, financial consulting, and financing arrangements. Information
relating to these warrants is summarized as follows:
Expiration Date Number of Warrants Exercise Price
----------------------- ------------------ --------------------
August 2005 7,143 2.05
December 2005 81,500 3.90
January 2006 33,571 2.05
April 2006 100,000 1.70
July 2006 500,000 2.00
July 2006 10,000 5.00
January 2007 42,592 5.74
June 2007 30,000 2.05
June 2007 122,549 5.52
May 2008 50,000 2.05
August 2008 1,429 2.05
January 2009 1,429 2.05
June 2009 100,000 1.97
June 2009 153,000 2.05
October 2009 500,000 1.15
October 2009 50,000 1.20
October 2009 500,000 2.00
June 2012 2,143 2.05
----------------
2,285,356
================
48
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
The Company estimates the fair value of all warrants issued during the
periods using the Black-Scholes option-pricing model. This model uses the
assumptions listed in Note 1 under Stock Based Compensation for each
period. The estimated fair value is then recorded as a charge to non-cash
compensation in the general and administrative line item in the Statement
of Operations or as a charge to additional paid-in capital in
Stockholders' Equity depending on the situation in which the warrant was
issued. During the fiscal years ended March 31, 2005, 2004, and 2003, the
Company granted warrants totaling 1,050,000, 700,000, and 264,692 shares,
respectively, to non-employees and non-directors. During the fiscal years
ended March 31, 2005, 2004, and 2003, the Company recorded $468,334,
$296,114 and $153,238, respectively, as non-cash compensation expense
related to warrants that were issued to and vested by non-employees and
non-directors.
Since the conversion of the Company's Series A convertible preferred stock
could have resulted in a conversion into an indeterminable numbers of
commons shares, the Company has determined that under the guidance in
paragraph 24 of EITF 00-19, it was prohibited from concluding that it had
sufficient authorized and unissued shares to net-share settle any warrants
or options issued to non-employees. Therefore, the Company has
reclassified the fair value of all warrants and options issued to
non-employees that were outstanding during the period that the Series A
convertible preferred stock was outstanding from April 2001 to October
2004 as a liability. Any changes in the fair value of the securities after
the initial valuation in April 2001 are marked to market during reporting
periods. During the fiscal years ended March 31, 2005, 2004, and 2003, the
Company recorded a loss/(gain) on the fair value of warrants of
($443,937), $242,835 and ($1,174,355), respectively, related to the change
in the fair value of the underlying warrants.
Reserved
At March 31, 2005, the Company has reserved common stock for future
issuance under all of the above arrangements totaling 7,372,702 shares.
Series A Convertible Preferred Stock
In connection with a Stock Repurchase Agreement dated October 6, 2004, BH
Capital Investments, LP and Excalibur Limited Partnership, the holders of
the Company's Series A convertible preferred stock (the "Series A
Preferred Holders"), converted 10,278 Series A convertible preferred
shares into approximately 600,000 shares of common stock. The value of
these converted Series A convertible preferred shares including accrued
dividends was $644,068. Simultaneously, the remaining 30,316 Series A
convertible preferred shares held by the Series A Preferred Holders were
acquired by the Company for a total price of $2,279,688. All previously
outstanding shares of the Series A convertible preferred stock of the
Company have now been cancelled. As part of the transaction, the each
former Series A Preferred Holder also received a warrant to purchase up to
250,000 shares of common stock at an exercise price of $2.00 per share for
a period of five years. The market price of the Company's common stock on
October 6, 2004 was $1.30. The fair value of the warrants is $205,000.
On April 6, 2001, the Company received from the Series A Preferred Holders
proceeds of approximately $3,082,000 less costs of $181,041 for the
issuance of 72,646 shares of the Company's Series A convertible preferred
stock with a face value of $3,500,000 and warrants to purchase shares of
the Company's common stock. The shares were subject to certain
designations, preferences and rights including the right to convert such
shares into shares of common stock at any time. The per share conversion
price was equal to the quotient of $48.18, plus all accrued and unpaid
dividends for each share of the Series A convertible preferred stock,
($62.66 at October 6, 2004), divided by the lesser of (x) $1.75 or (y) 95%
of the average of the two lowest closing bid prices of the Company's
common stock on the American Stock Exchange ("AMEX") out of the fifteen
trading days immediately prior to conversion.
In total, the Series A Preferred Holders converted 13,578, 13,490 and
15,262 shares of the Series A convertible preferred stock plus accrued
dividends, into 721,366, 459,908 and 624,936 shares of common stock,
respectively, during the years ended March 31, 2005, 2004 and 2003,
respectively. The conversion prices ranged from $1.07 to $1.75 based on
the above formula.
The Series A Preferred Holders had the right to receive on any outstanding
Series A convertible preferred stock a ten percent dividend
49
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
on the shares, payable one year after the issuance of such preferred
stock, and an eight percent dividend for the subsequent three years
thereafter, payable in either cash or shares of preferred stock. For the
years ended March 31, 2005, 2004 and 2003, the Company recorded preferred
dividends of $82,572, $201,791 and $264,314, respectively, on the
outstanding shares of the Series A convertible preferred stock.
On April 6, 2001, the Company recorded the initial carrying value of the
preferred stock as $521,848. Each quarter the Company calculated an
estimated redemption value of the remaining preferred stock and then
calculated the difference between the initial carrying value and this
estimated redemption value. The difference was then accreted over the
redemption period (48 months beginning April 2001) using the straight-line
method, which approximates the effective interest method. For the years
ended March 31, 2005, 2004 and 2003, the Company recorded $319,500,
$1,256,019, and $1,308,855, respectively, related to the accretion of the
redemption value of preferred stock.
Common Stock Issuances
See Note 19 for additional information on stock issuances subsequent to
March 31, 2005.
On October 6, 2004, the Company completed a private placement of its
common stock, whereby it issued a total of 2,000,000 shares to an existing
stockholder of the Company for aggregate gross proceeds to the Company of
$2,300,000. These proceeds were used to redeem the Company's Series A
convertible preferred stock as discussed above. The purchase price of the
shares was $1.15 per share (95% of the prior 5-day trading closing stock
price average). The stockholder also received a warrant to purchase up to
500,000 shares of the Company's common stock at an exercise price of $1.15
per share for a period of five years. The shares are restricted securities
that have not been registered under the Securities Act and may not be
offered or sold in the United States absent registration or applicable
exemptions and registration requirements.
In accordance with a registration rights agreement with the investor, the
Company agreed to file and obtain effectiveness of a registration
statement with the Securities and Exchange Commission ("SEC") within 180
days of closing to register the shares issued in the private placement and
to include the shares underlying the warrant described above. The Company
agreed that if a registration statement was not filed, or did not become
effective within the defined period of time, then in addition to any other
rights the investor may have, it would be required to pay certain
liquidated damages of $57,500 per month. The Company filed a registration
statement on Form S-3 on March 14, 2005. However, this registration
statement has not yet been declared effective. The Company has received
from the investor an extension of time until September 1, 2005 to have the
registration statement declared effective by the SEC. Additionally, the
investor waived all damages and remedies for failure to have an effective
registration statement until September 1, 2005.
The Emerging Issues Task Force ("EITF") is currently reviewing the
accounting for securities with liquidated damages clauses as stated in
EITF 05-04, "The Effect of a Liquidated Damages Clause on a Freestanding
Financial Instrument Subject to EITF 00-19." There are currently several
views as to how the account for this type of transaction and the EITF has
not yet reached a consensus. In accordance with EITF 00-19, "Accounting
for Derivative Financial Instruments Indexed To, and Potentially Settled
in the Company's Own Stock," and EITF 05-04, because the maximum potential
liquidated damages as described above may be greater than the difference
in fair values between registered and unregistered shares, the value of
the common stock subject to registration should be classified as temporary
equity until the registration statement becomes effective. Based on the
above determination, the Company has reclassified the $2,220,590 value of
common stock subject to registration out of permanent equity and into
temporary equity as of March 31, 2005.
Additionally, in accordance with EITF 00-19, and the terms of the above
warrants, the fair value of the warrants were accounted for as a
liability, with an offsetting reduction to the carrying value of the
common stock. The warrant liability will be reclassified to equity upon
the effective date of the registration statement. The fair value of the
warrant on October 6, 2004, was estimated at $315,000. On March 31, 2005,
the fair value of the warrant was re-measured and estimated at $740,000
(see Note 7). The increase of $425,000 was reflected as a loss in the fair
value of warrants line item in the Statement of Operations during the year
ended March 31, 2005.
50
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
In October 2003, pursuant to an employment contract, the Company issued
17,500 shares of its common stock with a total value of $37,650 to a
former employee for his services from January 2003 to July 2003. This
expense was recorded as non-cash compensation during the fiscal year ended
March 31, 2004.
In March 2002, Angelo S. Morini, the Company's founder, loaned $330,000 to
the Company in order for it to pay down certain notes payable that were
coming due. This loan bore interest at the prime rate and was due on or
before June 15, 2006. In connection with a Second Amended and Restated
Employment Agreement effective October 13, 2003 between Mr. Morini and the
Company, the Company offset $167,603 of unreimbursed advances owed to it
by Mr. Morini and certain family members against the balance of the loan
and issued an aggregate of 55,087 shares of the Company's common stock
(valued at approximately $2.95 per share) as payment in full.
Pursuant to seven Securities Purchase Agreements dated May 21, 2003, the
Company issued a total of 2,138,891 shares of its common stock at a price
per share equal to $1.80 for aggregate gross proceeds to the Company of
$3,850,000. Sales to related parties under the Securities Purchase
Agreements include: 555,556 shares of common stock sold at an aggregate
sales price of $1,000,000 to Frederick DeLuca, a greater than 5%
stockholder; 55,556 shares of common stock sold at an aggregate sales
price of $100,000 to David H. Lipka, a Director of the Company; 83,333 and
55,556 shares of common stock sold at an aggregate sales price of $150,000
and $100,000, respectively, to Ruggieri of Windermere Family Limited
Partnership and Ruggieri Financial Pension Plan, respectively, each an
affiliate of John Ruggieri, the Company's former Vice President of
Manufacturing; 1,111,112 shares of common stock sold at an aggregate sales
price of $2,000,000 to Fromageries Bel S.A., a leading branded cheese
company in Europe which signed a Master Distribution and Licensing
Agreement effective May 22, 2003 with the Company. Sales to non-related
parties under the Securities Purchase Agreements totaled 277,778 shares of
common stock sold at an aggregate sales price of $500,000.
The Company used $2,000,000 of the proceeds generated from these May 2003
private placements to pay down the balance of the Company's mezzanine loan
from FINOVA Mezzanine Capital, Inc. The Company then applied the
additional proceeds from the new loan from Wachovia Bank, as discussed in
Note 6, to pay the remaining $2,000,000 on the FINOVA Mezzanine loan. The
Company utilized the remainder of the private placement proceeds for
working capital and general corporate purposes.
In accordance with a warrant agreement dated September 30, 1999, the
exercise price on 200,000 warrants still held by FINOVA Mezzanine on May
30, 2003, was reduced from $3.41 to $1.80 per share based on the sales
price of the Company's common stock in May 2003. FINOVA Mezzanine
exercised these warrants to purchase 200,000 shares of the Company's
common stock on June 2, 2003. The Company received net proceeds of
$119,000 after a deduction of $241,000 due to FINOVA Capital Corporation
for waiver fees pursuant to a certain Amendment and Limited Waiver to
Security Agreement dated June 26, 2002.
In accordance with Section 4(2) of the Securities Act of 1933, as amended,
and pursuant to a Securities Purchase Agreement dated August 27, 2002, the
Company issued 65,404 shares of common stock for $4.08 per share in
settlement of an outstanding payable to Hart Design and Manufacturing,
Inc. in the amount of $266,848.
In accordance with Regulation D and pursuant to a certain common stock and
Warrants Purchase Agreement dated June 28, 2002, the Company sold 367,647
shares of common stock on June 28, 2002 for $4.08 (85% of an average
market price) and issued warrants to purchase 122,549 shares of common
stock at a price equal to $5.52 per share to Stonestreet Limited
Partnership. In connection with such sale, the Company issued 7,812 shares
of common stock to Stonestreet Corporation and 4,687 shares of common
stock to H&H Securities Limited in exchange for their services as finders.
Per the terms of the agreement, the Company received net proceeds of
$930,000, after the repayment of a $550,000 promissory note dated June 26,
2002 in favor of Excalibur Limited Partnership and payment of $20,000 for
Stonestreet Limited Partnership's costs and expenses related to the
purchase of these shares of common stock.
In accordance with Section 4(2) of the Securities Act of 1933, as amended,
and pursuant to a Food Service Brokerage Agreement dated June 25, 2002,
the Company issued 140,273 shares of common stock for $4.08 per share on
September 9, 2002 to certain food brokers in consideration for prior
services rendered valued at $572,310.
51
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
(10) Income Taxes
The components of the net deferred tax assets consist of the following:
March 31, 2005 2004
---------------------------------------------------------------------------------------------------------
Deferred tax assets:
Net operating loss carry forwards $14,732,000 $14,207,000
Non-deductible reserves 1,033,000 198,000
Investment, alternative minimum and general business tax credits 80,000 86,000
Accrued employment contract 520,000 596,000
Other 983,000 635,000
------------------------------
Gross deferred income tax assets 17,348,000 15,722,000
Valuation allowance (13,191,000) (11,816,000)
------------------------------
Total deferred income tax assets 4,157,000 3,906,000
Deferred income tax liabilities:
Depreciation and amortization (4,157,000) (3,906,000)
------------------------------
Net deferred income tax assets -- --
==============================
The valuation allowance increased by $1,375,000, $787,000, and $1,037,000
for the years ended March 31, 2005, 2004, and 2003, respectively. The
Company has recorded a valuation allowance to state its deferred tax
assets at estimated net realizable value due to the uncertainty related to
realization of these assets through future taxable income. In accordance
with EITF 05-08, "Income Tax Consequences of Issuing Convertible Debt with
a Conversion Feature," it is expected that temporary differences will
arise for the differences in accounting for convertible debt with
beneficial conversion features for book and tax purposes. Prior to EITF
05-08, the Company considered the bifurcated features to not result in
bases differences. The Company believes that the adoption of this standard
in fiscal 2006 will not have a significant impact on the financial
position, results of operations or cash flows of the Company.
The following summary reconciles differences from taxes at the federal
statutory rate with the effective rate:
--------------------------------------------------------------- -------------- ---------------- ----------------
Years ended March 31, 2005 2004 2003
--------------------------------------------------------------- -------------- ---------------- ----------------
Federal income taxes at statutory rates (34.0%) (34.0%) (34.0%)
Change in deferred tax asset valuation allowance 31.5% 26.6% (93.4%)
Non deductible expenses:
Non deductible compensation -- -- 93.7%
Imputed interest on note receivable 4.8% 7.0% (18.8%)
Other (2.3%) 0.4% 52.5%
-------------- ---------------- ----------------
Income taxes (benefit) at effective rates -- -- --
============== ================ ================
Unused net operating losses for income tax purposes, expiring in various
amounts from 2008 through 2025, of approximately $39,100,000 are available
at March 31, 2005 for carry forward against future years' taxable income.
Under Section 382 of the Internal Revenue Code, the annual utilization of
this loss may be limited in the event there are changes in ownership.
52
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
(11) Earnings Per Share
The following is a reconciliation of basic net earnings (loss) per share
to diluted net earnings (loss) per share:
Years ended March 31, 2005 2004 2003
------------------------------------------------------------------------------------------------------------
Net loss to common stockholders $(4,261,855) $(4,757,087) $(2,530,390)
===================================================
Weighted average shares outstanding - basic & diluted 17,007,791 14,937,005 12,110,349
===================================================
Basic & Diluted net loss per common share $ (0.25) $ (0.32) $ (0.21)
===================================================
Options for 5,061,809 shares and warrants for 2,285,356 shares have not
been included in the computation of diluted net income (loss) per common
share for the year ended March 31, 2005 as their effects were
antidilutive. Potential conversion of the Series A convertible preferred
stock for 1,522,658 shares, options for 4,742,201 shares and warrants for
1,242,856 shares have not been included in the computation of diluted net
income (loss) per common share for the year ended March 31, 2004 as their
effects were antidilutive. Potential conversion of the Series A
convertible preferred stock for 2,013,831 shares, options for 4,652,146
shares and warrants for 742,856 shares have not been included in the
computation of diluted net income (loss) per common share for the year
ended March 31, 2003 as their effects were antidilutive.
(12) Supplemental Cash Flow Information
Years ended March 31, 2005 2004 2003
-------------------------------------------------------------------------------------------------------------------
Non-cash financing and investing activities:
Purchase of equipment through capital lease obligations and term
notes payable $ 82,583 $ 55,672 $ 94,763
Amortization of consulting and directors fees paid through
issuance of common stock warrants 619,097 643,272 153,238
Reduction in accounts payable through issuance of notes payable -- -- 347,475
Reduction in accounts payable through issuance of common stock -- 37,650 839,158
Reduction in notes payable through issuance of common stock -- 162,424 --
Accrued preferred stock dividends 82,572 201,791 264,314
Accretion of discount on preferred stock 319,500 1,256,019 1,308,855
Cash paid for:
Interest 767,001 1,396,419 2,349,002
Income taxes -- -- 51,037
(13) Related Party Transactions
Angelo S. Morini
In June 1999, in connection with an amended and restated employment
agreement for Angelo S. Morini, the Company's Founder, the Company
consolidated two full recourse notes receivable ($1,200,000 from November
1994 and $11,572,200 from October 1995) related to the exercise of
2,914,286 shares of the Company's common stock into a single note
receivable in the amount of $12,772,200 that is due on June 15, 2006. This
single consolidated note is non-interest bearing and non-recourse and is
secured by the 2,914,286 underlying shares of the
53
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
Company's common stock. Per the October 2003 Second Amended and Restated
Employment Agreement between the Company and Mr. Morini (as detailed in
Note 8), this loan may be forgiven upon the occurrence of any of the
following events: 1) Mr. Morini is terminated without cause; 2) there is a
material breach in the terms of Mr. Morini's employment agreement; or 3)
there is a change in control of the Company for which Mr. Morini did not
vote "FOR" in his capacity as a director or a stockholder.
In connection with the October 2003 Second Amended and Restated Employment
Agreement, the Company issued an aggregate of 55,087 shares of the
Company's common stock to Mr. Morini (valued at approximately $2.95 per
share based on the average of the closing prices for the five trading days
preceding the effective date of the Agreement) in order to repay $162,397
of net advances that he had provided to the Company.
In October 2000, the Company obtained a $1.5 million bridge loan from
Wachovia Bank (as discussed in Note 6), which was guaranteed by Angelo S.
Morini and secured by one million of his above-mentioned 2,914,286 shares
of the Company's common stock. These one million shares were returned to
the Company when the loan was paid in full in February 2004.
On October 24, 2002, the Company entered into a special services agreement
with Angelo S. Morini, authorizing him to author and promote
"Veggiesizing, the stealth/health diet" book, which promotes the Company's
products. In consideration of these services and for his continued
personal pledges, the Company granted him 900,000 shares at the market
price of $2.05 on October 24, 2002. On December 4, 2002, as a result of
discussions and negotiations with certain major stockholders, Mr. Morini
cancelled these options with the Company and accepted new options to
acquire 510,060 shares of common stock - 200,000 options were granted at
an exercise price of $4.08 per share and 310,060 were granted at an
exercise price of $2.05 per share. These options expire on December 4,
2007. As a result of the cancellation and reissuance of options, the
Company will account for these options in accordance with variable
accounting standards.
On July 1, 2002, in consideration of his pledge of 250,000 shares of the
Company's common stock to secure a $550,000 promissory note by the Company
in favor of Excalibur Limited Partnership, the Company granted Mr. Morini
stock options to acquire 289,940 shares of common stock at an exercise
price of $5.17 (which price was 110% of the then market price) per share.
These options expire on July 1, 2007.
Other Related Party Transactions
Beginning January 13, 2003, the Company entered into a vendor arrangement
with one of its employees pursuant to which the employee purchased raw
materials for the Company approximating $500,000. The amounts paid for the
purchased materials, plus interest at the rate of 15% per annum on such
amounts, was due and paid in full by May 31, 2003.
On April 10, 2003, the Company entered into a credit arrangement with one
of its greater than 5% stockholders pursuant to which the stockholder
purchased raw materials for the Company in an aggregate amount that did
not exceed $500,000. The amounts paid for the purchased materials, plus
interest at the rate of 15% per annum on such amounts, was due and payable
in full on July 9, 2003. In consideration of the credit arrangement, the
Company issued to the stockholder a warrant to purchase 100,000 shares of
the Company's common stock at an exercise price of $1.70. The fair value
of this warrant was estimated at $63,000 and was recorded as non-cash
compensation expense in the quarter ended June 30, 2003. All amounts owed
under the credit arrangement were repaid in full and such credit
arrangement was terminated on June 27, 2003.
On May 22, 2003, the Company entered into a Master Distribution and
Licensing Agreement with Fromageries Bel S.A. ("Bel"), a leading branded
cheese company in Europe who is a greater than 5% stockholder in the
Company. Under the agreement, the Company granted Bel exclusive
distribution rights for the Company's products in a territory comprised of
the European Union States and to more than 21 other European countries and
territories (the "Territory"). The Company also granted Bel the exclusive
option during the term of the agreement to elect to manufacture the
products designated by Bel for distribution in the Territory. The term of
the agreement is ten years, provided that either of the parties may elect
to terminate the agreement by delivery of notice to the other between
March 24, 2007 and May 22, 2007, which termination shall be effective as
of the first anniversary of the date of the notice of termination.
Alternatively, the parties may mutually agree to continue operating under
the agreement, to convert the agreement to a manufacturing and license
agreement, or to terminate the agreement.
54
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
A director of the Company was paid consulting fees totaling $32,300 and
$77,520 for introductions into several large food service companies during
the fiscal years ended March 31, 2004 and 2003, respectively. Another
director of the Company was paid $59,000 for his consulting services on
marketing issues during each of the fiscal years ended March 31, 2005 and
2004.
(14) Economic Dependence
For the fiscal year ended March 31, 2005, the Company had one customer
that accounted for approximately 12% of net sales. As of March 31, 2005,
the customer owed the Company approximately $1,550,000 or 22% of the
Company's gross trade receivable balance. Additionally, the Company had
approximately $210,000 of inventory in stock as of March 31, 2005 related
to this customer. Based on information that arose in April 2005 after the
products were shipped, the Company determined that collection of the
outstanding receivable balance and inventory amounts were in question as
of March 31, 2005 and therefore, reserved 100% of these amounts in its
reserve for trade receivables and inventory at year-end. We do not expect
further sales to this customer after April 2005, but do expect that we
will have another customer that will exceed 10% of our net sales in the
fiscal year ending March 31, 2006.
For the fiscal years ended March 31, 2004 and 2003, the Company did not
have any customer that comprised more than 10% of net sales.
For the fiscal year ended March 31, 2005, the Company purchased $9,193,000
of products from four suppliers totaling approximately 55% of total raw
material purchases for the fiscal year. For the fiscal year ended March
31, 2004, the Company did not have any supplier that comprised more than
10% of total raw material purchases. For the fiscal year ended March 31,
2003, the Company purchased approximately $2,238,000 from one supplier
totaling approximately 13% of raw material purchases for the fiscal year.
(15) Employee Benefit Plan
The Company has a 401(k) defined contribution plan covering all employees
meeting certain minimum age and service requirements. The Company's
matching contributions to the plan are determined by the Board of
Directors. On August 1, 2003, the Company match was raised from 25% to a
maximum of 50% of the employee's contribution up to 6% of the employee's
compensation. Company contributions to the plan amounted to $56,170,
$35,807 and $21,820 for the fiscal years ended March 31, 2005, 2004 and
2003, respectively.
(16) Fourth Quarter Adjustments
During the fourth quarter of fiscal 2005, the Company recorded the
following adjustments:
Bad debt on accounts receivable $ 1,605,783
Inventory write-offs 676,181
See Note 14 for a further explanation on the cause of a large portion of
the large fourth quarter adjustments. In March 2005, the Company reviewed
its inventory and wrote off the value of unsalable items that it would no
longer use in production due to low margins, low volume, change in
inventory formulas or loss of customer.
There were no significant or unusual adjustments in the fourth quarter of
fiscal 2004 and 2003.
(17) Restatement
The Company originally concluded under EITF 00-19, "Accounting for
Derivative Financial Instruments Indexed To, and Potentially Settled in
the Company's Own Stock," that the conversion feature was conventional and
that there was no need to bifurcate the conversion right during the period
the Series A convertible preferred shares were outstanding. Subsequent to
the redemption of the remaining preferred shares, it has been determined
that certain features of the conversion option resulted in treatment
different from that historically reflected.
The preferred stock was a fixed-income security with no participating
rights and the dividend was 10% per annum in the first year and 8% per
annum in the second, third and fourth years. Therefore, consistent with
55
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
paragraph 61(l) of SFAS No. 133, "Accounting for Derivative Instruments
and Hedging Activities," the Company has concluded that the conversion
option was not clearly and closely related to the host instrument.
Ordinarily, an issuer does not need to bifurcate a conversion right from a
convertible instrument. However, in accordance with paragraph 4 of EITF
00-19, the Company has determined that due to the fact that the embedded
conversion option contained a provision that could have resulted in a
conversion into an indeterminable numbers of commons shares, that the
conversion feature was in fact "unconventional". Further, since the
conversion right embedded in the preferred stock has been considered a
derivative, the related dividends are also considered derivative
instruments. As a result, the embedded derivative was a liability that was
required to be bifurcated from the preferred stock and this liability
should have been marked to market during reporting periods. The fair value
of the derivative instrument was determined using the Black-Scholes
pricing model.
Based on this determination, the Company has reflected an increase in
additional paid-in-capital and accumulated deficit in the amount of
$1,703,246 as of March 31, 2005 and a derivative liability of $806,993 for
the year ended March 31, 2004 (See Note 7). For the years ended March 31,
2005, 2004, 2003 and 2002 the Company has restated net income to record a
derivative benefit/(expense) of $62,829, ($94,269), ($105,704) and
($1,504,455), respectively related to the change in the fair value of the
embedded derivative instruments.
Additionally, since the conversion of the Series A convertible preferred
stock could have resulted in a conversion into an indeterminable numbers
of commons shares, the Company has determined that under the guidance in
paragraph 24 of EITF 00-19, it was prohibited from concluding that it had
sufficient authorized and unissued shares to net-share settle any warrants
or options issued to non-employees. Therefore, the Company has
reclassified the fair value of all warrants and options issued to
non-employees that were outstanding during the period that the Series A
convertible preferred stock was outstanding from April 2001 to October
2004 as a liability. Any changes in the fair value of the securities after
the initial valuation in April 2001 should have been marked to market
during reporting periods.
Based on this determination, the Company has reflected a decrease in
additional paid-in-capital and accumulated deficit in the amount of
($1,319,562) as of March 31, 2005 and a warrant liability of $806,993 for
the year ended March 31, 2004 (See Note 7). For the years ended March 31,
2005, 2004, 2003 and 2002, the Company has restated net income to record a
gain/(loss) on the fair value of warrants of $443,937, ($242,835),
$1,174,355 and ($55,895), respectively, related to the change in the fair
values of the warrants.
In June 1999, in connection with an amended and restated employment
agreement for Angelo S. Morini, the Company's Founder, the Company
consolidated two full recourse notes receivable ($1,200,000 non-interest
bearing from November 1994 and $11,572,200 bearing interest at 7% from
October 1995) related to the exercise of 2,914,286 shares of its common
stock into a single non-recourse and non-interest bearing note receivable
in the amount of $12,772,200 that is due on June 15, 2006. This single
consolidated note is secured by the 2,914,286 shares that were exercised.
Due to the modification of the note terms from recourse to non-recourse,
the Company accounted for the note as if it was a newly issued option per
EITF 95-16, "Accounting for Stock Compensation Arrangements with Employer
Loan Features under APB Opinion No. 25," and due to the modification from
interest bearing to non-interest bearing, the option was treated as
variable and marked to market each period. The Company has now concluded
that the interest and recourse features of the note receivable from Mr.
Morini issued in June 1995 were non-substantive, and that the notes
executed by Mr. Morini in favor of the Company in connection with the
exercise of Mr. Morini's options embodied the same attributes as those of
the original option award. Although the 1999 note consolidation triggered
a new measurement date, the award continued to include the same attributes
associated with the original option, other than the term extension.
Therefore, the revised consolidated note in June 1999 represented a fixed
option award and should not have been marked to market during the
reporting periods. For the years ended March 31, 2003, 2002 and 2001, the
Company has restated net income to record a gain/(loss) related to
non-cash compensation expense of ($3,060,000), $1,960,000, and $1,100,000.
All of the above issues relate to accounting for securities that are
reflected as income or expense through earnings as non-cash charges. These
non-cash charges do not affect the Company's revenues, cash flows from
past or future operations, or its liquidity.
56
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
The following table summarizes the changes in the Statement of Operations
as of March 31, 2005:
As Previously
Reported Adjustment As Restated
------------ ------------ ------------
Income (Loss) From Operations (3,236,572) 425,000 (2,811,572)
Interest Expense (1,129,977) -- (1,129,977)
Derivative (Expense)/Benefit -- 62,829 62,829
Gain/(Loss) on FV of Warrants -- 18,937 18,937
------------ ------------ ------------
Net Loss (4,366,549) 506,766 (3,859,783)
Less:
Preferred Stock Dividends 82,572 -- 82,572
Preferred Stock Accretion to
Redemption Value 203,605 115,895 319,500
------------ ------------ ------------
Net Loss to Common Stockholders (4,652,726) 390,871 (4,261,855)
============ ============ ============
Basic and Diluted Net Loss per
Common Share (0.27) 0.02 (0.25)
============ ============ ============
The following table summarizes the changes in the Statement of Operations
as of March 31, 2004:
As Previously
Reported Adjustment As Restated
------------ ------------ ------------
Income (Loss) From Operations (1,600,567) -- (1,600,567)
Interest Expense (1,361,606) -- (1,361,606)
Gain/(Loss) on FV of Warrants -- (242,835) (242,835)
Derivative (Expense)/Benefit -- (94,269) (94,269)
------------ ------------ ------------
Net Loss (2,962,173) (337,104) (3,299,277)
Less:
Preferred Stock Dividends 201,791 -- 201,791
Preferred Stock Accretion to
Redemption Value 1,340,943 (84,924) 1,256,019
------------ ------------ ------------
Net Loss to Common Stockholders (4,504,907) (252,180) (4,757,087)
============ ============ ============
Basic and Diluted Net Loss per
Common Share (0.30) (0.02) (0.32)
============ ============ ============
The following table summarizes the changes in the Statement of Operations
as of March 31, 2003:
As Previously
Reported Adjustment As Restated
------------ ------------ ------------
Income (Loss) From Operations 4,017,343 (3,060,000) 957,343
Interest Expense (2,923,215) -- (2,923,215)
Other (60,000) -- (60,000)
Gain/(Loss) on FV of Warrants -- 1,174,355 1,174,355
Derivative (Expense)/Benefit -- (105,704) (105,704)
------------ ------------ ------------
Net Income (Loss) 1,034,128 (1,991,349) (957,221)
Less:
Preferred Stock Dividends 264,314 -- 264,314
Preferred Stock Accretion to
Redemption Value 1,370,891 (62,036) 1,308,855
------------ ------------ ------------
Net Loss to Common Stockholders (601,077) (1,929,313) (2,530,390)
============ ============ ============
Basic and Diluted Net Loss per
Common Share (0.05) (0.16) (0.21)
============ ============ ============
57
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
The following table summarizes the changes in the Statement of Operations
as of March 31, 2002:
As Previously
Reported Adjustment As Restated
------------ ------------ ------------
Income (Loss) From Operations $(11,847,541) $ 1,960,000 $ (9,887,541)
Interest Expense (3,594,091) -- (3,594,091)
Other (57,520) -- (57,520)
Gain/(Loss) on FV of Warrants -- (55,895) (55,895)
Derivative (Expense)/Benefit -- (1,566,102) (1,566,102)
------------ ------------ ------------
Loss before Taxes (15,499,152) 338,003 (15,161,149)
Income Tax Expense (1,560,000) -- (1,560,000)
------------ ------------ ------------
Net Income (Loss) (17,059,152) 338,003 (16,721,149)
Less:
Preferred Stock Dividends 709,400 -- 709,400
Preferred Stock Accretion to Redemption
Value 1,379,443 (61,647) 1,317,796
------------ ------------ ------------
Net Loss to Common Stockholders $(19,147,995) $ 399,650 $(18,748,345)
============ ============ ============
Basic and Diluted Net Loss per Common
Share $ (1.81) $ 0.03 $ (1.78)
============ ============ ============
The following table summarizes the changes in the Statement of Operations
as of March 31, 2001:
As Previously
Reported Adjustment As Restated
------------ ------------ ------------
Income (Loss) From Operations $ (3,867,237) $ 1,100,000 $ (2,767,237)
Interest Expense (2,047,097) -- (2,047,097)
Other (25,000) -- (25,000)
Income Tax Benefit 240,000 -- 240,000
Cumulative Effect of Change in
Accounting Policy (786,429) -- (786,429)
------------ ------------ ------------
Net Income (Loss) to Common Stockholders $ (6,485,763) $ 1,100,000 $ (5,385,763)
============ ============ ============
Basic and Diluted Net Loss per Common
Share $ (0.69) $ 0.12 $ (0.57)
============ ============ ============
58
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
(18) Quarterly Operating Results (Unaudited)
Unaudited quarterly operating results are summarized as follows:
Three Months Ended (Unaudited)
------------------------------------------------------------
2005 March 31 December 31 September 30 June 30
------------ ------------ ------------ ------------
Net sales $ 10,785,379 $ 10,632,877 $ 11,900,553 $ 11,191,678
Gross margin 1,909,635 2,343,326 2,580,584 2,940,348
Net income (loss), as previously stated (2,545,790) (739,401) (839,762) (241,596)
Adjustment -- (276,072) 1,062,853 (280,015)
------------ ------------ ------------ ------------
Net income (loss), as restated (2,545,790) (1,015,473) 223,091 (521,611)
============ ============ ============ ============
Net income (loss) for common stockholders, as
previously stated (2,545,790) (739,401) (571,372) (796,163)
Adjustment -- (322,406) 981,761 (268,484)
------------ ------------ ------------ ------------
Net income (loss) for common stockholders, as (2,545,790) (1,061,807) 410,389 (1,064,647)
restated
============ ============ ============ ============
Basic & diluted net income (loss) per common
share, as previously stated (0.14) (0.04) (0.04) (0.05)
Adjustment -- (0.02) 0.07 (0.02)
------------ ------------ ------------ ------------
Basic & diluted net income (loss) per common (0.14) (0.06) 0.03 (0.07)
share, as restated
============ ============ ============ ============
Stockholders' equity, as previously stated 7,022,523 9,363,062 7,162,551 7,726,530
Adjustment (2,220,590) (2,233,866) (634,332) (1,711,854)
------------ ------------ ------------ ------------
Stockholders' equity, as restated 4,801,933 7,129,196 6,528,219 6,014,676
============ ============ ============ ============
Three Months Ended (Unaudited)
--------------------------------------------------------
2004 March 31 December 31 September 30 June 30
----------- ----------- ----------- -----------
Net sales $ 8,512,702 $ 9,638,571 $ 9,329,907 $ 8,695,781
Gross margin 2,745,256 2,922,821 2,999,930 2,644,665
Net income (loss), as previously stated 614,430 (1,378,354) (228,145) (1,970,104)
Adjustment 1,167,909 1,043,584 (244,532) (2,304,065)
----------- ----------- ----------- -----------
Net income (loss), as restated 1,782,339 (334,770) (472,677) (4,274,169)
=========== =========== =========== ===========
Net income (loss) for common stockholders, as
previously stated 906,277 (1,557,986) (933,385) (2,919,813)
Adjustment 1,173,926 1,064,838 (211,984) (2,278,960)
----------- ----------- ----------- -----------
Net income (loss) for common stockholders, as 2,080,203 (493,148) (1,145,369) (5,198,773)
restated
=========== =========== =========== ===========
Basic & diluted net income (loss) per common
share, as previously stated 0.06 (0.10) (0.06) (0.21)
Adjustment 0.07 0.07 (0.02) (0.17)
----------- ----------- ----------- -----------
Basic & diluted net income (loss) per common 0.13 (0.03) (0.08) (0.38)
share, as restated
=========== =========== =========== ===========
Stockholders' equity, as previously stated 8,226,481 7,497,656 8,404,579 9,191,983
Adjustment (1,471,891) (2,721,236) (4,001,393) (3,770,658)
----------- ----------- ----------- -----------
Stockholders' equity, as restated 6,754,590 4,776,420 4,403,186 5,421,325
=========== =========== =========== ===========
59
(19) Subsequent Events
Warrant Exercises
In accordance with a warrant agreement dated April 10, 2003, the Company
issued to Mr. Frederick DeLuca a warrant to purchase up to 100,000 shares
of common stock of the Company at an exercise price of $1.70 per share.
Additionally, in accordance with a warrant agreement dated October 6,
2004, the Company issued to Mr. DeLuca a warrant to purchase up to 500,000
shares of common stock of the Company at an exercise price of $1.15 per
share. Subsequently, the Company agreed to reduce the per-share exercise
price on these warrants to $1.36 and $0.92, respectively, in order to
induce Mr. DeLuca to exercise his warrants. All of the warrants were
exercised on June 16, 2005 for total proceeds of $596,000.
On each of April 24, 2003 and October 6, 2004, BH Capital Investments, LP
and Excalibur Limited Partnership each received warrants to purchase up to
250,000 shares of common stock at an exercise price of $2.00 per share.
Also, Excalibur Limited Partnership received a warrant to purchase up to
30,000 shares at an exercise price of $2.05 per share on June 26, 2002.
Subsequently, the Company agreed to reduce the per-share exercise price on
all such warrants to $1.10 in order to induce BH Capital Investments, LP
and Excalibur Limited Partnership to exercise their warrants. All of the
warrants were exercised on June 16, 2005 for total proceeds of $1,133,000.
The Company used a portion of the proceeds from the warrant exercises to
satisfy the $750,000 over-advance provided by Textron under the Fourth
Amendment and Waiver to the Textron Loan Agreement, as described in Note 6
and the remaining proceeds from the warrant exercises will be used for
working capital purposes as needed in the future.
60
GALAXY NUTRITIONAL FOODS, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
Asset Sale and Outsourcing Arrangements
On June 30, 2005, the Company entered into an Outsourcing Supply Agreement
(the "Outsourcing Agreement") with Schreiber Foods, Inc. ("Schreiber")
whereby Schreiber will manufacture and distribute all of the Company's
products. The Company simultaneously entered into an Asset Purchase
Agreement with Schreiber whereby Schreiber will purchase substantially all
of the Company's production machinery and equipment for a total of
$8,700,000.
The Asset Purchase Agreement is scheduled to close on or about November 1,
2005. The closing is subject to the satisfaction of various conditions,
including approval of the sale by the Company's stockholders and approval
by the Company's lenders.
The Outsourcing Agreement is for an initial five-year period from the
effective date of September 1, 2005 and is renewable at the Company's
option for up to two additional five-year periods. On or before November
1, 2005, Schreiber will purchase the Company's remaining raw materials,
ingredients and packaging at the Company's cost. Schreiber will bill the
Company when it ships each order of finished products to the Company or
its customers, based on a pre-determined price matrix.
The Outsourcing Agreement provides for a contingent short-fall payment
obligation by the Company if a specified production level is not met
during the second year of the Outsourcing Agreement. If a contingent
short-fall payment is accrued after the second year, it may be reduced at
the end of the third year if the production level during the third year
exceeds the specified level of production. If the sale of the assets to
Schreiber for $8,700,000 as contemplated by the Asset Purchase Agreement
is not consummated, then the Company will not be required to pay any such
short-fall payment.
If the Company does not exercise its option to renew the Outsourcing
Agreement at the end of the initial five-year period, there is a
cancellation charge of $1.5 million. If the Company does not exercise its
option to renew the Outsourcing Agreement at the end of the second
five-year period, there is a cancellation charge of $750,000. If the sale
of the assets to Schreiber for $8,700,000 as contemplated by the Asset
Purchase Agreement is not consummated, then the Company will not be
required to pay any such cancellation charge.
The Company is currently reviewing the costs associated with these
anticipated transactions and believes that they will have a material
impact on the Company's financial position, results of operations, and
cash flows during its fiscal year ending March 31, 2006.
Bank Loan Modification
On June 30, 2005, the Company entered into a Loan Modification Agreement
with Wachovia Bank, N.A. regarding its loan. The agreement modified the
following terms of the loan: 1) the loan will mature and be payable in
full on July 31, 2006 instead of June 1, 2009; 2) the principal payments
will remain at $110,000 per month with accrued interest at Wachovia's Base
Rate plus 1% instead of increasing to $166,250 on July 1, 2005 as provided
by the terms of the promissory note evidencing the loan; and 3) all
covenants related to the Company's tangible net worth, total liabilities
to tangible net worth, and maximum funded debt to EBITDA ratios are waived
and compliance is not required by the Company through the maturity of the
loan on July 31, 2006. In connection with the agreement, the Company
agreed to pay $60,000, of which $30,000 was paid upon execution of the
agreement and $30,000 is due on August 1, 2005. As required by the terms
of the agreement, if the Company sells the equipment as discussed above,
the loan will be due and payable in full at the time of sale.
61
ITEM 9A. CONTROLS AND PROCEDURES.
As of March 31, 2005, an evaluation was performed under the supervision and with
the participation of our management, including the Chief Executive Officer
("CEO"), and the Chief Financial Officer ("CFO"), of the effectiveness of the
design and operation of our disclosure controls and procedures to insure that
the Company records, processes, summarizes and reports in a timely and effective
manner the information required to be disclosed in reports filed with or
submitted to the Securities and Exchange Commission. Based on that evaluation,
our management, including the CEO and CFO, concluded that our disclosure
controls and procedures were effective in timely bringing to their attention
material information related to our Company required to be included in our
periodic Securities and Exchange Commission filings.
Subsequent to the date of our evaluation, each of our Company's CEO and CFO
considered the restatement of the selected financial data, the management's
discussion and analysis of financial conditions and results of operations, and
the restatement of the financial statements presented in Part II, Items 6, 7 and
8, respectively, included in this Form 10-K/A and concluded that such
restatements were the result of a material weakness relating to the accounting
and disclosure for complex and non-standard stockholders' equity transactions.
To address our Company's material weakness related to the accounting and
disclosure for complex and non-standard stockholders' equity transactions, we
are in the process of enhancing our internal control processes in order to be
able to comprehensively review the accounting and disclosure implications of
such transactions on a timely basis.
62
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
Financial Statements
The following financial statement documents are filed as part of this Form
10-K/A:
Balance Sheets at March 31, 2005 and 2004
Statements of Operations for the years ended March 31, 2005, 2004, and
2003
Statement of Stockholders' Equity for the years ended March 31, 2005,
2004, and 2003
Statements of Cash Flows for the years ended March 31, 2005, 2004, and
2003
Notes to Financial Statements
Exhibits
The following Exhibits are filed as part of this Form 10-K/A:
Exhibit No Exhibit Description
* 3.1 Restated Certificate of Incorporation of the Company as filed
with the Secretary of State of the State of Delaware on
December 23, 2002 (Filed as Exhibit 3.2 on Form 10-Q for the
fiscal quarter ended December 31, 2002.)
* 3.2 By-laws of the Company, as amended (Filed as Exhibit 3.2 to
Registration Statement on Form S-18, No. 33-15893-NY.)
* 4.1 Stock Purchase Option Agreement and Stock Purchase Warrant by
and between Excalibur Limited Partnership and BH Capital
Investments, L.P. and Galaxy Nutritional Foods dated as of
April 24, 2003 (Filed as Exhibit 10.52 on Form 10-Q for the
fiscal quarter ended June 30, 2003.)
* 4.2 Warrant to Purchase Securities of Galaxy Nutritional Foods,
Inc. dated as of May 29, 2003 in favor of Wachovia Bank (Filed
as Exhibit 10.7 on Form 8-K filed June 2, 2003.)
* 4.3 Securities Purchase Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Fromageries Bel S.A. (Filed
as Exhibit 10.8 on Form 8-K filed June 2, 2003.)
* 4.4 Registration Rights Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Fromageries Bel S.A. (Filed
as Exhibit 10.9 on Form 8-K filed June 2, 2003.)
* 4.5 Securities Purchase Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Frederick A. DeLuca (Filed
as Exhibit 10.10 on Form 8-K filed June 2, 2003.)
* 4.6 Registration Rights Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Frederick A. DeLuca (Filed
as Exhibit 10.11 on Form 8-K filed June 2, 2003.)
* 4.7 Securities Purchase Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Apollo Capital Management
Group, L.P. (Filed as Exhibit 10.12 on Form 8-K filed June 2,
2003.)
* 4.8 Registration Rights Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Apollo Capital Management
Group, L.P. (Filed as Exhibit 10.13 on Form 8-K filed June 2,
2003.)
* 4.9 Securities Purchase Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Apollo MicroCap Partners,
L.P. (Filed as Exhibit 10.14 on Form 8-K filed June 2, 2003.)
63
* 4.10 Registration Rights Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Apollo MicroCap Partners,
L.P. (Filed as Exhibit 10.15 on Form 8-K filed June 2, 2003.)
* 4.11 Securities Purchase Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Ruggieri of Windermere
Family Limited Partnership (Filed as Exhibit 10.16 on Form 8-K
filed June 2, 2003.)
* 4.12 Registration Rights Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Ruggieri of Windermere
Family Limited Partnership (Filed as Exhibit 10.17 on Form 8-K
filed June 2, 2003.)
* 4.13 Securities Purchase Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Ruggieri Financial Pension
Plan (Filed as Exhibit 10.18 on Form 8-K filed June 2, 2003.)
* 4.14 Registration Rights Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and Ruggieri Financial Pension
Plan (Filed as Exhibit 10.19 on Form 8-K filed June 2, 2003.)
* 4.15 Securities Purchase Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and David Lipka (Filed as
Exhibit 10.20 on Form 8-K filed June 2, 2003.)
* 4.16 Registration Rights Agreement dated as of May 21, 2003 between
Galaxy Nutritional Foods, Inc. and David Lipka (Filed as
Exhibit 10.21 on Form 8-K filed June 2, 2003.)
* 4.17 Stockholder Agreement dated as of October 13, 2003 between
Galaxy Nutritional Foods, Inc. and Angelo S. Morini (Filed as
Exhibit 10.55 on Form 10-Q for the fiscal quarter ended
September 30, 2003.)
* 4.18 Securities Purchase Agreement dated as of October 6, 2004
between Galaxy Nutritional Foods, Inc. and Frederick A. DeLuca
(Filed as Exhibit 4.18 on Form 8-K filed October 8, 2004.)
* 4.19 Registration Rights Agreement dated as of October 6, 2004
between Galaxy Nutritional Foods, Inc. and Frederick A. DeLuca
(Filed as Exhibit 4.19 on Form 8-K filed October 8, 2004.)
* 4.20 Warrant to Purchase Securities of Galaxy Nutritional Foods,
Inc. dated as of October 6, 2004 in favor of Frederick A.
DeLuca (Filed as Exhibit 4.20 on Form 8-K filed October 8,
2004.)
* 4.21 Stock Repurchase Agreement dated as of October 6, 2004 by and
among Galaxy Nutritional Foods, Inc., BH Capital Investments
L.P. and Excalibur Limited Partnership (Filed as Exhibit 4.21
on Form 8-K filed October 8, 2004.)
* 4.22 Registration Rights Agreement dated as of October 6, 2004 by
and among Galaxy Nutritional Foods, Inc., BH Capital
Investments L.P. and Excalibur Limited Partnership (Filed as
Exhibit 4.22 on Form 8-K filed October 8, 2004.)
* 4.23 Warrant to Purchase Securities of Galaxy Nutritional Foods,
Inc. dated as of October 6, 2004 in favor of BH Capital
Investments L.P. (Filed as Exhibit 4.23 on Form 8-K filed
October 8, 2004.)
* 4.24 Warrant to Purchase Securities of Galaxy Nutritional Foods,
Inc. dated as of October 6, 2004 in favor of Excalibur Limited
Partnership (Filed as Exhibit 4.24 on Form 8-K filed October
8, 2004.)
* 4.25 Asset Purchase Agreement dated June 30, 2005 between Galaxy
Nutritional Foods, Inc. and Schreiber Foods, Inc. (Filed as
Exhibit 4.25 on Form 8-K filed July 6, 2005.)
* 10.1 Master Distribution and License Agreement dated as of May 22,
2003 between Galaxy Nutritional Foods, Inc. and Fromageries
Bel S.A. (Filed as Exhibit 10.22 on Form 8-K filed June 2,
2003.)
* 10.2 Loan and Security Agreement dated as of May 27, 2003 between
Galaxy Nutritional Foods, Inc. and Textron Financial
Corporation (Filed as Exhibit 10.1 on Form 8-K filed June 2,
2003.)
64
* 10.3 Patent, Copyright and Trademark Collateral Security Agreement
dated as of May 27, 2003 between Galaxy Nutritional Foods,
Inc. and Textron Financial Corporation (Filed as Exhibit 10.2
on Form 8-K filed June 2, 2003.)
* 10.4 Renewal Promissory Note in the principal amount of
$10.131,984.85 dated as of May 28, 2003 by Galaxy Nutritional
Foods, Inc. in favor of Wachovia Bank (Filed as Exhibit 10.3
on Form 8-K filed June 2, 2003.)
* 10.5 Renewal Promissory Note in the principal amount of $501,000.00
dated as of May 28, 2003 by Galaxy Nutritional Foods, Inc. in
favor of Wachovia Bank (Filed as Exhibit 10.4 on Form 8-K
filed June 2, 2003.)
* 10.6 Amendment of Loan Agreement dated as of May 28, 2003 between
Galaxy Nutritional Foods, Inc. and Wachovia Bank (Filed as
Exhibit 10.5 on Form 8-K filed June 2, 2003.)
* 10.7 Amendment of Security Agreement dated as of May 28, 2003
between Galaxy Nutritional Foods, Inc. and Wachovia Bank
(Filed as Exhibit 10.6 on Form 8-K filed June 2, 2003.)
* 10.8 Waiver Letter from Textron Financial Corporation to the
Company dated August 13, 2003 (Filed as Exhibit 10.53 on Form
10-Q for the fiscal quarter ended June 30, 2003.)
* 10.9 Second Amended and Restated Employment Agreement dated as of
October 13, 2003 between Galaxy Nutritional Foods, Inc. and
Angelo S. Morini (Filed as Exhibit 10.1 on Form 8-K filed
October 20, 2003.)
* 10.10 Settlement Agreement dated May 6, 2004 between Galaxy
Nutritional Foods, Inc. and Schreiber Foods, Inc. (Filed as
Exhibit 10.1 on Form 8-K filed May 11, 2004.)
* 10.11 Modification Letter on the Security Agreement dated as of May
21, 2004 between Galaxy Nutritional Foods, Inc. and Wachovia
Bank (Filed as Exhibit 10.11 on Form 10-K for the fiscal year
ended March 31, 2004.)
* 10.12 Second Amendment to Loan and Security Agreement dated June 25,
2004 between Galaxy Nutritional Foods, Inc. and Textron
Financial Corporation (Filed as Exhibit 10.12 on Form 10-K for
the fiscal year ended March 31, 2004.)
* 10.13 Third Amendment to Lease Agreement dated June 10, 2004 between
Galaxy Nutritional Foods, Inc. and Cabot Industrial
Properties, L.P. (Filed as Exhibit 10.13 on Form 10-K for the
fiscal year ended March 31, 2004.)
* 10.14 Separation and Settlement Agreement dated July 8, 2004 between
Galaxy Nutritional Foods, Inc. and Christopher J. New (Filed
as Exhibit 10.14 on Form 8-K filed July 13, 2004.)
* 10.15 Employment Agreement dated July 8, 2004 between Galaxy
Nutritional Foods, Inc. and Michael E. Broll (Filed as Exhibit
10.15 on Form 8-K filed July 13, 2004.)
* 10.16 Third Amendment to Loan and Security Agreement dated November
10, 2004 between Galaxy Nutritional Foods, Inc. and Textron
Financial Corporation (Filed as Exhibit 10.16 on Form 10-Q for
the fiscal quarter ended December 31, 2004.)
* 10.17 Fourth Amendment to Loan and Security Agreement dated June 3,
2005 between Galaxy Nutritional Foods, Inc. and Textron
Financial Corporation (Filed as Exhibit 10.17 on Form 8-K
filed June 22, 2005.)
* 10.18 Letter Agreement dated June 17, 2005 between Galaxy
Nutritional Foods, Inc. and Textron Financial Corporation
(Filed as Exhibit 10.18 on Form 8-K filed June 22, 2005.)
65
* 10.19 Supply Agreement dated June 30, 2005 between Galaxy
Nutritional Foods, Inc. and Schreiber Foods, Inc. (Filed as
Exhibit 10.19 on Form 8-K filed July 6, 2005.)
* 10.20 Loan Modification Agreement June 30, 2005 between Galaxy
Nutritional Foods, Inc. and Wachovia Bank N.A (formerly
SouthTrust Bank). (Filed as Exhibit 10.20 on Form 8-K filed
July 6, 2005.)
* 14.1 Code of Ethics (Filed as Exhibit 14.1 on Form 10-K for the
fiscal year ended March 31, 2005.)
* 20.1 Audit Committee Charter (Filed as Exhibit 20.1 on Form 10-Q
for the fiscal quarter ended September 30, 2003.)
* 20.2 Compensation Committee Charter (Filed as Exhibit 20.2 on Form
10-Q for the fiscal quarter ended September 30, 2003.)
23.1 BDO Seidman, LLP Consent Letter (Filed herewith.)
31.1 Section 302 Certification of our Chief Executive Officer
(Filed herewith.)
31.2 Section 302 Certification of our Chief Financial Officer
(Filed herewith.)
32.1 Section 906 Certification of our Chief Executive Officer
(Filed herewith.)
32.2 Section 906 Certification of our Chief Financial Officer
(Filed herewith.)
* Previously filed and incorporated herein by reference.
66
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
GALAXY NUTRITIONAL FOODS, INC.
(Registrant)
Date: October 7, 2005 /s/ Michael E. Broll
-----------------------------------
Michael E. Broll
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
Date: October 7, 2005 /s/ Michael E. Broll
-----------------------------------
Michael E. Broll
Chief Executive Officer & Director
(Principal Executive Officer)
Date: October 7, 2005 /s/ Salvatore J. Furnari
-----------------------------------
Salvatore J. Furnari
Chief Financial Officer & Vice
President of Finance
(Principal Financial &
Accounting Officer)
Date: October 7, 2005 /s/ David H. Lipka
-----------------------------------
David H. Lipka
Director and Chairman of the Board
Date: October 7, 2005 /s/ Joanne R. Bethlahmy
-----------------------------------
Joanne R. Bethlahmy
Director
Date: October 7, 2005 /s/ Thomas R. Dyckman
-----------------------------------
Thomas R. Dyckman
Director
Date: October 7, 2005 /s/ Charles L. Jarvie
-----------------------------------
Charles L. Jarvie
Director
Date: October 7, 2005 /s/ Angelo S. Morini
-----------------------------------
Angelo S. Morini
Director
Date: October 7, 2005 /s/ Patrice M.A. Videlier
----------------------------------
Patrice M.A. Videlier
Director
67