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SECURITES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 26, 2005
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15 (d) OF THE EXCHANGE ACT
COMMISSION FILE NUMBER 0-9478
__________________________
SPECTRUM LABORATORIES, INC.
(Exact name of small business registrant as specified in its charter)
DELAWARE 95-4718363
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
18617 BROADWICK STREET, RANCHO DOMINGUEZ, CALIFORNIA 90220
(Address of principal executive offices) (zip code)
Registrant's telephone number, including area code: (310) 885-4600
Indicate by check mark whether the issuer (1) filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or
for such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
Number of shares of Common Stock outstanding as of April 29, 2005: 5,312,468
TRANSITIONAL SMALL BUSINESS DISCLOSURE FORMAT
YES [ ] NO [X]
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Part I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheet as of March 26, 2005 3
Consolidated Statements of Income for the Three Months
Ended March 26, 2005 and March 27, 2004 4
Consolidated Statements of Cash Flows for the Three
Months Ended March 26, 2005 and March 27, 2004 5
Notes to Consolidated Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 9
Item 3. Controls and Procedures 11
Part II - OTHER INFORMATION
Item 1. Legal Proceedings 11
Item 2. Changes in Securities 11
Item 3. Defaults Upon Senior Securities 11
Item 4. Submission of Matters to a Vote of Security Holders 11
Item 5. Other Information 11
Item 6. Exhibits and Reports on Form 8-K 11
Signature
Exhibits Certifications - Chief Executive Officer and
Chief Financial Officer 12
2
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
SPECTRUM LABORATORIES, INC.
CONSOLIDATED BALANCE SHEET
AS OF MARCH 26, 2005
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
(UNAUDITED)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 7,517
Marketable securities 388
Accounts receivable, net of allowances of $196 1,788
Inventories 2,788
Prepaid expenses 106
Deferred taxes 525
-------
Total current assets 13,112
INVESTMENT IN MARKETABLE SECURITIES 671
EQUIPMENT AND LEASEHOLD IMPROVEMENTS,
net of accumulated depreciation of $6,327 1,248
GOODWILL 1,122
DEFERRED TAXES 1,196
PATENTS, subject to amortization, net of accumulated
amortization of $257 493
OTHER ASSETS - Principally Artwork of $986 1,027
-------
Total assets $18,869
=======
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current maturities of long-term debt $ 1,020
Accounts payable 522
Accrued expenses and other current liabilities 521
-------
Total current liabilities 2,063
LONG-TERM DEBT, net of current maturities 4,810
PREFERRED STOCK of SUBSIDIARY - SLI ACQUISITION CORP 1,755
STOCKHOLDERS' EQUITY:
Preferred stock, par value $.01; 10,000,000 shares
authorized; none issued and outstanding --
Common stock, $.01 par value, 25,000,000 shares
authorized; 5,312,468 shares issued and outstanding 53
Additional paid-in capital 8,636
Accumulated other comprehensive income 403
Retained earnings 1,149
-------
Total stockholders' equity 10,241
-------
Total liabilities and stockholders' equity $18,869
=======
The accompanying notes are an integral part of these consolidated financial
statements.
3
SPECTRUM LABORATORIES, INC.
CONSOLIDATED STATEMENTS OF INCOME
THREE MONTHS ENDED MARCH 26, 2005 AND MARCH 27, 2004
(IN THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS)
(UNAUDITED)
2005 2004
------- -------
NET SALES $ 2,990 $ 3,090
COSTS AND EXPENSES
Cost of sales 1,799 1,807
Selling, general and administrative 1,031 942
Research and development 206 223
Other expense, primarily interest 82 23
------- -------
Total costs and expenses 3,118 2,995
------- -------
(Loss) income before (benefit) provision of
income taxes (128) 95
(Benefit) provision for income taxes (45) 25
------- -------
Net (loss) income $ (83) $ 70
======= =======
(Loss) earnings per share:
Basic $ (0.02) $ 0.01
======= =======
Diluted $ (0.02) $ 0.01
======= =======
Weighted average shares outstanding:
Basic 5,312 5,312
======= =======
Diluted 5,312 5,513
======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
4
SPECTRUM LABORATORIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE MONTHS ENDED MARCH 26, 2005 AND MARCH 27, 2004
(IN THOUSANDS)
(UNAUDITED)
2005 2004
------- -------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) income $ (83) $ 70
Adjustments to reconcile net (loss) income to net cash
(used in) operating activities:
Depreciation and amortization 190 206
Noncash compensation and warrant related expense 3 3
Change in working capital components:
(Increase) in accounts receivable (135) (340)
Decrease (Increase) in inventories 28 (77)
(Increase) Decrease in prepaid expenses (20) 32
Increase (Decrease) in accounts payable 8 (33)
(Decrease) Increase in accrued expenses (11) 20
------- -------
NET CASH (USED IN) OPERATING ACTIVITIES (20) (119)
------- -------
CASH FLOWS (USED IN) INVESTING ACTIVITIES:
Investment in marketable securities (388) --
Acquisition of equipment and leasehold improvements (24) (123)
------- -------
NET CASH (USED IN) INVESTING ACTIVITIES (412) (123)
------- -------
CASH FLOWS (USED IN) FINANCING ACTIVITIES:
Principal payments of long-term debt (170) (240)
------- -------
NET DECREASE IN CASH AND CASH EQUIVALENTS (602) (482)
CASH AND CASH EQUIVALENTS, beginning of period 8,119 3,837
------- -------
CASH AND CASH EQUIVALENTS, end of period $ 7,517 $ 3,355
======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
5
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1
Basis of Presentation - The accompanying unaudited financial statements
consolidate the accounts of Spectrum Laboratories, Inc. and its subsidiaries,
SLI Acquisition Corp., Spectrum Europe B.V. and Spectrum Chromatography
(collectively, the Company). All significant intercompany transactions have been
eliminated in consolidation
Unaudited Interim Financial Statements - The unaudited consolidated financial
statements and related notes have been prepared pursuant to the rules and
regulations of the Securities and Exchange Commission (SEC). Accordingly,
certain information and footnote disclosures normally included in financial
statements prepared in accordance with accounting principles generally accepted
in the United States of America have been omitted pursuant to such rules and
regulations. The accompanying consolidated financial statements of the Company
should be read in conjunction with the audited consolidated financial statements
of the Company, and notes thereto, for the year ended December 25, 2004. The
information furnished reflects, in the opinion of management, all adjustments,
consisting of normal recurring accruals, necessary for a fair presentation of
the results of the interim periods presented. Operating results of the interim
period are not necessarily indicative of the amounts that will be reported for
the year ending December 31, 2005.
Long-lived Assets - The Company recognizes impairment losses for long-lived
assets used in operations when indicators of impairment are present and the
future undiscounted cash flows are not sufficient to recover the assets'
carrying amount. Management believes there has been no impairment of the value
of such assets. The analysis of indicators of impairment and future cash flows
are estimates made by management.
Patents - The Company has acquired patents utilized within the various
manufacturing processes. These patents are amortized over their respective
lives, typically 17 years. Management believes there has been no impairment in
the value of these patents.
Estimates & Reserves - The Company's principal reserves relate to accounts
receivable and inventory. A detailed review of these reserves is done annually
with a general review quarterly. The Company believes these reserve are adequate
and the amounts are consistent with prior year's level. A significant estimate
is made in the annual impairment testing of goodwill. Changes in management's
estimate of fair value of the Company could result in future impairment charges.
Accounting for Stock-based Compensation - The Company accounts for stock-based
employee compensation under the requirements of Accounting Principles Board
(APB) Opinion No. 25, which does not require compensation to be recorded if the
consideration to be received is at least equal to fair value at the measurement
date. Nonemployee stock-based transactions are accounted for under the
requirements of the Financial Accounting Standards Board's (FASB) Statement of
Financial Accounting Standards (SFAS) No. 123, "ACCOUNTING FOR STOCK-BASED
COMPENSATION", which requires compensation to be recorded based on the fair
value of the securities issued or the services received, whichever is more
reliably measurable.
SFAS No. 123 requires the disclosure of pro forma net income and earnings per
share had the Company adopted the fair value method. Under SFAS No. 123, the
fair value of stock-based awards to employees is calculated through the use of
option-pricing models, even though such models were developed to estimate the
fair value of freely tradable, fully transferable options with vesting
restrictions which significantly differ from the Company's stock option awards.
These models also require subjective assumptions, including future stock price
volatility and expected time to exercise, which greatly affect the calculated
value.
The calculations are based on a single-option valuation approach and forfeitures
are recognized as they occur. The following table illustrates the effect on net
income and earnings per share had compensation cost for stock-based compensation
been determined based on the grant date fair values of awards (in thousands
except share data - refer to next page for table):
6
Note 1 Accounting for Stock-Based Compensation (Continued):
Three Months Ended
--------------------
March 26, March 27,
2005 2004
------- -------
Net income:
As reported $ (83) $ 70
Add total stock-based compensation
expense determined under APB opinion
25, net of related tax effects 3 3
(Deduct) total stock-based employee
compensation expense determined
under the fair value method based for all
awards, net of related tax benefits (22) (15)
------- -------
$ (102) $ 58
======= =======
Basic earnings (loss) per share:
As reported $ (0.02) $ 0.01
Pro forma $ (0.02) $ 0.01
Diluted earnings (loss) per share:
As reported $ (0.02) $ 0.01
Pro forma $ (0.02) $ 0.01
Weighted average shares outstanding:
Basic 5,312 5,312
======= =======
Diluted 5,312 5,513
======= =======
Note 2 - Inventories
Inventories are stated at the lower of cost or market, determined using the
first-in, first-out method, or net realizable value and are composed of the
following (in thousands):
Raw materials $ 2,466
Work in process 217
Finished goods 714
-------
3,397
Less reserve for slow moving & obsolete items (609)
-------
$ 2,788
=======
Note 3 - Earnings per Share
Basic earnings per share is computed by dividing the net income attributable to
the common stockholders by the weighted average number of common shares
outstanding during the period. There is no adjustment in the net income
attributable to common stockholders. Diluted earnings per share reflect the
potential dilution that could occur from common shares issuable through stock
options and warrants, 0 equivalent shares in the first fiscal quarter of 2005
due to quarterly net loss and 201,351, equivalent shares in the first quarter of
fiscal year 2004.
7
Note 4 - Income Taxes
In assessing the realizability of deferred tax assets, management has estimated
that it is likely that approximately $1,500,000 will not be realized. This
valuation allowance represents a portion of net operating loss carryforwards
attained through a prior business acquisition. As further discussed below, tax
law limits the use of an acquired entity's net operating loss carryforwards to
subsequent taxable income of the consolidated entity. Management will continue
to evaluate the realizability of the deferred tax assets by assessing the need
for and amount of a valuation allowance.
At December 25, 2004, the Company had approximately $5.2 million in net
operating loss carryforwards for federal income tax purposes available to offset
future taxable income. Certain of these loss carryforwards are limited to
approximately $298,000 annually. Any unused net operating loss is carried
forward. As a result of the limitation discussed above, it is probable that
approximately $1.5 million of the Company's net operating loss will expire
without utilization.
Note 5 - Product Group Information
While management has determined the Company operates as a single reportable
segment, the Company's product groups are based on specific product
characteristics and are grouped into bioprocessing products ("BioProcessing"),
formerly referred to as laboratory products, and disposable operating room
products ("OR"). BioProcessing products consist primarily of membranes and
modules used to filter, extract, concentrate, separate and purify. These
products are sold primarily to laboratories, research institutions, biotech and
pharmaceutical companies. OR products consist primarily of sterile surgical
drapes and bandages that are sold primarily to hospitals and their suppliers.
Revenue by product group is as follows (in thousands):
SEGMENT SALES:
Three Months Ended
---------------------
March 26, March 27,
2005 2004
------ ------
BioProcessing $2,592 $2,666
OR 398 424
------ ------
$2,990 $3,090
====== ======
Note 6 - Option Plan
The Company has an option plan referred to as the 2000 Option Plan (the "2000
Option Plan" or "Plan") with 600,000 shares of common stock reserved for option
grants to key employees, directors and consultants. Exercise prices for the
stock options will not be less than 100% of the fair market value of the stock
on the date of grant. Options under the Plan expire not more than ten years from
date of grant. Options under the Plan become exercisable over a 5 year period
(20% per year). As of March 26, 2005, there were 574,050 options outstanding
under the 2000 Option Plan. There were no options granted or forfeited during
the three months ended March 26, 2005.
In addition to the 2000 Option Plan there are 265,624 non qualified stock
options outstanding and 125,000 warrants.
8
Note 7- Comprehensive Income
Comprehensive income is comprised of net income and Other Comprehensive Income
("OCI"). OCI includes certain changes in stockholders' equity that are excluded
from net income. Specifically, the Company includes in OCI changes in the fair
value of unrealized gains and losses on Spectrum's available for sale
securities. The activity in comprehensive income during the three month period
ended March 26, 2005 was as follows (in thousands):
Three Months
Ended March
26, 2005
------------
Net (loss) $ (83)
Unrealized (loss) on investment in
marketable securities (290)
Tax benefit 116
------------
Comprehensive income $ (257)
============
The activity in accumulated OCI, net of taxes for the three months ended March
26, 2005 was as follows (in thousands):
Unrealized gain on securities available
for sale (net of tax effect of $384
at the beginning of the year) $ 577
Change in unrealized gain on securities
available for sale (net of tax effect
of $116) (174)
------------
Unrealized gain on securities available
for sale as of March 26, 2005, (net of
tax effect of $268) $ 403
============
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion should be read in conjunction with the Consolidated
Financial Statements of Spectrum Laboratories, Inc. and Notes thereto contained
elsewhere within this Report on Form 10-QSB. Except for the historical
information contained herein, the following discussion may contain
forward-looking statements that involve risks and uncertainties. The actual
future results of the Company could differ materially from those discussed here.
Factors that could cause or contribute to such differences include, but are not
limited to, those discussed in this report and those factors discussed in the
Company's Form 10-KSB for the year ended December 25, 2004 as filed with the
Securities and Exchange Commission and, from time to time, in the Company's
other reports on file with the Commission.
Results of Operations
Sales
Total sales for the first quarter ended March 26, 2005 totaled $2,990,000, a
decrease of $100,000 (3.2%), when compared to first quarter 2004. From a product
perspective sales for both BioProcessing and OR products were below prior year
by $74,000 (2.8%) and $26,000 (6.1%), respectively.
Gross Margin
Gross margin for the first quarter of 2005 was $1,191,000 (39.8%) versus prior
year first quarter margin of $1,283,000 (41.5%). Current year quarterly margin
was negatively impacted by lower sales and a higher scrap rate.
Selling, General & Administrative ("SG&A") and Research & Developmental
Expenses ("R&D")
During the first quarter of 2005 R&D expenses were $206,000 while SG&A expenses
were $1,031,000 resulting in a slight decrease in R&D expenses of $17,000
(7.68%) while SG&A expenses increased $89,000 (9.4%), when compared to first
quarter of 2004. The decline in R&D expenditures principally related to a
specific consulting agreement with a university in 2004 that totaled
approximately $15,000. The increase in SG&A relates to $20,000 increase in legal
expenditures, relating to Spectrum going private process. In addition, Spectrum
has incurred increased executive management expenses of approximately $50,000
relating to its new President.
9
Net Income
Considering the above, net loss for the quarter was $83,000 versus net income of
$70,000 in the first quarter of 2004.
Liquidity and Capital Resources
Cash used by operations for the first three months of 2005 was $20,000. Working
capital components consumed cash of $130,000 principally due to the increase in
accounts receivable of $135,000. Cash used in operating activities was also
impacted by financing activity relating to $170,000 in bank loan payments and
$24,000 in investing activity associated with the acquisition of equipment. This
resulted in a net decrease in cash and current marketable securities for the
first quarter of 2004 of $214,000 resulting in cash and current marketable
securities balance at March 26, 2005 of $7,905,000.
Spectrum was not in compliance with one of its loan in covenants as of March 26,
2005 relating to cash flow to debt coverage. The Company received a covenant
violation waiver from its bank on May 17, 2005.
In December of 2001 Spectrum entered into a specific research, licensing,
manufacturing and supply agreements (the "Agreements") with an unrelated
company, now known as Arbios Systems, Inc. ("Arbios"). These Agreements, among
other aspects, resulted in Spectrum being granted 362,669 shares of Arbios.
Arbios became a public company on October 30, 2003 and is now listed on the OTC
Bulleting Board under the symbol of ABOS.OB. Arbios is an early-stage biomedical
device company engaged in the discovery, acquisition and development of
proprietary liver assist devices and new technologies useful in the diagnosis
and treatment of acute liver failure. In compliance with SFAS No. 115 based on
the listed trade price of $2.50 per share Spectrum allocated $907,000 as the
fair market value reflecting this amount as accumulated other comprehensive
income on its balance sheet as of December 27, 2003. The amount of the Arbios
investment was adjusted to $961,000 as of December 25, 2004, per the listed
trade quote of $2.65. Based on Arbios most recent trade price of $1.85, as of
March 26, 2005, Spectrum reflected a decrease in fair market value during the
first quarter of 2005 of $290,000 to $671,000 on its balance sheet as of March
26, 2005. Spectrum has classified this amount as a non current asset as it
realizes there have been limited trades in Arbios and the potential to sell the
stock may be limited. In addition, due to Arbios being an early stage
developmental company, this investment may be subject to significant
adjustments.
The Company is obligated under the terms of various operating lease agreements
for manufacturing, warehouse and office facilities. Certain of these leases
provide for rent escalation adjustments. Minimum future rental payments under
these operating lease agreements for the final three quarters ending December
31, 2005 and the subsequent years ending December 31 are as follows: final three
quarters 2005 $442,000 and $106,000 year ending 2006 (total $548,000).
Subsequent Events
The Board of Directors of Spectrum elected on October 6, 2004 to amend its
Certificate of Incorporation to effect a 1 for 25,000 reverse stock split, upon
SEC approving the transaction. Stockholders, subsequent to the reverse stock
split, holding fractional shares, would be paid $2.56 per share for each pre
reverse stock split share. The Board of Directors then elected to effectuate a
going private transaction as subsequent to the reverse stock split the Company
anticipates it will only have 3 shareholders.
To effectuate the above transactions Spectrum filed a Schedule 14C Information
Statement with the Securities and Exchange Commission ("SEC") on October 12,
2004 with an amended Schedule 14C filed on March 2, 2005 In addition the Company
filed a Schedule 13E-3 Transaction Statement on October 13, 2004 with a
subsequent amended Schedule 13E-3A being filed on October 19, 2004 with an
additional amended Schedule 13E-3A being filed on March 2, 2005. It is
anticipated the reverse stock split and the Company becoming private will be
effective in the second quarter of 2005. The Company has recognized
approximately $85,000 in expense relating to going private, $20,000 in the first
quarter of fiscal 2005 and $65,000 in fiscal 2004.
Item 3. Controls and Procedures
As of the end of the period covered by this report, the Company conducted an
evaluation, under the supervision and with the participation of the principal
executive officer and principal financial officer, of the Company's disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934 (the "Exchange Act")). Based on this evaluation,
the principal executive officer and principal financial officer concluded that
the Company's disclosure controls and procedures are effective to ensure that
information required to be disclosed by the Company in reports that it files or
submits under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in Securities and Exchange Commission rules
and forms. There was no change in the Company's internal control over financial
reporting during the Company's most recently completed fiscal quarter that has
materially affected, or is reasonably likely to materially affect, the Company's
internal control over financial reporting.
10
Part II. OTHER INFORMATION
Item 1. Legal Proceedings
None
Item 2. Change in Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
31 (a) & (b) Rule 13a-14(a)/15d-14(a) Certifications
32 (a) & (b) 18 U.S.C. Section 1350 Certifications
(b) The Company filed one Form 8-K during the quarter ended March
26, 2005 on January 5, 2005 relating to Stonefield Josephson,
Inc. being named Spectrum's principal independent accountant.
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized, on May 16, 2005.
SPECTRUM LABORATORIES, INC.
(Registrant)
/s/ Roy T. Eddleman
--------------------
Signature
Roy T. Eddleman
Chief Executive Officer
/s/ Brian A. Watts
-------------------
Signature
Brian A. Watts
Chief Financial Officer/Vice President of Finance
11