UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
ANNUAL REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 25, 2004
Commission File No. 0-9478
SPECTRUM LABORATORIES, INC.
(Exact Name of small business registrant as specified in its charter)
Delaware 95-4718363
-------- ----------
(State or other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
18617 Broadwick Street
Rancho Dominguez, California 90220
---------------------------- -----
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (310) 885-4600
Securities registered under Section 12(b) of the Exchange Act: None
Securities registered under Section 12(g) of the Exchange Act:
Common Stock
(Title of Class)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form and no disclosure will 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-KSB
or any amendment to this Form 10-KSB [ ].
State issuer's revenues for its most recent fiscal year: $13,250,000
The aggregate market value of voting stock held by nonaffiliates of the
registrant is $182,682 as of February 28, 2005, based on the $2.23 per share bid
closing price for the Common Stock in the over-the-counter market on such date,
representing 81,920 shares held by nonaffiliates.
Number of shares of Common Stock outstanding as of April 7, 2005: 5,312,468
TABLE OF CONTENTS
FORM 10-KSB ANNUAL REPORT
FOR THE YEAR ENDED DECEMBER 25, 2004
SPECTRUM LABORATORIES, INC.
Item No. Page
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PART I
1. Description of Business ....................................................................... 3
1-2. Sales & Distribution .......................................................................... 4
1-3. Production & Purchasing ....................................................................... 4
1-4. Patents Trademarks & Licenses ................................................................. 4
1-5. Dependence on Single Customer or Product ...................................................... 5
1-6. Backlog ....................................................................................... 5
1-7. Competition .................................................................................... 5
1-8. Government Regulations.......................................................................... 5
1-9. Research & Development ........................................................................ 6
1-10. Number of Persons Employed .................................................................... 6
1-11. Financial Information About Geographic Areas ................................................... 6
2. Description of Property ....................................................................... 6
3. Legal Proceedings ............................................................................. 7
4. Submission of Matters to a Vote of Security Holders ............................................ 7
PART II
5. Market for Common Equity, and Related Shareholder Matters and Small Business Issuer
Purchases of Equity Securities ................................................................. 7
6. Management's Discussion and Analysis or Plan of Operations .................................... 8
7. Financial Statements .......................................................................... 10
8. Changes In and Disagreements with Accountants on Accounting and Financial Disclosure ........... 10
8A. Controls and Procedures ....................................................................... 11
8B. Other Information ............................................................................. 11
PART III
9. Directors, and Executive Officers of the Registrant,............................................ 11
10. Executive Compensation.......................................................................... 13
11. Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters............................................................................. 15
12. Certain Relationships and Related Transactions.................................................. 15
13. Exhibits, Lists and Reports on Form 8-K......................................................... 16
14. Principle Accountant Fees and Services.......................................................... 18
2
PART I
FORWARD LOOKING STATEMENTS
THIS ANNUAL REPORT ON FORM 10-KSB (THE REPORT) MAY BE DEEMED TO INCLUDE OR
INCORPORATE FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 27A OF THE
SECURITIES ACT OF 1933 AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934
THAT INVOLVE RISK AND UNCERTAINTY, INCLUDING FINANCIAL, BUSINESS ENVIRONMENT AND
PROJECTIONS, AS WELL AS STATEMENTS THAT ARE PRECEDED BY, FOLLOWED BY, OR THAT
INCLUDE THE WORDS "BELIEVES," "EXPECTS," "ANTICIPATES," "SHOULD" OR SIMILAR
EXPRESSIONS, AND OTHER STATEMENTS CONTAINED HEREIN REGARDING MATTERS THAT ARE
NOT HISTORICAL FACTS. ADDITIONALLY, THE REPORT CONTAINS FORWARD-LOOKING
STATEMENTS RELATING TO FUTURE PERFORMANCE, GOALS, STRATEGIC ACTIONS AND
INITIATIVES AND SIMILAR INTENTIONS AND BELIEFS, INTENTIONS AND THE LIKE
REGARDING FUTURE SALES, EARNINGS, RETURN ON EQUITY, SHARE REPURCHASES, CAPITAL
EXPENDITURES AND OTHER MATTERS. THESE STATEMENTS INVOLVE ASSUMPTIONS REGARDING
THE COMPANY'S OPERATIONS, INVESTMENTS, ACQUISITIONS AND CONDITIONS IN THE
MARKETS THE COMPANY SERVES. ALTHOUGH THE COMPANY BELIEVES ITS EXPECTATIONS ARE
BASED ON REASONABLE ASSUMPTIONS, SUCH STATEMENTS ARE SUBJECT TO RISK AND
UNCERTAINTIES, INCLUDING, AMONG OTHERS, CERTAIN ECONOMIC, POLITICAL AND
TECHNOLOGICAL FACTORS. ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE STATED
OR IMPLIED IN THE REPORT, DUE TO, BUT NOT LIMITED TO, SUCH FACTORS AS (1)
CHANGES IN PRICING AND THE COMPETITIVE ENVIRONMENT, (2) OTHER CHANGES IN THE
BUSINESS ENVIRONMENT IN WHICH THE COMPANY OPERATES, (3) CHANGES IN RESEARCH
FUNDING, (4) UNCERTAINTIES SURROUNDING GOVERNMENT HEALTHCARE REFORM, (5)
GOVERNMENT REGULATIONS APPLICABLE TO THE BUSINESS, (6) THE IMPACT OF
FLUCTUATIONS IN INTEREST RATES AND FOREIGN CURRENCY EXCHANGE RATES, (7) THE
EFFECTIVENESS OF THE COMPANY'S FURTHER IMPLEMENTATION OF ITS SOFTWARE SYSTEMS,
(8) THE ABILITY TO RETAIN CUSTOMERS, SUPPLIERS AND EMPLOYEES (9) CHANGES IN
WORLDWIDE TAX RATES OR TAX BENEFITS FROM INTERNATIONAL OPERATIONS.
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL
Spectrum Laboratories, Inc. (the "Company" or "Spectrum") a Delaware Corporation
was originally incorporated under the laws of the state of California in June
1980 as Immutron, Inc. In November 1982 the Company changed its name to Spectrum
Laboratories, Inc. The Company reincorporated in Delaware in September 1998. The
Company's principal executive offices are located at 18617 Broadwick Street,
Rancho Dominguez, California 90220.
On March 21, 2005, the Company filed a Preliminary Information Statement with
the Securities and Exchange Commission reporting that the Company decided to
amend its Certificate of Incorporation to effectuate a 1 to 25,000 reverse stock
split. As a result of the reverse stock split, the Company will have only three
stockholders. The Company's common stock will cease to be listed on the OTC
Bulletin Board after the reverse split, and the Company will cease to file
periodic reports with the Securities and Exchange Commission. The reverse stock
split was unanimously by the Board of Directors at a meeting on October 6, 2004
and by holders of 98.4% of the outstanding shares of Common Stock by written
consent pursuant to the Delaware General Business Law. The Company plans to
amend its certificate of incorporation once it has received clearance by the SEC
and has mailed a Definitive Information Statement to its shareholders.
PRODUCT GROUPS
The Company consists of three product groups, Bioprocessing, scaled from
laboratory bench top to manufacturing of diagnostics and pharmaceuticals,
Original Equipment Manufacturing ("OEM") and Operating Room Disposables which
define the company's approach to serving customers.
The Bioprocessing unit sells membranes, membrane devices and other products used
by customers at universities, government institutions, non-profit organizations,
pharmaceutical, diagnostic and biotechnology companies. These products are
originally used for life science research and high technology applications with
some applications growing into GMP ("Good Manufacturing Practices") for
diagnostics and pharmaceuticals.
The Original Equipment Manufacturing (OEM) unit supplies separations devices to
companies developing proprietary products for Cell Therapy, Cell Expansion,
Implants and Molecular/ Micro filtration for in vivo and ex-vivo applications.
3
The Disposable Operating Room unit sells orthopedic and arthroscopic drapes,
sterile microscope covers, tissue carriers and other disposables to hospital and
clinic operating rooms.
STATUS OF PRODUCTS
Due to continuing developments in life science, high technology and other
scientific research, there can be no assurance of a continuing market for each
of the Company's products; however, through on going reviews of technical
literature, along with regular communications with customers, the Company's goal
is to keep abreast of the trends in separations techniques. This information
along with its own research technology, determines the Company's development of
improved and new products.
Customers and potential customers, wherever located, are encouraged to
communicate by the Company's toll free 800 telephone numbers or via the
Company's website on (spectrumlabs.com) for technical staff consultation or for
placing orders. Shipments are made five days a week from four locations. The
Company strives to ship its products to customers in a timely and acceptable
fashion. The Company maintains inventory levels which, it believes to be
appropriate to meet its current demands.
1-2. SALES & DISTRIBUTION
During 2004, approximately 2,200 products were sold to over 1,000 direct user
accounts and over 200 dealer accounts with end users including hospitals,
universities, pharmaceutical, industrial, diagnostics and biotechnology
companies and commercial laboratories as well as non-profit organizations and
governmental institutions. Small orders in laboratory quantities averaging
approximately $250 accounted for less than 5% of the Company's sales. The
Company's orders received in excess of $5,000 accounted for over 50% of the
sales in 2004.
1-3. PRODUCTION & PURCHASING
The Company has a membrane production facility in Rancho Dominguez, Operating
Room Disposables are produced in Dallas and Chromatography instruments and
columns are produced in Houston.
The Company manufactures greater than 90% of its products, which represented
over 95% of the sales in 2004. Products not manufactured by the Company are
purchased to its specifications from numerous manufacturing sources.
None of the Company suppliers accounted for more than 10% of the Company
purchases in 2004. The Company has generally been able to obtain adequate
supplies of products and materials to meet its needs. No assurance can be given
that additional or other shortages not will occur in the future.
Whether a product is produced by the Company or purchased from outside
suppliers, it is subjected to quality control procedures, including the
verification of porosity and with certain products, the complete validation for
GMP, FDA, CE and ISO 2001 compliance, prior to final packaging. Quality control
is performed by a staff of technicians utilizing calibrated equipment.
1-4. PATENTS, TRADEMARKS & LICENSES
The Company holds approximately 47 granted or pending patents and has 3
licensing agreements. The Company's significant trademarks are brand names
KrosFlo, SpectraPor, Cellmax and SpectraChrom. The brands are marketed
worldwide. Their related registered logos, and the significant trademarks, which
have various expiration dates, are expected to be renewed indefinitely.
The Company is aware of the desirability for patent and trademark protection for
its products. The Company believes other than its brand names no single patent,
license, trademark (or related group of patents and licenses, or trademarks) is
material in relation to its business as a whole.
4
In addition to patents, the Company relies on trade secrets and proprietary
know-how. The Company seeks protection of these trade secrets and proprietary
know-how, in part through confidentiality and proprietary information
agreements. The Company makes efforts to require its employees, directors,
consultants and advisors, outside scientific collaborators and sponsored
researchers, other advisors and other individuals and entities to execute
confidentiality agreements upon the start of employment, consulting or other
contractual relationships with the Company. These agreements provide that all
confidential information developed or made known to the individual or entity
during the course of the relationship is to be kept confidential and not
disclosed to third parties except in specific circumstances. In the case of
employees and some other parties, the agreements provide that all inventions
conceived by the individual will be the Company's exclusive property. These
agreements may not provide meaningful protection for or adequate remedies to
protect the Company's technology in the event of unauthorized use or disclosure
of information. Furthermore, the Company's trade secrets may otherwise become
known to, or be independently developed by, its competitors.
1-5. DEPENDENCE ON A SINGLE CUSTOMER OR PRODUCT
The Company does not believe that its business would be adversely affected by
the loss of any individual customer or small group of customers. During the 2004
and 2003 fiscal years, two distributors individually accounted for 10% or more
of the Company's total sales which were approximately 13% and 12%, respectively
in fiscal 2004 while both distributors each accounted for approximately 13% of
sales in fiscal 2003. No individual product accounted for 10% or more of sales
in either fiscal 2004 or 2003.
1-6. BACKLOG
As of December 25, 2004 the Company had a current backlog of open orders of
approximately $503,000 and $753,000 in orders from customers specifically
requesting items that were to be shipped during fiscal 2005.
1-7. COMPETITION
Substantial competition exists in all of the Company's marketing and production
areas.
In all product areas the Company competes primarily on the basis of customer
service, products quality and price. The Company markets its products through
its three business units; Bioprocessing, OEM and Operating Room Disposables. The
Company has over 10,000 catalogs in the marketplace in 2004 for the Spectrum
brands with customers and potential customers throughout the world. These
catalogs are supplemented with advertisements in chemical and other scientific
journals, though the use of mailing of special products brochures, personal
visits by sales and technical representatives with customers and through its web
site. The Company competes with several medium and small companies in each of
its product categories. The Company also competes with several large companies
such as Pall and Millipore. These competitors have greater financial resources,
larger sales and marketing and product development departments, stronger name
recognition, longer operating histories and benefit from greater economies of
scale. These factors, among others, may enable our competitors to market their
products at lower prices or on terms more advantageous to customers than those
we could offer for our competitive products. These competitors may have a
greater ability to procure product licenses, as well as to market and distribute
products. Competition may result in price reductions, reduced gross margins and
loss of market share, any of which could have a material adverse effect on our
business, financial condition and results of operations.
1-8. GOVERNMENT REGULATIONS
The Company engages principally in the business of selling products, which are
not foods or food additives, drugs or cosmetics within the meaning of the
federal Food, Drug and Cosmetic Act, as amended (the "FDC Act").
The Company believes that it is in compliance in all material respects with
federal, state and local regulations relating to the manufacture, sale and
distribution of its products. The following are brief summaries of some of the
federal law and regulations which may have an impact on the Company's business.
These summaries are only illustrative of the extensive regulatory requirements
of the federal, state and local governments and are not intended to provide the
specific details of each law or regulation.
5
The Food and Drug Administration (FDA) and the California Food and Drug Bureau
(CFDB) regulate the manufacture and quality control procedures of certain of the
Company's products. Compliance with FDA and CFDB regulations is a significant
expense but the Company believes that such expenses are costs of doing business
in the industry and that the Company's expenses are similar to those of other
companies in the business.
The Clean Air Act (CAA), as amended, and the regulations promulgated there
under, regulates the emission of harmful pollutants into the waters of the
United States. Federal or state regulatory agencies may require companies to
acquire permits, perform monitoring and install control equipment for certain
pollutants.
The Clean Water Act (CWA), as amended, and the regulations promulgated there
under, regulate the discharge of harmful pollutants into the waters of the
United States. Federal or state regulatory agencies may require companies to
acquire permits, perform monitoring and treat waste water before discharge to
the waters of the Unites States or a Publicly Owned Treatment Works (POTW).
The Occupational Safety and Health Act of 1970 (OSHA), including the Hazard
Communication Standard ("right to Know"), and the regulations promulgated there
under, require the labeling of hazard substance containers, the supplying of
Material Safety Data Sheets ("MSDS") on hazards products to customers and
hazards substances to which an employee may be exposed in the workplace, the
training of employees in the handling of hazardous substances and the use of the
MSDS, along with other health and safety programs.
1-9. RESEARCH AND DEVELOPMENT
The Company incurred research and product development expenses of approximately
$843,000 in 2004 and $868,000 in 2003. Research and product development
functions are particularly important for the Company's future growth.
1-10. NUMBER OF PERSONS EMPLOYED
The Company had 116 employees as of December 25, 2004 of which 4 were part time
employees. The total number employed in the United States was 113 with the
remaining 3 employed by the Company's foreign subsidiary. The Company's
employees and consultants have degrees in chemistry, biotechnology, engineering
or other scientific disciplines, including approximately 6 with their doctorate
degree.
1-11. FINANCIAL INFORMATION ABOUT GEOGRAPHIC AREAS
In the years ended December 25, 2004, approximately 25% of the Company's sales
were customers outside the United States. The sales were made directly by the
Company, through distributors and by a subsidiary located in the Netherlands.
For sales with final destinations in an international market, the Company uses
Extraterritorial Income Exclusion (EIE), which provides certain Federal income
tax advantages. The effect of the tax rules governing the EIE is to lower the
effective Federal income tax rate on export income. The EIE resulting from the
Company's U.S. export sales replaced the benefit previously provided by the
Company's Foreign Corporation (FSC).
The Company's international operations and United States export sales are
subject to certain risks such as changes in the legal and regulatory policies of
foreign jurisdictions, local political and economic developments, currency
fluctuations, exchange controls, changes in tariff restrictions, royalty and tax
increases, export and import restrictions and restrictive regulations of foreign
governments, among other factors inherent in these operations. The Company is
unable to predict the extent to which its business may be affected in the future
by these matters.
ITEM 2. DESCRIPTION OF PROPERTY
The Company's executive offices are located at 18617 Broadwick Street, Rancho
Dominguez, California. All facilities used by the Company are leased, in good
condition and are adequate for the Company's present operating requirements.
Production and administrative facilities are located in California and Texas.
6
The Company has a sales and distribution facility in The Netherlands. The
Company expects to continue to expand its production and distribution
capabilities in selected markets. The Company now uses about 30% of its
manufacturing capacity and expects to increase the utilization of its facilities
in the future. The Company anticipates it will be extending its lease on its
principal facility upon its current termination date of July 2005.
Information regarding the Company's major facilities is as follows:
Lease Monthly
Location Principal Usage Sq. Feet Term. Date Rental
---------------------------- ------------------ ---------- ---------- ---------
Rancho Dominguez, CA Administration
and Manufacturing 55,000 7/05 $ 31,112
Dallas, TX Manufacturing 20,000 12/06 5,833
Houston, TX Manufacturing 9,975 8/06 4,339
Breda, The Netherlands Sales 1,400 12/06 2,898
ITEM 3 LEGAL PROCEEDINGS
The Company is not currently aware of any formal legal proceedings or claims
that the Company believes will have, individually or in the aggregate, a
material adverse effect on the Company's financial position or results of
operations.
ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to the stockholders for a vote during the quarter
ended 2004.
PART II
ITEM 5 MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS AND SMALL
BUSINESS ISSUERS PURCHASES OF EQUITY SECURITIES
The Company's Common Stock is currently traded on the Over the Counter (OTC)
Bulletin Board, symbol SPTM.
The following table sets forth the high and low market prices for the last two
years. The quotations shown represent inter-dealer prices without adjustment for
retail markups, markdowns or commissions and do not necessarily reflect actual
transactions.
2004 High Low
----
First Quarter $ 4.00 $ 1.70
Second Quarter 2.50 2.25
Third Quarter 2.10 2.05
Fourth Quarter 2.34 2.22
2003 High Low
----
First Quarter $ 0.55 $ 0.55
Second Quarter 2.95 0.65
Third Quarter 2.25 2.15
Fourth Quarter 2.50 1.60
DIVIDENDS
No dividends have been declared or paid by the Company since inception.
Additionally, the Company's financing agreement with City National Bank
prohibits the payment of dividends without the bank's approval. The Company
intends to employ all available funds for development of its business and,
accordingly, does not intend to pay cash dividends in the foreseeable future.
7
HOLDERS
As of December 25, 2004, the number of holders of record of the Company's Common
Stock was 458.
REPURCHASE OF SECURITIES
The Company did not repurchase any of its comment equity during the fiscal year
ended December 25, 2004.
RECENT SALES OF UNREGISTERED SECURITIES
The Company issued warrants to Technomedics Management & Systems, Inc. to
purchase up to 125,000 shares of its common stock. The warrants were issued
pursuant to an exemption provided by Section 4(2) of the Securities Act of 1933,
as amended.
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The following table summarizes the securities authorized for issuance as of
December 25, 2004 under the Company's 2000 Option Plan, the incentive agreement
dated August 10, 1998 and the above mentioned warrants, the number of shares of
our common stock issuable upon the exercise of outstanding options, the weighted
average exercise price of such options and the number of additional shares of
our common stock still authorized for issuance under such plan.
Equity Compensation Plan Information
--------------------------------------------------------------------------------------------------------------------------------
Number of securities
remaining available for
Number of securities to be future issuance under
issued upon exercise of Weighted-average exercise equity compensation plans
outstanding options, warrants price of outstanding options, (excluding securities
Plan category and rights warrants and rights reflected in column (a))
--------------------------------------------------------------------------------------------------------------------------------
Equity compensation plans
approved by security holders 574,050 $1.95 25,950
--------------------------------------------------------------------------------------------------------------------------------
Equity compensation plans not
approved by security holders 390,624 $1.36 *
--------------------------------------------------------------------------------------------------------------------------------
Total 964,674
------------------------------------------------------------
* Incentive plan with Company's Senior Vice President, includes anti-dilution
rights to maintain 5% stock ownership.
ITEM 6 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following is management's discussion and analysis of certain significant
factors that have affected the financial position and operating results during
the periods included in the accompanying consolidated financial statements, as
well as information relating to the current plans of the Company and its
majority-owned subsidiaries, SLI Acquisition Corp. (SLIAC), Spectrum Europe B.V.
(Spectrum B.V.) and Spectrum Chromatography, Inc. (Chromatography).
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ESTIMATES
Determining Impairment on 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.
8
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.
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.
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. Based on the most recent annual review the
Company believes these reserve are adequate and the amounts 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.
RESULTS OF OPERATIONS - FISCAL YEAR 2004 COMPARED TO FISCAL YEAR 2003
Consolidated sales for 2004 of $13,250,000 were above 2003 fiscal sales by
$706,000 (5.6%). From a product group perspective, OEM sales exceeded the prior
year by $469,000 (23.5%), Bioprocessing/laboratory products were $224,000 (2.5%)
ahead of prior year while Operating Room Disposable products were marginally
ahead of 2003 sales by $13,000 (0.8%). The increase in OEM revenues is
principally related to an increase in orders from one significant account in
2004, partially offset by a decrease in another OEM account. Sales of the
Bioprocessing/laboratory products increased by $224,000 (2.5%) although a major
portion of this increase related to Spectrum's European subsidiary that
benefited from the year over year increase in the Euro exchange rate of 9.3%,
resulting in an exchange rate positive impact on sales of $146,000. From a
geographical perspective, sales increased within each region, as sales in the
U.S. increased $397,000 (4.2%), Japan sales increased $62,000 (9.8%), and all
other countries collectively, increased $101,000 (4.2%), exclusive of the
aforementioned positive exchange impact.
Cost of sales increased $937,000 (13.8%), versus the above discussed sales
increase of 5.6%, resulting in gross margin percent in 2004 of 41.7% versus 2003
gross margin percentage of 45.8%. The decline in margin principally relates to
product mix within the Company's OEM product line.
Research and development expenses in 2004 were $843,000, a decrease of $25,000
(2.9%) from 2003. The decrease primarily relates to lower salary and related
expenditures partially offset by increased engineering consulting related
expenses.
Selling, general and administrative expenses (SG&A) were $3.908,000 in 2004 a
decrease of $509,000 (11.5%). The decrease in SG&A expenses principally related
to advertising related expenditures, with a decrease of $318,000. The decrease
in advertising was principally attributable to the company incurring limited
catalog amortization during 2004 and no newsletter expenditures during the
current year as Spectrum did not issue any BioProcessor newsletters in 2004
versus the three newsletters issued in 2003. Spectrum also incurred lower salary
and related expenditures of approximately $110,000 in 2004 versus 2003.
LIQUIDITY AND CAPITAL RESOURCES
During fiscal 2004, the Company generated approximately $1,410,000 of cash from
operating activities. Net working capital utilized $10,000 in cash during 2004
as the increase in inventory was principally offset by the decrease in prepaids,
while the decrease in accounts payable was more than offset by the increase in
accrued expenses. The Company expended $383,000 on fixed assets and did pay
$960,000 in debt payments during 2004 although it increased its total debt by
$4,215,000 in December of 2004.
The City National Bank credit agreement does restrict the use of the cash
proceeds to certain purposes as defined in the agreement. The credit agreement
prohibits the payment of cash dividends without prior bank approval.
9
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 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 FAS115 based on the
listed trade price of $2.65 per share Spectrum has allocated $961,000 as the
fair market value reflecting this amount as comprehensive income on its balance
sheet. 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. Arbios being an early stage developmental company this investment
may be subject to significant adjustments. Spectrum's Chairman of the Board of
Directors and Chief Executive Officer is also a member of the Board of Directors
of Arbios.
The Company's management believes that cash on hand plus cash anticipated to be
generated from operations will be sufficient to meet the Company's cash
requirements for 2005.
A summary of our contractual cash obligations at December 25, 2004 is as
follows:
2008 and
Contractual Obligation Total 2005 2006 2007 thereafter
---------------------------- -----------------------------------------------------------------------
Debt $6,000,000 $ 935,000 $1,020,000 $1,185,000 $2,860,000
Leases 672,000 566,000 106,000 -- --
Open Purchase Commitments 325,000 325,000 -- -- --
-----------------------------------------------------------------------
Total $6,672,000 $1,501,000 $1,126,000 $1,185,000 $2,860,000
-----------------------------------------------------------------------
OFF BALANCE SHEET ARRANGEMENTS
The Company does not have any off balance sheet arrangements.
ITEM 7 FINANCIAL STATEMENTS
The financial statements in response to this Item are submitted in a separate
section of this Report. The Index to the financial statements is as follows:
INDEPENDENTS AUDITORS' REPORTS F-1&2
FINANCIAL STATEMENTS
Consolidated balance sheet F-3
Consolidated statements of income F-4
Consolidated statements of stockholders' equity F-5
Consolidated statements of cash flows F-6
Notes to consolidated financial statements F-7
Schedule - Valuation Allowances F-19
ITEM 8 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Spectrum filed two Forms 8-K reports during the quarter ended December 25, 2004
relating the resignation of the Company's independent accountant. The reports
were filed on November 18, 2004 and November 24, 2004.
Other than the disagreement with Spectrum's former independent registered public
accounting firm, as disclosed on applicable Form 8-Ks, noted above, there are no
disagreements with Accountants on Accounting and Financial Disclosures.
10
8A. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures. The Company's Chief
Executive Officer and its Chief Financial Officer , after evaluating the
effectiveness of the Company's disclosure controls and procedures (as defined in
Securities Exchange Act of 1934 Rules 13a-14(c) and 15d-14(c) as of a date
within 90 days of the filing date of this annual report on Form 10-KSB (the
"Evaluation Date")), have concluded that as of the Evaluation Date, the
Company's disclosure controls and procedures were adequate and effective to
ensure that material information relating to the Company would be made known to
them by others within the Company, particularly during the period in which this
annual report on Form 10-KSB was being prepared.
The Company's prior President, Mr. Jesus Martinez, has been named Vice President
and will be principally responsible for developing new products relating to
Spectrum's OEM market.
(b) Changes in Internal Controls. There were no significant changes in the
Company's internal controls or in other factors that could significantly affect
the Company's disclosure controls and procedures subsequent to the Evaluation
Date, nor any significant deficiencies or material weaknesses in such disclosure
controls and procedures requiring corrective actions. As a result no corrective
actions were taken.
8B. OTHER INFORMATION
Mr. Anthony MacDonald was named the Company's President on September 7, 2004.
Mr. MacDonald comes to Spectrum from Pall Corporation where he served for
several years as Vice President of Sales and Marketing for Life Science TFF
products division until 2000. Most recently, Mr. MacDonald was Vice President of
Sales and Marketing for SolmeteX where he helped to refocus the Company from an
R&D development company to a commercial success. He brings to Spectrum over 18
years experience in sales and marketing of filtration and separations related
products. Mr. MacDonald entered into a three year employment agreement dated
December 17, 2004 thru August 31, 2007, subject to potential earlier
termination, as provided within the agreement. The material terms of the
employment agreement are as follows; annual base salary of $175,000 increasing
to $200,000 upon his family relocating to California, an annual $50,000 bonus
potential based on criteria developed by the Board of Directors, 125,000 stock
options to be issued at fair market value and normal fringe benefits provided
Spectrum's employees.
Dr. Whitescarver, due to a recent policy instituted by his employer, restricting
employees from being a member of a board of directors for outside companies,
resigned from Spectrum's Board of Director's effective April 9, 2005.
PART III
ITEM 9. DIRECTORS, AND EXECUTIVE OFFICERS, OF THE REGISTRANT
The following table and text set forth the names of all directors and executive
officers of our Company as of April 7, 2005. The Board of Directors is comprised
of only one class. All of the directors will serve until the next annual meeting
of shareholders and until their successors are elected and qualified, or until
their earlier death, retirement, resignation or removal. Executive officers
serve at the discretion of the Board of Directors, and are appointed to serve
until the first Board of Directors meeting following the annual meeting of
shareholders. Also provided herein are brief descriptions of the business
experience of each director and executive officer.
Name Age Director Since Position
---- --- -------------- --------
Roy T. Eddleman 65 July 30, 1982 Chairman, CEO & Director
Brian A. Watts 57 ---- CFO - Vice President Finance
Walter J. Lack, J.D. 57 January 2, 1999 Secretary & Director
Thomas V. Girardi, J.D. 65 January 2, 1999 Director
Jay Henis, Ph.D. 66 January 2, 1999 Director
Anthony J. MacDonald 43 ---- President
F. Jesus Martinez 65 ---- Senior Vice President
William R. Martin 50 ---- Vice President Manufacturing
11
BUSINESS EXPERIENCE OF DIRECTORS AND EXECUTIVE OFFICERS
-------------------------------------------------------
Roy T. Eddleman was elected Chairman of the Board and Chief Executive Officer of
the Company on July 30, 1982. Mr. Eddleman has been engaged primarily as a
private investor and entrepreneur for more than twenty years.
Brian Watts joined the Company in April 2002 as Chief Financial Officer and Vice
President of Finance. Mr. Watts held similar positions with Frank Schaffer
Publications and Ideal School Supply Corporation. Mr. Watts, a Certified Public
Accountant, began his business career with Coopers & Lybrand and was
subsequently employed by The Marmon Group, rising to the position of Assistant
Treasurer.
Walter Lack has been employed as an attorney in private practice for over twenty
years. He is also a Director of HCCH Holdings, Inc., Microvision, Inc. and
Supergen, Inc. Mr. Lack also serves as Chairman of the Audit Committee.
Thomas Girardi has been employed as an attorney in private practice for over
twenty years. Mr. Girardi also serves on the Company's Audit Committee.
Jay Henis is a practicing scientist and for ten years has been President and CEO
of Henis Technologies, Inc. He is also President and CEO of Orex
Pharmaceuticals.
Anthony MacDonald joined the Company as President effective September 7, 2004.
Mr. MacDonald comes to Spectrum from Pall Corporation where he served for
several years as Vice President of Sales and Marketing for Life Science TFF
products division until 2000. Most recently, Mr. MacDonald was Vice President of
Sales and Marketing for SolmeteX where he helped to refocus the Company from an
R&D development company to a commercial success. He brings to Spectrum over 18
years experience in sales and marketing of filtration and separations related
products.
F. Jesus Martinez is now a Senior Vice President and was formerly Chief
Operating Officer and President of the Company from September, 1995 thru
September 6, 2004. Mr. Martinez held the position of Vice President of R&D and
Operations from August 1989 to September 1995. He has held senior management
positions at Baxter Healthcare Corporation, National Medical Care, Minntech
Corporation and is inventor or co-inventor of over twenty patents in medical
devices.
William Martin joined the Company in April of 2002 as Vice President of
Manufacturing. Mr. Martin has over twenty years of experience and several
patents in the medical devices field. Prior to joining the Company, Mr. Martin
held the position of Director of Operations at Endocare, Inc. and as Product
Development Manager for the Company from 1990 to 1998. Mr. Martin attended the
Hennepin County Technical College and the University of California, Irvine.
There are no family relationships between any of the Company's directors and
officers. There are no arrangements or understandings between any director and
any other person pursuant to which any person was elected or nominated as a
director.
The Company sponsors no pension, retirement, annuity, savings or similar benefit
plans that it was required to fund in 2004. The Company does sponsor an employee
only contributory 401K Plan. Directors are not compensated for their services on
the Company's Board of Directors.
AUDIT COMMITTEE AND AUDIT COMMITTEE EXPERT
------------------------------------------
Spectrum has a separately-designated audit committee. The Board of Directors has
instructed the Audit Committee to meet periodically with the company's
management and independent accountants to, among other things, review the
results of the annual audit and quarterly reviews and discuss the financial
statements, recommend to the Board the independent accountants to be retained,
and receive and consider the accountants' comments as to controls, adequacy of
staff and management performance and procedures in connection with audit and
financial controls. The Audit Committee is also authorized to review related
party transactions for potential conflicts of interest. The Audit Committee is
chaired by Mr. Lack, and Mr. Girardi is a member. Each individual is a
non-employee director. Spectrum has not elected an Audit Committee Expert.
12
CODE OF ETHICS
--------------
The Board of Directors adopted a Code of Business Conduct and Ethics (Code of
Ethics) at its meeting on February 12, 2004. The Code of Ethics stresses all
employees, but especially the CEO, CFO and Senior Financial Officers are to act
with honesty & integrity, comply with rules and regulations of all governing
bodies and provide information that is accurate, complete, relevant, timely and
understandable in all reporting aspects.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
-------------------------------------------------------
Based solely upon a review of Forms 3 and 4 and amendments thereto furnished to
us pursuant to Rule 16a-3(e) under the Securities Exchange Act of 1934 during
our most recent fiscal year and Forms 5 and amendments thereto furnished to us
with respect to our most recent fiscal year, all officers, directors and owners
of 10% or more of our outstanding shares have filed all Forms 3, 4 an 5 required
by Section 16(a) of the Securities Exchange Act of 1934, as amended with the
exception of Mr. Anthony MacDonald who failed to timely file Form 3 when he was
appointed President in September 2004.
ITEM 10. EXECUTIVE COMPENSATION
The following table sets forth aggregate amounts of compensation paid or accrued
to the Chief Executive Officer and the other four most highly compensated
executive officers (the "Named Executive Officers") whose annual expected
compensation exceeded $100,000 as of December 25, 2004.
ANNUAL COMPENSATION LONG TERM COMPENSATION
---------------------------------- --------------------------------------
RESTRICTED STOCK ALL
Name and Position Year Salary Bonus STOCK AWARDS OPTIONS LTIP OTHER (1)
------------------------ -------- ----------- --------- -------------------------------------- -----------
Roy T. Eddleman 2004 $ 120,192 304,613
Chief Executive Officer 2003 160,000 162,500 311,617
2002 160,000 140,000 324,848
F. Jesus Martinez 2004 132,452
President 2003 145,000
2002 145,000 35,000
Brian A. Watts 2004 109,615
Chief Financial Officer 2003 120,000
Chief Financial Officer 2002 120,000 30,000 200,000
(1) Royalties based are at 7% on sales of certain products.
13
The following table sets forth information relating to stock options held by the
Company's executive officers as of December 25, 2004:
Number of Securities Underlying Value of Unexercised
Unexercised Options In-the-Money Options
------------------------------- -------------------------------
Name Exercisable/Unexercisable Exercisable/Unexercisable
------------------------------------ ------------------------------- -------------------------------
Anthony J. MacDonald 548/124,452 $1,150/$261,350
President
F. Jesus Martinez 265,624/0 $319,000/$0
Senior Vice President
Brian A. Watts 89,166/110,834 $136,424/$169,576
Chief Financial Officier
William R. Martin 11,146/13,854 $17,053/$21,197
Vice President of Manufacturing
Option/SAR Grants in 2004
------------------------------------------------------------------------------------------------------
Individual Grants
------------------------------------------------------------------------------------------------------
Number of Securities % of Total
Underlying Options/SARs
Options/SARs Granted to Employees Exercise Expiration
Name Granted in 2004 Price Date
------------------------- --------------------- --------------------- ---------- --------------
Anthony J. MacDonald 125,000 83.3 $ 2.10 12/17/2014
14
ITEM 11 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The following table sets forth certain information regarding the beneficial
ownership of the Company's Common Stock at December 25, 2004 by (i) all persons
known by management to be beneficial owners of more than 5% of its Common Stock,
(ii) all directors and nominees and (iii) all directors and nominees and
officers of the Company as a group:
Amount and Nature Percent
Name and Address of Beneficial Ownership of Class (1)
------------------------------------- ----------------------------- ---------------
Roy T. Eddleman 4,320,128 81.3
18617 Broadwick Street
Rancho Dominguez, CA 90220
Thomas V. Girardi, J.D. 800,002 15.1
1126 Wilshire Blvd.
Los Angeles, CA 90017
Jay Henis, Ph.D. 17,000 (2) 0.3
501 Marford Drive
St. Louis, MO 63141
Walter J. Lack, J.D. 109,918 2.1
10100 Santa Monica Blvd.
Los Angeles, CA 90067
Jack Whitescarver, Ph.D. 17,000 (2) (3) 0.3
4301 Massachusetts Ave. NW #6002
Washington, D.C. 20016
F. Jesus Martinez 265,624 (1) 4.8
18617 Broadwick Street
Rancho Dominguez, CA 90220
Brian A. Watts 80,000 (1) 1.5
18617 Broadwick Street
Rancho Dominguez, CA 90220
All directors and officers as a 5,609,672 (4) 98.6
group (7 in number)
(1) Amounts are based on total common shares outstanding of 5,312,468 unless noted.
(2) Entire amount is comprised of exercisable stock options.
(3) Individual resigned from Board of Director's effective April 9, 2005.
(4) Includes 379,624 exercisable stock options.
ITEM 12 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Pursuant to the terms of a royalty agreement with the Company, Mr. Eddleman, our
Chief Executive Officer, receives a 7% royalty payment on certain of the
products sold by the Company. In 2004, Mr. Eddleman received $304,613.
2004 2003
---------- ----------
7% royalty on certain products sold by the Company $ 304,613 $ 311,617
---------- ----------
Mr. Eddleman has personally guaranteed the Company's bank loan up to $3,500,000.
15
ITEM 13 EXHIBITS, LIST AND REPORTS ON FORM 8-K
(a) Exhibits
------------
Exhibit No. Description
3.1 Articles of Incorporation of Registrant (incorporated by
reference to Exhibit 4.1 filed with Registrant's Registration
Statement on Form S-2, Registration No. 2-68999)
3.2 Amendment to Article I of the Articles of Incorporation of
Registrant (incorporated by reference to Exhibit 3.2 filed with
Registrant's Report on Form 10-K for the fiscal year ended
December 31, 1982, Commission File No. 0-9478)
3.3 Bylaws of Registrant (incorporated by reference to Exhibit 4.2
filed with Registrant's Registration Statement on Form S-2,
Registration No. 2-68999)
3.4 Amendment to Article III, section 2 of Registrant's Bylaws
(incorporated by reference to Exhibit 3.3 filed with Registrant's
Report on Form 10-K for the fiscal year ended May 31, 1982,
Commission File No. 0-9478)
3.5 Amendment to Article IV, Section 6 and Section 7 of the
Registrant's Bylaws (incorporated by reference to Exhibit 3.4
filed with Registrant's Report on Form 10-K for the fiscal year
ended May 31, 1982, Commission File No. 0-9478)
3.6 Articles of Amendment to Registrant's Articles of Incorporation
increasing authorized stock to 25,000,000 shares (incorporated by
reference to Registrant's Schedule 14C-2 Information Statement,
Exhibit A, filed with the Commission on October 19, 1996,
Commission File No. 0-9478)
3.7 Certificate of Ownership of Microgon into Spectrum Laboratories
(incorporated by reference to Exhibit 2B to the Registrant's Form
8-K/A on October 15, 1996, Commission File No. 0-9478)
3.8 Reorganization Agreement, dated September 30, 1998, between
Spectrum Laboratories, Inc., and Spectrum Medical Industries,
Inc. (incorporated by reference to Exhibit 2 to the Registrant's
Form 8-K/A filed November 18, 1998, Commission File No. 0-9478)
10.1 Amendment to Investment and Loan Agreement dated August 1, 1995
among the Company, Microgon and certain preferred shareholders of
Microgon (incorporated by reference to Exhibit 2A to the
Registrant's Form 8K/A filed on October 15, 1995, Commission File
No. 0-9478)
10.2 Stock Option Plan adopted October 11, 1996 (incorporated by
reference to Exhibit B to Registrant's filing of Schedule 14-2,
filed with the Commission on October 9, 1996)
10.3 Registrant's purchase agreement of Cellco, Inc. (incorporated by
reference to Exhibit 10.14 with Registrant's Form 8-K dated
November 1, 1996, Commission File No. 0-9478)
10.4 Credit agreement, dated as of December 22, 1998, between
Registrant and City National Bank (incorporated by reference to
Exhibit 10.18 filed with Registrant's report on Form 10-KSB for
fiscal year ended January 2, 1999, Commission File No. 0-9478)
16
10.5 Incentive Agreement dated August 10, 1998, between Spectrum
Medical Industries, Inc., the Registrant and F. Jesus Martinez
and Roy T. Eddleman (incorporated by reference to Exhibit 10.19
filed with Registrant's report on Form 10-KSB for fiscal year
ended January 2, 1999, Commission File No. 0-9478)
10.6 Sublease agreement dated January 19, 1999 between Millipore
Corporation and Spectrum Laboratories, Inc. (incorporated by
reference to Exhibit 10.20 filed with Registrant's report on Form
10-KSB for fiscal year ended January 1, 2000, Commission File No.
0-9478)
10.7 First amendment, dated July 14, 1999, to the credit agreement,
dated December 22, 1998, between the Company and City National
Bank (incorporated by reference to Exhibit 10.21 filed with
Registrant's report on Form 10-KSB for fiscal year ended January
1, 2000, Commission File No. 0-9478)
10.8 Second amendment, dated July 1, 2000, to the credit agreement,
dated December 22, 1998, between the Company and City National
Bank (incorporated by reference to Exhibit 10.8 filed with
Registrant's report on Form 10-KSB for fiscal year ended December
30, 2000, Commission File No. 0-9478)
10.9 The Registrant's Year 2000 Stock Option Plan (incorporated by
reference to Exhibit 10.9 filed with Registrant's report on Form
10-KSB for fiscal year ended December 30, 2000, Commission File
No. 0-9478)
10.10 Third amendment, dated January 8, 2001, to the credit agreement,
dated December 22, 1998, between the Company and City National
Bank (incorporated by reference to Exhibit 10.10 filed with
Registrant's report on Form 10-KSB for fiscal year ended December
30, 2000, Commission File No. 0-9478)
10.11 Royalty Agreement, dated June 1, 1976, between Roy T. Eddleman
and Spectrum Medical Industries (incorporated by reference to
Exhibit 10.11 filed with Registrant's report on Form 10-KSB for
fiscal year ended December 30, 2000, Commission File No. 0-9478)
10.12 Fourth amendment, dated December 14, 2001, to the credit
agreement, dated December 22, 1998, between the Company and City
National Bank (incorporated by reference to Exhibit 10.12 filed
with Registrant's report on Form 10-KSB for fiscal year ended
December 29, 2001, Commission File No. 0-9478)
10.13 Amended and Restated Credit Agreement, dated December 26, 2002,
between the Registrant and City National Bank (incorporated by
reference to Exhibit 10.13 filed with Registrant's report on Form
10-KSB for fiscal year ended December 28, 2002, Commission File
No. 0-9478)
10.14 Second Amendment to Amended and Restated Credit Agreement, dated
December 14, 2004, between the Registrant and City National Bank.
21 Subsidiaries of the Registrant (incorporated by reference to
Exhibit 21 filed with Registrant's report on Form 10-KSB for
fiscal year ended January 2, 1999, Commission File No. 0-9478)
31.1 Rule 13a-14(a)/15d-14(a) Certifications
17
31.2 Rule 13a-14(a)/15d-14(a) Certifications
32.1 18 U.S.C. Section 1350 Certifications
32.2 18 U.S.C. Section 1350 Certifications
(b) Reports on 8-K
------------------
Spectrum filed two Forms 8-K reports on during the quarter ended December 25,
2004. The reports were filed on November 18, 2004 and November 24, 2004 relating
to the resignation of Company's independent accountant.
ITEM 14 PRINCIPAL ACCOUNTANT FEES AND DISCLOSURES
Aggregate fees for professional services rendered for us by Stonefield
Josephson, Inc. for the year ended December 25, 2004 and by McGladrey & Pullen
LLP and its affiliated entity, RSM McGladrey, Inc., for the year ended December
27, 2003 were as follows:
Services Provided 2004 2003
--------------------------
Audit Fees $ 72,240 $ 104,440
Tax Fees 1,255 52,950
--------------------------
$ 73,495 $ 157,390
--------------------------
AUDIT FEES
The aggregate fees billed for the years ended December 25, 2004 and December 27,
2003 were for the audits of our financial statements and review of our interim
financial statements included in our annual and quarterly reports and fees
related to filing other SEC reports.
AUDIT RELATED FEES
There were no fees billed for the years ended December 25, 2004 and December 27,
2003 were for the audit or review of our financial statements that are not
reported under Audit Fees.
TAX FEES
The aggregate fees billed for the years ended December 25, 2004 and December 27,
2003 were for professional services for tax compliance, tax advice and tax
planning. These services include preparation of original tax returns and advice
regarding our international operations.
ALL OTHER FEES
There were no All Other Fees billed for the years ended December 25, 2004 and
December 27, 2003.
AUDIT COMMITTEE PRE-APPROVAL POLICIES AND PROCEDURES
The Company's Audit Committee's policy is to pre-approve all audit and
permissible non-audit services provided by our independent auditors. These
services may include audit services, audit-related services, tax services and
other services. Pre-approval is generally provided for up to one year and any
pre-approval is detailed as to the particular service or category of services.
The independent auditor and management are required to periodically report to
the Audit Committee regarding the extent of services provided by the independent
auditor in accordance with this pre-approval.
18
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized, on April 11, 2005.
SPECTRUM LABORATORIES, INC.
By: /s/ Roy T. Eddleman
-------------------------------
Roy T. Eddleman
Chairman, Chief Executive Officer and Director
By: /s/ Jay Henis
-------------------------------
Jay Henis
Director
By: /s/ Tom Girardi
-------------------------------
Tom Girardi
Director
By: /s/ Walter Lack
-------------------------------
Walter Lack
Director
By: /s/ Brian A. Watts
-------------------------------
Brian A. Watts
Chief Financial Officer and Vice President of Finance
19
SPECTRUM LABORATORIES, INC.
CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 25, 2004
C O N T E N T S
Page
--------------------------------------------------------------------------------
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM REPORT F1 - F2
--------------------------------------------------------------------------------
FINANCIAL STATEMENTS
Consolidated balance sheet F-3
Consolidated statements of income F-4
Consolidated statement of stockholders' equity F-5
Consolidated statements of cash flows F-6
Notes to consolidated financial statements F-7
--------------------------------------------------------------------------------
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
of Spectrum Laboratories, Inc. and its subsidiaries:
We have audited the accompanying consolidated balance sheet of Spectrum
Laboratories, Inc. and its subsidiaries (the "Company") as of December 25, 2004,
and the related consolidated statement of operations, stockholders' equity, and
cash flows for the year then ended. Our audit also included the financial
statement schedule listed at the index as of and for the year ended December 25,
2004. These consolidated financial statements and schedules are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements and schedule based on our
audit.
We conducted our audit 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. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosure in the estimates made
by management, as well as evaluating the overall financial statement
presentation. We believe that our audit provides a reasonable basis for our
opinion.
The consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Spectrum Laboratories, Inc. and its
subsidiaries as of December 25, 2004, and the results of their operations and
their cash flows for the year then ended, in conformity with accounting
principles generally accepted in the United States of America. Also, in our
opinion, the financial statement schedule when considered in relation to the
basic consolidated financial statements, taken as a whole, presents fairly, in
all material respects, the information set forth therein.
/s/ STONEFIELD JOSEPHSON, INC.
CERTIFIED PUBLIC ACCOUNTANTS
Santa Monica, California
April 6, 2005
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors of Spectrum Laboratories, Inc.
Rancho Dominguez, California
We have audited the consolidated statements of income, stockholders' equity, and
cash flows of Spectrum Laboratories, Inc. and its subsidiaries (the "Company")
for the year ended December 27, 2003. 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 audit.
We conducted our audit in accordance with 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. 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 audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the results of operations and cash flows of
Spectrum Laboratories, Inc. and its subsidiaries for the year ended December 27,
2003, in conformity with accounting principles generally accepted in the United
States of America.
/s/ MCGLADREY & PULLEN
CERTIFIED PUBLIC ACCOUNTANTS
Irvine, California
March 12, 2004, except for the third paragraph of Note 5, which is dated
March 25, 2004
F-2
SPECTRUM LABORATORIES, INC.
CONSOLIDATED BALANCE SHEET
------------------------------------------------------------------------------------------------------
DECEMBER 25,
2004
---------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 8,119,000
Accounts receivable, less allowances for bad debts & sales returns of $196,000 1,653,000
Inventories 2,816,000
Prepaid expenses 86,000
Deferred income taxes 525,000
---------------
Total current assets 13,199,000
INVESMENT IN MARKETABLE SECURITIES 961,000
EQUIPMENT AND LEASEHOLD IMPROVEMENTS, net 1,399,000
PATENTS, net of accumulated amortization of $242,000 508,000
GOODWILL, net 1,122,000
DEFERRED INCOME TAXES 1,080,000
OTHER ASSETS - Principally Artwork of $986,000 1,027,000
---------------
TOTAL ASSETS $ 19,296,000
===============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current maturities of long-term debt $ 935,000
Accounts payable 514,000
Accrued expenses:
Compensation 387,000
Other 145,000
---------------
Total current liabilities 1,981,000
---------------
LONG-TERM DEBT, net of current maturities 5,065,000
---------------
PREFERRED STOCK of SUBSIDIARY - SLI ACQUISITION CORP 1,755,000
---------------
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 53,000
Additional paid-in capital 8,633,000
Accumulated other comprehensive income 577,000
Retained earnings 1,232,000
---------------
Total stockholders' equity 10,495,000
---------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 19,296,000
===============
The accompanying notes are an integral part of these consolidated financial statements.
F-3
SPECTRUM LABORATORIES, INC.
CONSOLIDATED STATEMENTS OF INCOME
---------------------------------------------------------------------------------------------
FISCAL YEARS ENDED
------------------------------
2004 2003
------------- -------------
NET SALES $ 13,250,000 $ 12,544,000
COSTS AND EXPENSES
Cost of sales 7,731,000 6,794,000
Selling, general and administrative, (including royalty
expense to a majority stockholder of $304,000 and
$312,000 in fiscal years 2004 and 2003, respectively) 3,908,000 4,417,000
Research and development 843,000 868,000
Expense related to warrants and stock options 142,000 12,000
Other expenses, primarily interest 81,000 121,000
------------- -------------
Total costs and expenses 12,705,000 12,212,000
------------- -------------
Income before provision for income taxes 545,000 332,000
Provision (benefit) for income taxes 143,000 (100,000)
------------- -------------
Net income $ 402,000 $ 432,000
============= =============
Earnings per share:
Basic $ 0.08 $ 0.08
============= =============
Diluted $ 0.07 $ 0.08
============= =============
Weighted average shares outstanding:
Basic 5,312,468 5,312,468
============= =============
Diluted 5,563,172 5,381,834
============= =============
The accompanying notes are an integral part of these consolidated financial statements.
F-4
SPECTRUM LABORATORIES, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
----------------------------------------------------------------------------------------------------------------------------------
Accumulated
Common stock Additional Other Retained
------------------------------ Paid-in Comprehensive Comprehensive Earnings
Shares Amount Capital Income Income (deficit)
------------- ------------- ------------- ------------- ------------- -------------
Balance, December 28, 2002 5,312,468 $ 53,000 $ 8,479,000 $ -- $ 398,000
Net income -- -- -- $ 432,000 -- 432,000
Other comprehensive income
net of tax of $363,000 -
unrealized gain on
investment securities -- -- -- 544,000 544,000 --
-------------
Comprehensive Income -- -- -- $ 976,000 -- --
=============
Compensation expense
related to stock options -- -- 12,000 -- -- --
------------- ------------- ------------- ------------- -------------
Balance, December 27, 2003 5,312,468 $ 53,000 $ 8,491,000 $ 544,000 $ 830,000
Net income -- -- -- $ 402,000 -- 402,000
Other comprehensive income
net of tax of $21,000 -
unrealized gain on
investment securities -- -- -- 33,000 33,000 --
-------------
Comprehensive Income -- -- -- $ 435,000 -- --
=============
Compensation expense
related to stock options
and warrants -- -- 142,000 -- --
------------- ------------- ------------- ------------- -------------
Balance, December 25, 2004 5,312,468 $ 53,000 $ 8,633,000 $ 577,000 $ 1,232,000
============= ============= ============= ============= =============
The accompanying notes are an integral part of these consolidated financial statements.
F-5
SPECTRUM LABORATORIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
--------------------------------------------------------------------------------------------------
FISCAL YEARS ENDED
---------------------------------
2004 2003
-------------- --------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 402,000 $ 432,000
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 796,000 783,000
Noncash compensation and warrant related expense 142,000 12,000
Deferred income taxes 80,000 (117,000)
Change in working capital components:
Decrease in accounts receivable 10,000 143,000
(Increase) in inventories (154,000) (896,000)
Decrease in prepaid expenses 132,000 15,000
Decrease in income tax refund receivable -- 62,000
(Increase) in Other Assets (8,000) --
(Decrease) Increase in accounts payable (108,000) 58,000
Increase (Decrease) in accrued expenses 118,000 (282,000)
-------------- --------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 1,410,000 210,000
-------------- --------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of equipment and leasehold improvements (383,000) (539,000)
-------------- --------------
NET CASH (USED IN) INVESTING ACTIVITIES (383,000) (539,000)
-------------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments of long-term debt (960,000) (943,000)
Loan Proceeds 4,215,000 --
-------------- --------------
NET CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES 3,255,000 (943,000)
-------------- --------------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS 4,282,000 (1,272,000)
Cash and cash equivalents
Beginning of year 3,837,000 5,109,000
-------------- --------------
End of year $ 8,119,000 $ 3,837,000
============== ==============
The accompanying notes are an integral part of these consolidated financial statements
F-6
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS AND BASIS OF PRESENTATION - The consolidated
financial statements include the accounts of Spectrum Laboratories,
Inc. (Spectrum) and its subsidiaries (collectively, the Company), SLI
Acquisition Corp. (SLIAC), Spectrum Europe B.V. (Spectrum B.V.) and
Spectrum Chromatography (Chromatography). The Company develops and
sells proprietary tubular membranes and membrane devices for existing
and emerging life science applications used primarily by research
laboratories. The Company is also engaged in the manufacture and sale
of medical laboratory equipment and supplies and disposable products.
Certain of the Company's products are regulated by the United States
Food and Drug Administration and the California Food and Drug Bureau.
All products are for sale primarily to the pharmaceutical,
biotechnology and medical industries.
FISCAL YEAR - The Company's fiscal year ends on the last Saturday of
the calendar year. The years ended December 25, 2004 (fiscal year 2004)
and December 27, 2003 (fiscal year 2003) both consist of 52 weeks.
PRINCIPLES OF CONSOLIDATION - The accompanying consolidated financial
statements include the accounts of Spectrum and its wholly owned
subsidiaries and majority-owned subsidiary, SLIAC. All intercompany
balances and transactions have been eliminated in consolidation.
USE OF ESTIMATES - The preparation of financial statements require
management to make estimates and assumptions that affect the reported
amounts of assets, liabilities, the value of stock based compensation
and disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenue and expenses
during the reporting period. Actual results could differ from those
estimates.
The Company's operations are affected by numerous factors including
market acceptance, changes in technologies and new laws and government
regulations and policies. The Company cannot predict what impact, if
any, the occurrence of these or other events might have on the
Company's operations. Significant estimates and assumptions made by
management are used for, but not limited to, the allowance for doubtful
accounts, the reserve for slow moving or obsolete inventories, the fair
value of long-lived and intangible assets, and the realizability of
deferred tax assets.
CASH AND CASH EQUIVALENTS - The Company classifies all highly liquid
investments with original maturities of 90 days or less at the time of
purchase as cash and cash equivalents. The Company, periodically
throughout the year, has amounts on deposit that exceed insured limits.
TRADE RECEIVABLES - The Company sells its products nationally and
internationally, primarily through distributors, to medical equipment
and medical supply companies. The Company performs ongoing credit
evaluations of its customers and generally does not require collateral.
Trade receivables are carried at original invoice amount less an
estimate made for doubtful receivables based on a review of all
outstanding amounts on a monthly basis. Management determines the
allowance for doubtful accounts by identifying troubled accounts and by
using historical experience applied to an aging of accounts. Trade
receivables are written off when deemed uncollectible. Recoveries of
trade receivables previously written off are recorded when received. No
interest is charged on past due accounts.
INVENTORIES - Inventories are stated at the lower of cost (using the
first-in first-out method) or market value.
INVESTMENT IN MARKETABLE SECURITIES CLASSIFIED AS AVAILABLE-FOR-SALE
SECURITIES - Management determines the appropriate classification of
the securities at the time they are acquired and evaluates the
appropriateness of such classifications at each balance sheet date.
Management has determined that all securities should be classified as
available-for-sale. Available-for-sale securities are stated at fair
value and unrealized holding gains and losses, net of the related
deferred tax effect, are reported as a separate component of
stockholders' equity. Realized gains and losses, including losses from
declines in value of specific securities determined by management to be
other than temporary, are included in income. Realized gains and losses
are determined on the basis of the specific identification of the
securities sold. As of December 25, 2004, available-for-sale securities
consisted of equity ownership of one entity. Such ownership had a
historical cost of $0 and a pre tax unrealized gain was $54,000 and
$907,000 in 2004 and 2003, respectively.
F-7
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
LONG-LIVED ASSETS AND PATENTS - Equipment and leasehold improvements
are recorded at cost, net of accumulated depreciation and amortization.
Depreciation of equipment is provided using the straight-line method
over the estimated useful lives (generally five years) of the
respective assets. Leasehold improvements are amortized on a
straight-line basis over the lesser of the lease term or the estimated
useful life of the asset. Amortization of leasehold improvements is
included with depreciation expense. No depreciation is being provided
for the Company owned artwork, which is carried at its historical cost.
The Company periodically reviews its long-lived assets including
patents to determine potential impairment by comparing the carrying
value of the long-lived assets with the estimated future net
undiscounted cash flows expected to result from the use of the assets,
including cash flows from disposition. Long-lived assets evaluated for
impairment are grouped with other assets to the lowest level for which
identifiable cash flows are largely independent of the cash flows of
other groups of assets and liabilities. Should the sum of the expected
future net cash flows be less than the carrying value, the Company
would recognize an impairment loss at that date. An impairment loss
would be measured by comparing the amount by which the carrying value
exceeds the fair value (estimated discounted future cash flows) of the
long-lived assets. For the year ended December 25, 2004, management has
determined that no impairment of long-lived assets including patents
exists.
Changes in circumstances, such as the passage of new laws or changes in
regulations, technological advances or changes to the Company's
business strategy, could result in the actual useful lives of
long-lived assets differing from initial estimates. Factors such as
changes in the planned use of equipment, customer attrition,
contractual amendments or mandated regulatory requirements could result
in shortened useful lives. In those cases where the Company determines
that the useful life of a long-lived asset should be revised, the
Company will amortize or depreciate the net book value in excess of the
estimated residual value over its revised remaining useful life.
The Company has acquired patents totaling $750,000 which are being
amortized over their respective useful lives of approximately twelve
years. Patent amortization for the fiscal years ended 2004 and 2003 was
approximately $60,000 for each year. Estimated amortization expense for
the next five years is approximately $60,000 annually, all of which
relates to these patents.
GOODWILL - In June 2001, the Financial Accounting Standards Board
(FASB) issued Statement of Financial Accounting Standards No 142,
GOODWILL AND OTHER INTANGIBLE ASSETS (SFAS No. 142). SFAS No. 142
addresses financial accounting and reporting for acquired goodwill and
other intangibles assets and was effective for the Company beginning
December 30, 2001. Upon adoption of SFAS 142, management has determined
there is one reporting unit and evaluated the carrying value of
goodwill for potential impairment losses and determined no impairment
existed. Management updates its annual goodwill impairment evaluation
as of September of each fiscal year and has concluded that no
impairment exists as of September 25, 2004. For goodwill, the
impairment evaluation includes a comparison of the carrying value of
the reporting unit (including goodwill) to that reporting unit's fair
value. If the reporting unit's estimated fair value exceeds the
reporting unit's carrying value, no impairment of goodwill exists. If
the fair value of the reporting unit does not exceed the unit's
carrying value, then an additional analysis is performed to allocate
the fair value of the reporting unit to all of the assets and
liabilities of that unit as if that unit had been acquired in a
business combination and the fair value of the unit was the purchase
price. If the excess of the fair value of the reporting unit over the
fair value of the identifiable assets and liabilities is less than the
carrying value of the unit's goodwill, an impairment charge is recorded
for the difference.
INCOME TAXES - Deferred income taxes are provided on a liability method
whereby deferred income tax assets are recognized for deductible
temporary differences and tax credit carryforwards and deferred income
tax liabilities are recognized for taxable temporary differences.
Temporary differences are the differences between the reported amounts
of assets and liabilities and their tax bases. Deferred income tax
assets are reduced by a valuation allowance when, in the opinion of
F-8
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
management, it is more likely than not that some portion or all of the
deferred tax assets will not be realized. Deferred income tax assets
and liabilities are adjusted for the effects of changes in tax laws and
rates on the date of enactment.
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 (250,704 and
69,366 equivalent shares in the fiscal years 2004 and 2003,
respectively).
REVENUE RECOGNITION - The Company records revenue at the time the
related products are shipped.
PRODUCT RETURNS AND WARRANTIES - The Company records a provision for
estimated product returns and warranties at the time the revenue is
recognized.
RESEARCH AND DEVELOPMENT - The Company expenses research and
development costs as incurred.
ADVERTISING COSTS - Costs associated with advertising and promoting
products are expensed as incurred. Advertising and promotion expense
was approximately $171,000 and $449,000 during fiscal years 2004 and
2003, inclusive of trade shows in both years.
REMEASUREMENT OF FOREIGN CURRENCIES - Monetary assets and liabilities
of Spectrum B.V. are remeasured into U.S. dollars at year-end exchange
rates and nonmonetary assets and stockholders' equity are remeasured
using historical rates of exchange. Income and expenses are remeasured
at average rates during the respective years. The functional currency
of this subsidiary is the U.S. dollar; therefore, remeasurement gains
or losses are included in income. Remeasurement gains included in
income as contra SG&A expenditure for fiscal years 2004 and 2003 were
approximately $34,000 and $51,000, respectively. As of December 25,
2004 there was $159,000 in cash and $249,000 in accounts receivable
that were denominated in Euros.
FAIR VALUE OF FINANCIAL INSTRUMENTS - Management believes that the
carrying amount of cash and cash equivalents approximates fair value
because of the short maturity of these financial instruments. Long-term
debt bears interest at a rate indexed to the prime rate and, therefore,
management believes the carrying amount of the outstanding borrowings
at December 25, 2004 approximates fair market value.
ACCOUNTING FOR STOCK-BASED COMPENSATION - The Company accounts for
stock-based employee compensation under the requirements Financial
Accounting Standards Board's Statement of Financial Accounting
Standards No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION "SFAS No.
123 which allows utilizing 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 SFAS No. 123, the requirements of the, 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 Company's calculations for the options
granted in 2004 were made using the Black-Scholes option-pricing model
with the following weighted average assumptions in 2004: expected life
of ten years; stock volatility of 87%; risk-free interest rate 2.8%;
and no dividends during the expected term.
F-9
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
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 employee stock-based compensation been determined
based on the grant date fair values of awards:
2004 2003
-------------- --------------
Net income:
As reported $ 402,000 $ 432,000
Add total stock-based employee compensation
expense determined under APB opinion 25,
net of related tax effects 12,000 12,000
(Deduct) total stock-based employee compensation
expense determined under fair value based for all
awards, net of related tax effects (58,000) (64,000)
-------------- --------------
Pro forma $ 356,000 $ 380,000
============== ==============
Basic earnings per share:
Assreportedd $ 0.08 $ 0.08
Prooformaa $ 0.07 $ 0.07
Diluted earnings per share:
Assreportedd $ 0.07 $ 0.08
Prooformaa $ 0.06 $ 0.07
Weighted average shares outstanding:
Basic 5,312,468 5,312,468
============== ==============
Diluted 5,563,172 5,381,834
============== ==============
SEGMENT INFORMATION - In accordance with FASB Statement No. 131,
DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION,
the Company has determined the products are all classified into three
product groups as further discussed in Note 13. The Company has further
analyzed the type and class of its customers, and the product
distribution methods, and has determined that the Company has one
reportable segment.
RECENT ACCOUNTING PRONOUNCEMENTS -
In January 2003, the FASB issued FASB Interpretation No. ("FIN") 46,
"Consolidation of Variable Interest Entities" ("FIN 46"). In December
2003, FIN 46 was replaced by FASB interpretation No. 46(R)
"Consolidation of Variable Interest Entities." FIN 46(R) clarifies the
application of Accounting Research Bulletin No. 51, "Consolidated
Financial Statements," to certain entities in which equity investors do
not have the characteristics of a controlling financial interest or do
not have sufficient equity at risk for the entity to finance its
activities without additional subordinated financial support from other
parties. FIN 46(R) requires an enterprise to consolidate a variable
interest entity if that enterprise will absorb a majority of the
entity's expected losses, is entitled to receive a majority of the
entity's expected residual returns, or both. FIN 46(R) is effective for
entities being evaluated under FIN 46(R) for consolidation no later
than the end of the first reporting period that ends after March 15,
2004. The Company does not currently have any variable interest
entities that will be impacted by adoption of FIN 46(R).
On April 30, 2003, the Financial Accounting Standards Board issued SFAS
No. 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities." SFAS No. 149 amends and clarifies accounting for
derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities under SFAS No.
133. The new guidance amends SFAS No. 133 for decisions made as part of
the Derivatives Implementation Group ("DIG") process that effectively
required amendments to SFAS No. 133,
F-10
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
and decisions made in connection with other FASB projects dealing with
financial instruments and in connection with implementation issues
raised in relation to the application of the definition of a derivative
and characteristics of a derivative that contains financing components.
In addition, it clarifies when a derivative contains a financing
component that warrants special reporting in the statement of cash
flows. SFAS No. 149 is effective for contracts entered into or modified
after June 30, 2003 and for hedging relationships designated after June
30, 2003. Adoption of this standard did not have an impact on the
Company's consolidated financial statements.
In May 2003, the FASB issued SFAS No. 150 ACCOUNTING FOR FINANCIAL
INSTRUMENTS WITH THE CHARACTERISTICS OF BOTH LIABILITIES AND EQUITIES.
SFAS No. 150 establishes standards regarding the manner in which an
issuer classifies and measures certain types of financial instruments
having characteristics of both liabilities and equity. Pursuant to SFAS
No. 150, such freestanding financial instruments (i.e., those entered
into separately from an entity's other financial instruments or equity
transactions or that are legally detachable and separately exercisable)
must be classified as liabilities or, in some cases, assets. In
addition, SFAS No. 150 requires that financial instruments containing
obligations to repurchase the issuing entity's equity shares and, under
certain circumstances, obligations that are settled by delivery of the
issuer's shares be classified as liabilities. Certain aspects of SFAS
No. 150 have been deferred; however, the Statement is effective for
financial instruments entered into or modified after May 31, 2003 and
for other instruments at the beginning of the first interim period
beginning after June 15, 2003. The Company does not currently have any
financial instruments that have been impacted by SFAS No. 150.
In December 2003, the SEC issued Staff Accounting Bulletin ("SAB") No.
104, "Revenue Recognition." SAB 104, which was effective upon issuance,
updates portions of the interpretive guidance included in Topic 13 of
the codification of Staff Accounting Bulletins and revises or rescinds
portions of the interpretative guidance included in SAB 101 in order to
make this interpretive guidance consistent with current authoritative
accounting and auditing guidance and SEC rules and regulations. The
principal revisions relate to the incorporation of certain sections of
the staff's Frequently Asked Question ("FAQ") document on revenue
recognition into Topic 13. SAB 101, "Revenue Recognition in Financial
Statements," which was issued in December 1999, provides guidance to
SEC registrants on the recognition, presentation and disclosure of
revenues in the financial statements. Since the Company has already
adopted all such standards upon issuance, the application of this
revised guidance did not impact its consolidated financial position,
results of operations, or disclosure requirements.
In July 2004, the Emerging Issues Task Forces ("EITF") published its
consensus on Issue No. 03-1, "The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments." EITF Issue No.
03-1 addresses the meaning of other-than-temporary impairment and its
application to debt and equity securities within the scope of Statement
of Financial Accounting Standards ("SFAS") No. 115, certain debt and
equity securities within the scope of SFAS No. 124, and equity
securities that are not subject to the scope of SFAS No. 115 and not
accounted for under the equity method of accounting. In September 2004,
the Financial Accounting Standard Board ("FASB") issued FASB Staff
Position ("FSP") Emerging Issues Task Force (EITF) Issue 03-1-b,
Effective Date of Paragraphs 10-20 of EITF Issue No. 03-1, which delays
the effective date for the recognition and measurement guidance in EITF
Issue No. 03-1. In addition, the FASB has issued a proposed FSP to
consider whether further application guidance is necessary for
securities analyzed for impairment under EITF Issue No. 03-1-a.
Adoption of this standard did not have an impact on the Company's
consolidated financial statements.
In November 2004, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 151,
"Inventory Costs" an amendment of Accounting Research Bulletin ("ARB")
No. 43, to clarify the accounting for abnormal amounts of idle facility
expense, freight, handling costs, and wasted material (spoilage). This
Statement requires that those items be recognized as current-period
charges regardless of whether they meet the criterion of "so abnormal".
In addition, this Statement requires that allocation of fixed
production overheads to the costs of conversion be based on the normal
capacity of the production facilities. Companies are required to adopt
the provisions of this Statement for fiscal years beginning after June
15, 2005. The Company does not believe there will be a material effect
on its consolidated financial position or results of operations from
the adoption of this standard.
F-11
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
In December 2004, the FASB issued SFAS No.153, "Exchanges of
Nonmonetary Assets, an amendment of APB Opinion No. 29, Accounting for
Nonmonetary Transactions." The amendments made by Statement 153 are
based on the principle that exchanges of nonmonetary assets should be
measured based on the fair value of the assets exchanged. Further, the
amendments eliminate the narrow exception for nonmonetary exchanges of
similar productive assets and replace it with a broader exception for
exchanges of nonmonetary assets that do not have commercial substance.
Previously, Opinion 29 required that the accounting for an exchange of
a productive asset for a similar productive asset or an equivalent
interest in the same or similar productive asset should be based on the
recorded amount of the asset relinquished. Opinion 29 provided an
exception to its basic measurement principle (fair value) for exchanges
of similar productive assets. The Board believes that exception
required that some nonmonetary exchanges, although commercially
substantive, be recorded on a carryover basis. By focusing the
exception on exchanges that lack commercial substance, the Board
believes this Statement produces financial reporting that more
faithfully represents the economics of the transactions. The Statement
is effective for nonmonetary asset exchanges occurring in fiscal
periods beginning after June 15, 2005. Earlier application is permitted
for nonmonetary asset exchanges occurring in fiscal periods beginning
after the date of issuance. The provisions of this Statement shall be
applied prospectively. The Company has evaluated the impact of the
adoption of SFAS 153, and does not believe the impact will be
significant to the Company's overall results of operations or financial
position.
In December 2004, the FASB issued SFAS No.123 (revised 2004),
"Share-Based Payment". Statement 123(R) will provide investors and
other users of financial statements with more complete and neutral
financial information by requiring that the compensation cost relating
to share-based payment transactions be recognized in financial
statements. That cost will be measured based on the fair value of the
equity or liability instruments issued. Statement 123(R) covers a wide
range of share-based compensation arrangements including share options,
restricted share plans, performance-based awards, share appreciation
rights, and employee share purchase plans. Statement 123(R) replaces
FASB Statement No. 123, Accounting for Stock-Based Compensation, and
supersedes APB Opinion No. 25, Accounting for Stock Issued to
Employees. Statement 123, as originally issued in 1995, established as
preferable a fair-value-based method of accounting for share-based
payment transactions with employees. However, that Statement permitted
entities the option of continuing to apply the guidance in Opinion 25,
as long as the footnotes to financial statements disclosed what net
income would have been had the preferable fair-value-based method been
used. Public entities (other than those filing as small business
issuers) will be required to apply Statement 123(R) as of the first
interim or annual reporting period that begins after June 15, 2005. The
Company has evaluated the impact of the adoption of SFAS 123(R), and
the effect of which is discussed in Footnote 1.
In December 2004 the Financial Accounting Standards Board issued two
FASB Staff Positions--FSP FAS 109-1, Application of FASB Statement 109
"Accounting for Income Taxes" to the Tax Deduction on Qualified
Production Activities Provided by the American Jobs Creation Act of
2004, and FSP FAS 109-2 Accounting and Disclosure Guidance for the
Foreign EarningsRepatriation Provision within the American Jobs
Creation Act of 2004. Neither of these affected the Company as it does
not participate in the related activities.
NOTE 2. INVENTORIES
Inventories consist of the following at December 25, 2004:
Raw materials $ 2,383,000
Work in process 166,000
Finished goods 889,000
--------------
3,438,000
Less reserve for slow moving and obsolete items (622,000)
--------------
$ 2,816,000
==============
F-12
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 3. EQUIPMENT AND LEASEHOLD IMPROVEMENTS
Equipment and leasehold improvements consist of the following at
December 25, 2004:
Machinery, equipment and tooling $ 5,339,000
Office furniture and equipment 1,126,000
Leasehold improvements 1,090,000
----------------
7,555,000
Less accumulated depreciation and amortization (6,156,000)
----------------
$ 1,399,000
================
Depreciation and amortization expense of equipment and leasehold
improvements for fiscal years 2004 and 2003 was $736,000 and $722,000,
respectively.
NOTE 4. INCOME TAXES
The Company's provision for income taxes consists of the following:
2004 2003
------------- -------------
Current:
Federal $ (14,000) $ (28,000)
State 30,000 8,000
Foreign 47,000 37,000
------------- -------------
63,000 17,000
------------- -------------
Deferred:
Federal 10,000 (117,000)
State 70,000 --
------------- -------------
80,000 (117,000)
------------- -------------
$ 143,000 $ (100,000)
============= =============
Pre tax income subject to foreign and U.S. income taxes for fiscal 2004
and 2003 were as follows:
2004 2003
------------- -------------
U.S. pre tax income $ 409,000 $ 222,000
Foreign pre tax income 136,000 110,000
------------- -------------
$ 545,000 $ 332,000
============= =============
The reported provision for income taxes differs from the amount
computed by applying the statutory federal income tax rate of 35% to
the consolidated income before provision for income taxes as follows:
2004 2003
-------------- --------------
Statutory federal income tax provision $ 185,000 $ 116,000
State income taxes, net of federal benefit 20,000 16,000
Change in valuation allowance -- --
Nondeductible expenses 9,000 24,000
Tax credits generated in current year (86,000) (234,000)
Other 15,000 (22,000)
-------------- --------------
Income tax (benefit) provision $ 143,000 $ (100,000)
============== ==============
F-13
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 4. INCOME TAXES (Continued)
The components of the Company's net deferred income tax assets as of
December 25, 2004 are as follows:
2004
----------------
Deferred Tax Assets:
Operating loss carryforwards $ 1,950,000
Intangibles, primarily in-process research and development 345,000
Stock based compensation not currently deductible 192,000
Reserves not currently deductible 471,000
Equipment and leasehold improvements 278,000
Tax credits 186,000
Other 67,000
----------------
3,489,000
Deferred Tax Liabilities:
Marketable Securities (384,000)
---------------
3,105,000
Valuation allowance (1,500,000)
---------------
Net deferred tax assets $ 1,605,000
===============
The net deferred tax assets have been classified on the accompanying
consolidated balance sheet as follows:
Current assets $ 525,000
Noncurrent assets 1,080,000
---------------
Net deferred tax assets $ 1,605,000
===============
In assessing the realizability of deferred tax assets, management has
estimated that it is more likely than not 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. During fiscal years 2004 and
2003, the Company utilized approximately $298,000 and $116,000,
respectively, of net operating losses, to offset currently payable tax
liability. Realization of the remaining deferred tax assets is
dependent upon generating sufficient future taxable income. Although
realization is not assured, management believes the net deferred taxes
will be realized and 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 $5,176,000 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 $1,500,000 of the Company's net
operating loss will expire without utilization. Loss carryforwards for
tax purposes expire in amounts and by fiscal year as follows: 2005
$2,836,000; 2006 $1,820,000; 2007 $274,000; 2010 $13,000; 2012
$114,000, 2018 $85,000 and 2202 $34,000.
NOTE 5. LONG-TERM DEBT
In December of 2004 the Company increased its borrowings by $4,215,000.
Spectrum's prior two equipment acquisition loans were consolidated into
one loan plus a revolving credit note. The proceeds of the acquisition
loan are restricted to certain purposes, as defined in the credit
agreement.The acquisition loan has an outstanding balance at December
25, 2004 of $6,000,000, bears interest at prime plus .25% (5.50% at
December 25, 2004) and requires 24 monthly principal installments of
$85,000 beginning February 1, 2005 thru January 1, 2007, then 12
monthly principal installments of $100,000 thru January 1, 2008, then
F-14
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 5. LONG-TERM DEBT (Continued)
12 monthly principal installments of $110,000 thru January 1, 2009 and
finally 12 monthly principal installments of $120,000 thru January 1,
2010,
The revolving credit note provides the Company with additional
liquidity and the ability to issue letters of credit aggregating up to
$300,000 through April 1, 2005. The Company did have a $75,000
outstanding standby letter of credit outstanding as of December 25,
2004 although no proceeds had been drawn against the standby letter of
credit during 2004. Interest on any proceeds drawn on the revolving
credit note bear interest at prime plus .25% and interest is payable on
the first of every month. The Company is required to have a period of
not less than 30 consecutive days during the 12 month period ending
April 1, 2005 during which time there are to be no outstanding
revolving credit loans.
The agreement is secured by substantially all of the assets of the
Company and is personally guaranteed by the majority stockholder. The
agreement also requires the maintenance of certain financial and
non-financial loan covenants and restricts payment of dividends. The
Company was not in compliance with one of these loan covenants at
December 27, 2003 relating to cash flow to debt coverage. The Company
received a covenant waiver from its bank on March 25, 2004. Future
maturities of long-term debt owed on December 25, 2004 by fiscal year
are approximately as follows: 2005 $935,000; 2006 $1,020,000; 2007
$1,185,000; 2008 $1,310,000; 2009 $1,430,000; and 2010 $120,000.
NOTE 6. STOCK 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 issued
under the Plan become exercisable over a five-year period (20% per
year).
In addition to the 2000 Option Plan, during 1998 the Company granted
nonqualified stock options to purchase 5% of the outstanding stock to
an officer of the Company at $1.20 per share. The terms of this grant
result in variable plan accounting. Accordingly, future compensation
expense will be measured and recorded based on stock price
fluctuations. At the date of grant, 60% of these options vested
immediately and the remaining 40% vest over two to four years. As of
2003, all of these options, which aggregate to 265,624, are fully
vested. Total compensation expense recorded was approximately $12,000
in both fiscal years.
A summary of the status of the Plan and the nonqualified options and
changes during fiscal years ended 2004 and 2003 are as follows:
Weighted
Average
Number Exercise
of shares Exercise
------------- -------------
OUTSTANDING, December 28, 2002 797,724 $ 1.71
Granted - -
Forfeited (99,000) $ 2.25
-------------
OUTSTANDING, December 27, 2003 698,724 $ 1.63
Granted 150,000 $ 2.10
Forfeited (9,050) $ 2.17
-------------
OUTSTANDING, December 25, 2004 839,674 $ 1.72
=============
At December 25, 2004, 25,950 shares were available for future grants
under the Plan. The number of options exercisable were 523,144 and
451,484 as of December 25, 2004 and December 27, 2003, respectively.
F-15
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 6. STOCK OPTION PLAN (Continued)
A further summary of options outstanding at December 25, 2004 is as
follows:
Options Outstanding Options Exercisable
-------------------------------------------------------------------- --------------------------------
Weighted
Weighted average Weighted
average remaining average
Exercise Number exercise contractual Number exercise
Prices of options price life in years of options price
------------------- --------------- -------------- --------------- ---------------- ---------------
$ 1.20 265,624 $ 1.20 5.67 265,624 $ 1.20
1.53 225,000 1.53 7.56 90,000 1.53
1.88 400 1.88 2.84 400 1.88
2.10 150,000 2.10 9.94 - 2.10
2.13 159,400 2.13 5.37 127,520 2.13
2.18 10,000 2.18 1.48 10,000 2.18
2.20 3,600 2.20 2.02 3,600 2.20
3.20 20,150 3.20 0.96 20,500 3.20
4.37 5,000 4.37 1.11 5,000 4.37
7.50 500 7.50 1.79 500 7.50
--------------- ---------------
839,674 523,144
=============== ===============
NOTE 7. WARRANTS
During the first quarter of 2004 the Company issued warrants to a third
party (the Warrant Holder) to purchase 125,000 shares of common stock
at $1.70 per share through February 4, 2010 with a fair value of
$130,000. The Warrant Holder is entitled to purchase an additional
125,000 shares of common stock at $1.70 upon having assisted Spectrum
in raising at least $2.5 million in gross proceeds from one or more
private or public equity financings originated or facilitated by the
Warrant Holder through February 3, 2010. Spectrum's estimate of the
fair value of the first 125,000 warrants granted were made using the
Black-Scholes warrant-pricing model with the following weighted average
assumptions: expected life of three years; stock volatility of 66%;
risk-free interest rate 2.5%; and no dividends during the expected
term.
Based on the Black-Scholes warrant-pricing model Spectrum and the Board
of Directors decision not to actively pursue either private or public
equity financing at this time Spectrum has recorded $130,000 in warrant
related expense in the third quarter associated with the 125,000
warrants issued during the first quarter. If Spectrum is successful in
the future, in raising the required $2.5 million, with the Warrant
Holder's assistance, the additional 125,000 warrants will vest
immediately upon issuance and the Company will measure the warrants
using the Black-Scholes warrant pricing model and the fair value of the
warrants will be charged against the proceeds at that time.
NOTE 8. RELATED-PARTY TRANSACTIONS
ROYALTY AGREEMENT - The Company is committed under a royalty agreement
to pay the majority stockholder royalties of 7% of the net sales of
certain products, as defined, through the life of the defined products.
During 2004 and 2003, the Company incurred royalty expenses of $304,000
and $312,000, respectively, under this agreement.
The Company's Chairman of the Board of Directors and Chief Executive
Officer is also on the Board of Directors of Arbios Systems, Inc. in
which Spectrum holds marketable securities.
F-16
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 9. COMMITMENTS, RENT EXPENSE AND OTHER AGREEMENTS
LEASE COMMITMENTS AND RENT EXPENSE - The Company is obligated under the
terms of various operating lease agreements for manufacturing,
warehouse and office facilities thru December 2006. Certain of these
leases provide for rent escalation adjustments. Rent expense was
$525,000 and $491,000 in fiscal years 2004 and 2003, respectively.
Minimum future rental payments under these operating lease agreements
for the years ending on the last Saturday of the calendar year December
31 are as follows: 2005 $566,000; 2006 $106,000; (total $672,000). The
Company anticipates it will be extending its lease on its principal
facility located California upon its current termination date of July
2005.
NOTE 10. GEOGRAPHIC INFORMATION
Net sales by country for fiscal years ended 2004 and 2003 are as
follows:
2004 2003
------------- -------------
United States $ 9,924,000 $ 9,527,000
Japan 696,000 634,000
Other countries, each of which represent less than 5%
of total net sales 2,630,000 2,383,000
------------- -------------
$ 13,250,000 $ 12,544,000
============= =============
There were no significant assets held outside the United States at
December 25, 2004 or December 27, 2003. Sales to Japan are denominated
in U.S. dollars and there are no material differences in gross margin
in sales to different countries.
NOTE 11. MAJOR CUSTOMERS
Net sales for fiscal years 2003 and 2002 include sales to the following
major customers (each of which accounted for 10% or more of the total
sales of the Company) together with the receivables due from those
customers as of December 25, 2004 and December 27, 2003:
2004 2003
------------------------------ ------------------------------
TRADE Trade
ACCOUNTS Accounts
NET SALES RECEIVABLE Net Sales Receivable
------------- -------------- ------------- -------------
Customer A $ 1,733,000 $ 309,000 $ 1,639,000 $ 267,000
============= ============== ============= =============
Customer B $ 1,602,000 $ 220,000 $ 1,675,000 $ 232,000
============= ============== ============= =============
NOTE 12. PREFERRED STOCK OF SUBSIDIARY
On October 1, 1996, SLI Acquisition Corp., (SLIAC), a subsidiary of the
Company, entered into an Asset Purchase Agreement with Cellco, Inc., a
Delaware corporation, and acquired the operating assets and liabilities
of Cellco, Inc. in exchange for 10,000 shares of the subsidiary's
preferred stock valued at $2,000,000 for redemption purposes. One of
the subsidiary's preferred stockholders sold its stock with a carrying
value of $245,000 to the Company in 1999. At December 25, 2004, there
is $1,755,000 in preferred stock of the subsidiary outstanding. The
preferred stockholders of the subsidiary had the right to put their
stock to SLIAC at any time through September 30, 2001 for an aggregate
price of $1,755,000. In the event the subsidiary is combined with the
Company and the combined company completes an underwritten offering,
the preferred stockholders have the right to exchange such stock for 7%
of the newly combined company. The preferred shares of SLIAC are
nonvoting and have preference over common stockholders as to dividends
and liquidation.
F-17
SPECTRUM LABORATORIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
NOTE 13. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
2004 2003
-------------- --------------
Cash paid for:
Income (refunds) taxes $ (116,000) $ (33,000)
============== ==============
Interest $ 107,000 $ 140,000
============== ==============
NOTE 14. PRODUCT GROUP INFORMATION
The Company's product groups are based on specific product
characteristics and are grouped into bioprocessing/laboratory products,
original equipment manufacturing ("OEM") and operating room disposable
products. Bioprocessing/laboratory products consist primarily of (1)
hollow fiber membrane devices that allow components retained by a
membrane to be concentrated, including filters utilized for micro and
ultra filtration separations that are sold to biotech and
pharmaceutical companies. (2) membranes used to concentrate, separate
and purify dissolved or suspended molecules that are sold primarily to
laboratories. OEM principally consists of manufacturing hollow fiber
membrane devices to certain customer's specifications. Operating room
disposable products consist of sterile plastic surgical drapes and
cloth bandages that are used primarily by hospitals.
Revenue by product group is as follows:
2004 2003
--------------- ---------------
Bioprocessing/laboratory products $ 9,142,000 $ 8,918,000
Original equipment manufacturing 2,464,000 1,995,000
--------------- ---------------
Operating room disposable products 1,644,000 1,631,000
--------------- ---------------
$ 13,250,000 $ 12,544,000
=============== ===============
NOTE 15. FOURTH QUARTER ADJUSTMENTS
The Company incurred a physical inventory pre tax loss of approximately
$185,000 in the fourth quarter of 2004, resulting in a total fourth
quarter 2004 pre tax loss of $178,000. In addition the Company
estimates its taxes during the first three quarters of the year based
on prior year's tax rate. A detailed tax analysis is prepared based on
the annual results and applicable taxes recorded. This analysis
resulted in a annual tax expense of $143,000 for fiscal year 2004
resulting in a tax benefit of $85,000 being recorded in the fourth
quarter.
NOTE 16. SUBSEQUENT EVENT
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
$65,000 in expense as of December 25, 2004 relating to going private.
F-18
SPECTRUM LABORATORIES, INC.
SCHEDULE II: VALUATION AND QUALIFYING ACCOUNT INFORMATION
---------------------------------------------------------------------------------------------------
Balance at Provision
Fiscal beginning charged to Net recoveries Balance at
year of year expense (charge-offs) end of year
------- ------------- ------------- ------------- -------------
Doubtful Accounts: 2004 $ 110,000 $ 63,000 $ (37,000) $ 136,000
============= ============= ============= =============
2003 $ 119,000 $ -- $ (9,000) $ 110,000
============= ============= ============= =============
Sales returns &
allowances 2004 $ 30,000 $ 30,000 $ -- $ 60,000
============= ============= ============= =============
2003 $ 30,000 $ -- $ -- $ 30,000
============= ============= ============= =============
Slow moving and
obsolete inventory: 2004 $ 627,000 $ 39,000 $ (44,000) $ 622,000
============= ============= ============= =============
2003 $ 669,000 $ -- $ (42,000) $ 627,000
============= ============= ============= =============
Deferred Tax Assets 2004 $ 1,500,000 $ -- $ -- $ 1,500,000
============= ============= ============= =============
2003 $ 1,500,000 $ -- $ -- $ 1,500,000
============= ============= ============= =============
F-19