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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
___________________________________
For the Fiscal Year Ended Commission File Number
December 31, 2002 0-32565
NUTRASTAR INCORPORATED
California 87-0673375
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(State of Incorporation) (I.R.S. Employer Identification)
Principal Executive Offices:
1261 Hawk's Flight Court
El Dorado Hills, CA 95762
Telephone: (916) 933-7000
Securities registered pursuant to Section 12(b) of the Exchange Act:
Title of Each Class Name of Each Exchange on Which Registered
------------------- -----------------------------------------
None None
Securities registered pursuant to Section 12(g) of the Exchange Act:
Title of Each Class Name of Each Exchange on Which Registered
------------------- -----------------------------------------
Common Stock No Par Value
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. [X]
The issuer's revenues for its most recent fiscal year was approximately
$1,286,400.
As of March 28, 2003, the aggregate value of the voting stock held by
non-affiliates of the Registrant, computed by reference to the average of the
bid and ask price on such date was approximately $ 1,199,123 based upon the
average price of $0.09/share.
ISSUER INVOLVED IN BANKRUPTCY PROCEEDING DURING THE PAST FIVE YEARS
Check whether the issuer has filed all documents and reports required to be
filed by Section 12, 13 or 15(d) of the Exchange Act after the distribution of
securities under a plan confirmed by a court.
Yes X No
----------- ------------
As of March 17, 2003, the Registrant had outstanding 25,750,578 shares of common
stock (no par value).
Transitional Small Business Disclosure Format: Yes [ ] No [X]
Documents Incorporated by Reference
Certain exhibits required by Item 13 have been incorporated by reference from
the Company's previously filed Form 8-K's, Form 10-QSB and Form 10-KSB.
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TABLE OF CONTENTS
Page of
Report
PART I.....................................................................................................1
ITEM 1.DESCRIPTION OF BUSINESS.....................................................................1
ITEM 2.DESCRIPTION OF PROPERTY....................................................................13
ITEM 3.LEGAL PROCEEDINGS..........................................................................13
ITEM 4.SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS........................................14
PART II...................................................................................................15
ITEM 5.MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS...................15
ITEM 6.MANAGEMENT'S DISCUSSION AND ANALYSIS AND PLAN OF OPERATION.................................18
ITEM 7.FINANCIAL STATEMENTS.......................................................................24
ITEM 8.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.......64
PART III..................................................................................................66
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT..............................66
ITEM 10.EXECUTIVE COMPENSATION....................................................................69
ITEM 11.SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT............................75
ITEM 12.CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS............................................76
ITEM 13.EXHIBITS AND REPORTS ON FORM 8-K..........................................................78
ITEM 14. CONTROLS AND PROCEDURES.................................................................78
SIGNATURES................................................................................................80
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PART I
ITEM 1. DESCRIPTION OF BUSINESS
General
NutraStar Incorporated (referred to as "NutraStar" or the "Company") is a
California corporation formerly known as Alliance Consumer International, Inc.
As a result of the Exchange Transaction discussed below, NutraStar's business is
now the business previously carried on by NutraStar Technologies Incorporated, a
Nevada corporation ("NTI"). NTI was formed and started doing business in
February, 2000. NutraStar is a relatively new health science company focused on
the development and distribution of products based upon the use of stabilized
rice bran and proprietary rice bran formulations. Rice bran is the outer layer
of brown rice which, until recently, was a waste by-product of the commercial
rice industry. These products include food supplements which provide health
benefits for both humans and animals (known as "nutraceuticals") as well as
cosmetics and beauty aids based on the rice bran oils. NutraStar believes that
stabilized rice bran products can deliver beneficial biological effects with
fewer of the adverse side effects commonly associated with many prescription
drugs. As a result, NutraStar believes that certain of its products may be used
in place of, or as a supplement to, some of the most commonly used
pharmaceuticals. NutraStar has conducted and is currently involved in ongoing
clinical trials and third party analysis in order to support the uses for and
effectiveness of its products.
NutraStar has developed a number of product lines that are currently or soon
will be available for sale in the market through its four divisions:
TheraFoods(R), which provides health food supplements to the retail market;
NutraCea(R), which distributes food supplements through the medical community;
NutraGlo(R), which distributes animal food products; and NutraBeauticals(R),
which will develop and market cosmetics and beauty aids. NutraStar anticipates
developing strategic distribution and marketing agreements with well-known
retail product and pharmaceutical companies and medical practices and
institutions.
NutraStar's corporate offices and operations are located at 1261 Hawk's Flight
Court, El Dorado Hills, California 95762. NTI's telephone number is (916)
933-7000. NutraStar has one wholly owned subsidiary, NTI, which in turn wholly
owns NutraGlo, Incorporated, a Nevada corporation. Both of these subsidiaries
maintain business offices at NutraStar's principal business office in El Dorado
Hills, California.
History
NutraStar Incorporated was originally incorporated on March 18, 1998 under the
laws of the State of California as Hickory Investments II, Inc. ("Hickory"). On
June 2, 1998, Hickory changed its name to Alliance Consumer International, Inc.
("Alliance"). On December 14, 2001, Alliance changed its name to NutraStar
Incorporated in connection with the Exchange Transaction (see below).
1
In mid-1998 and early 1999, Alliance was engaged in the business of
manufacturing cosmetics, detergents and pharmaceuticals. On July 13, 1999,
Alliance filed a voluntary petition under Chapter 11 of the U.S. Bankruptcy
Code. The case was filed in the Central District of California, Los Angeles
Division, Chapter 11 Case No. LA-99-36256-EC. In November 1999, the U.S.
Bankruptcy Court approved a Plan of Reorganization, referred to as the "Plan",
which provided for the sale of substantially all of Alliance's assets. While the
Chapter 11 bankruptcy proceedings were pending, an investor group led by Home
Marketing Enterprises, LLC, a Utah limited liability company, made an offer to
purchase a majority of Alliance's issued and outstanding shares. This offer was
accepted by the attorneys for the Debtor in Possession and thereafter formally
approved by the Bankruptcy Court at a February 21, 2001 Sale Confirmation
Hearing. A formal Order reflecting the sale was entered with the Clerk of the
Court on March 12, 2001.
On March 12, 2001 Alliance emerged from Chapter 11 bankruptcy with no remaining
material assets or liabilities. Among other things, the Bankruptcy Court
approved (1) a change in officers and directors, (2) the cancellation of all
authorized and any outstanding preferred shares, (3) a reverse common stock
split at a ratio of one share for every fifty shares that were then-issued and
outstanding, (4) an increase in the authorized common capital shares from
15,000,000 to 50,000,000 shares, and (5) the issuance of 3,500,000 post-split
common capital shares to the investor group.
As a result of the one-for-fifty shares reverse split, Alliance, prior to the
Court-authorized issuance of the 3,500,000 shares referenced above, had 132,377
common shares issued and outstanding. At the time of the Bankruptcy purchase
transaction, Alliance also issued 17,133 post-split shares to four individuals
involved in, or associated with, Alliance. The total number of the post-split
issued and outstanding shares, following Bankruptcy Court approval of the
purchase transaction, was 3,649,520.
On March 28, 2001, the Restated Articles of Incorporation, implementing the
changes and amendments to the Alliance Articles approved by the U.S. Bankruptcy
Court, were filed with the Secretary of State of the State of California. Since
its emergence from Chapter 11 bankruptcy and concluding with the Exchange
Transaction, Alliance had been seeking to engage in a business combination. The
Common Stock and deficit accumulated during such stage have been restated with
the statement of operations to begin on March 12, 2001, the date of entry of the
Bankruptcy Court Order approving the purchase and sale by the investor group.
Exchange Transaction
On December 14, 2001, Alliance issued 17,000,000 shares of its the common stock
(the "Common Stock") to the shareholders of NutraStar Technologies Incorporated,
a Nevada corporation ("NTI"), in exchange for all of the issued and outstanding
shares of the common stock of NTI (the "Exchange Transaction") pursuant to that
certain Plan and Agreement of Exchange dated November 9, 2001 (the "Exchange
Agreement") between Alliance, NTI and the principal shareholders of NTI. As a
result of the Exchange Transaction, Alliance changed its name to NutraStar
Incorporated, NTI became a wholly owned subsidiary of NutraStar and the former
shareholders of NTI became the owners of approximately 82% of NutraStar's then
2
outstanding common stock. Upon consummation of the Exchange Transaction, the
sole officer and director of Alliance resigned and the officers and directors of
NTI became the officers and directors of NutraStar and it changed its trading
symbol to "NTRA".
On April 27, 2000, prior to the Exchange Transaction, NTI formed NutraGlo
Incorporated ("NutraGlo"), a Nevada corporation, which was owned 80% by NTI and
20% by NutraGlo Investors L.P. During fiscal year 2001, NutraGlo started
marketing, manufacturing and distributing one of NTI's products to the equine
market. In connection with the Exchange Transaction, NTI issued 250,001 shares
of its common stock to the limited partnership in exchange for the remaining 20%
of the common stock of NutraGlo. The value of the shares was $250,001. As a
result, NutraGlo is now a wholly owned subsidiary of NTI.
Industry Overview
By definition, nutraceuticals are food constituents that have biologically
therapeutic effects in humans and mammals. These compounds include vitamins,
antioxidants, polyphenols, phytosterols, as well as macro and trace minerals.
Rice bran and rice bran oil are good sources for some of these compounds,
including tocotrienols, a newly discovered complex of vitamin E, and
gamma-oryzanol, which is found only in rice bran. These compounds act as
antioxidants. Stabilized rice bran and its derivatives and rice bran oil also
contain high levels of B-complex vitamins and beta-carotene which is a vitamin A
precursor. Stabilized rice bran also contains high levels of carotenoids and
phytosterols, both essential fatty acids, as well as a balanced amino acid
profile and both soluble and insoluble fiber which promote colon health.
Rice is one of the world's major cereal grains, although United States
production of rice is only a small fraction of total world production.
Approximately 60% of the nutritional value of rice is contained in the rice
bran, the outer brown layer of the rice kernel. However, unstabilized rice bran
deteriorates rapidly, within hours after milling. The RiceX Company ("RiceX"),
one of NutraStar's primary suppliers, has developed a method of stabilizing rice
bran that NutraStar believes is superior to other methods, and provides a shelf
life of approximately two years, which NutraStar believes is longer than any
other stabilized rice bran. Certain of NutraStar's core products,
RiSolubles(TM), RiceMucil(R), NutraFlex(TM), and StaBran(R) are based on
"stabilized rice bran" produced by RiceX.
In 1999, the Alliance for Aging Research in Washington D.C. reported that when
Americans reach their 50th birthday, their chance of being diagnosed for the
first time with hypertension, arthritis, or diabetes will triple by the time
they reach 60. As the population of the United States ages over the next 30
years, the Company believes demand for its products will grow dramatically.
Since stabilized rice bran is a safe food product, the Company believes that its
beneficial effects can be obtained with a minimum of known deleterious side
effects, such as those that may be present in pharmaceuticals. Many physicians
have taken an interest in NutraStar's nutraceutical products as a means of
offering alternative or complementary approaches for treating serious health
care problems. If further clinical trials support the beneficial effects of
NutraStar's stabilized rice bran products and if the medical community widely
endorses such use of its products, NutraStar believes that its products may be
3
used as a nutritional therapy either prior to or as a compliment to traditional
pharmaceutical therapies for the treatment of a variety of ailments including
diabetes and coronary heart disease.
The Company
NutraStar Incorporated is a California corporation formerly known as Alliance
Consumer International, Inc. As a result of the Exchange Transaction discussed
above, NutraStar acquired all of the outstanding stock of NTI which, as a
result, became a wholly owned subsidiary of NutraStar. NTI started doing
business in February of 2000 focusing on the development and marketing of
various products based upon the use of stabilized rice bran. The stabilized rice
bran being utilized by NTI is based upon a patented process developed by RiceX.
In order to exploit the biological benefits of rice bran, NTI has developed and
is developing various health food supplements to be marketed and sold to retail
customers. In addition, NTI has developed and is developing various cosmetic and
beauty aids which have been formulated utilizing specially developed rice bran
oils. Due to the health benefits which can be realized from rice bran
consumption, NTI is also developing a product distribution system through
various health care practitioners and clinics.
NutraStar is also involved in identifying business acquisitions which are
consistent with its business and strategic plans. Such businesses could include
companies offering nutraceutical products which complement NutraStar's or
companies with distribution channels which could be utilized by NutraStar. On
May 6, 2002, Nutrastar entered into a Finders and Advisory Agreement with
vSource1 LLC and certain of its affiliates pursuant to which vSource1 will
search for, evaluate and introduce to NutraStar various acquisition candidates
which are deemed compatible with and would enhance NutraStar's business plans.
vSource1 will be paid a fee for any acquisition that NutraStar actually
consummates, based on the transaction value, and will be paid a fee for funds
secured to finance any such acquisitions, based upon the amount of funds
secured. The agreement has a term of one year with successive 12-month renewals.
NTI has one wholly owned subsidiary called NutraGlo through which it develops
and markets rice bran food supplements for animals. NutraStar, NTI and NutraGlo
all operate their businesses primarily from NutraStar's principal business
offices in El Dorado Hills, California.
Products
NutraStar has four primary divisions through which it sells its products:
1. TheraFoods(TM). NutraStar distributes its consumer products through its
TheraFoods(TM) division. The primary products currently sold through this
division are RiSolubles(TM), RiceMucil(R), NutraFlex(TM), and StaBran(R). All
four products are currently available in capsule and powdered form for use as
food supplements. The powdered form can also be used as a food additive in
breads, cookies, snacks, beverages, and similar foods. The nutritional value of
NutraStar's RiSolubles(R) and RiceMucil(R) products have been analyzed by four
independent certified analytical laboratories in the US. The beneficial
attributes of stabilized rice bran, including the products, RiSolubles(TM) and
RiceMucil(R), have been studied and reported on by several laboratories.
4
Laboratories reporting on stabilized rice bran included Medallion Laboratories
in Minnesota, Craft's Technologies, Inc. in North Carolina, Southern Testing &
Research Laboratories in Wilson, North Carolina, and Ralson Analytical
Laboratories in Missouri. NutraStar has no affiliation with nor does it pay for
these studies. This analysis has verified the presence of antioxidants,
polyphenols, phytosterols as well as beneficial macro and trace minerals in
NutraStar's stabilized rice bran products. Antioxidants are compounds which
scavange or neutralize damaging compounds called free radicals; polyphenals are
organic compounds which act as direct antioxidants and help fight cancer; and
phytosterols are plant derived sterol molecules which help improve immune
response to fight certain cancers. This analysis was carried out during
1998-2000 by these laboratories following approved official methods of analysis
and unaffiliated to NutraStar or any of its affiliates. Studies have also found
that soluble and insoluble fiber, such as that found in NutraStar's RiceMucil(R)
product, does not produce the uncomfortable gas buildup in the colon and
intestines which is common with soluble fibers like psylium and guar gum.
The Company has also developed and currently produces a topical, transdermal
cream product for arthritic and joint pain in connection with the Absorbine(R)
branded joint venture which will be marketed under either Absorbine Pro(TM) or
Absorbine Sr.(R).
2. NutraCea(R). NutraCea(R) has been created to compliment NutraStar's medical
food products through a newly created distribution channel in the medical
community, primarily doctors and health care providers. The Center for Disease
Control reported that annual expenditures in the United States in 2002 for
cardiovascular diseases ("CVD") have been estimated at $329 billion including
health care expenditures and lost productivity. NutraStar believes it can
develop effective products to address CVD. For example, a limited clinical trial
conducted by Advanced Medical Research, Madison, Wisconsin suggests that certain
of NutraStar's products, specifically RiSolubles(R) and RiceMucil(R), may lower
blood glucose levels of diabetes mellitus patients. This clinical trial was
funded by The RiceX Company. NutraStar does not have any affiliation with
Advanced Medical Research.
The Company also has consulting relationships with several physicians who assist
in formulating medical food products. Three such products have already been
created: Synbiotics(TM) 1 which is a nutritional therapy for Irritable Bowel
Syndrome ("IBS"), Synbiotics(TM) 2 which is a nutritional therapy for
Inflammatory Bowel Disease ("IBD"), and Synbiotics(TM)3 which is a nutritional
therapy of antibiotic-induced diarrheal conditions.
Through several consulting physicians, NutraStar has support from several
medical institutions and practices that are and will continue to conduct
clinical trials and beta work for its products. For example, a 50-subject, open
label clinical trial for the Synbiotics(TM) 2 product on IBD patients is being
conducted by physicians at UC Davis Medical Center and a private physicians
group is conducting a 50-subject, open label clinical trial for the
Synbiotics(TM) 1 product on IBS patients. Two of these clinical trials, which
NutraStar funded, are reviewed in an article published in the March, 2002 issue
of the Journal of Nutritional Biochemistry. Additionally, based on clinical
trials and a United States patent, NutraStar believes that RiSolubles(TM) and
RiceMucil(R) may be beneficial in reducing high blood cholesterol and high blood
lipid levels. The Company intends to conduct additional clinical trials to
5
further investigate such effect and, if warranted, develop products to address
this market.
3. NutraBeauticals(R). NutraBeauticals(R) is focused on providing natural
products to improve skin health. NutraBeauticals(R) Skin Cream is such a
product, and contains rice bran oil and other natural ingredients that support
the health of the skin. NutraStar is also pursuing acquisitions and product
development for additional natural cosmetic products.
4. NutraGlo(R). NutraStar developed a derivative of its NutraFlex(TM) product to
prevent and rehabilitate debilitating joint degeneration in horses. The W.F
Young Company, the distributors of Absorbine(R) products, sponsored a 50-horse
equine study, which demonstrated the Company's Absorbine Flex+ product to be an
effective product for treating joint degeneration in horses. NutraStar has
recently received allowance of 26 claims covering its NutraFlex and Absorbine
Flex+ products, for reducing inflammation, lameness and loss of joint mobility
in humans, horses, dogs, cats and other mammals.
Marketing
The Company's TheraFoods(R) division is currently marketing its products
domestically through various distribution channels including NutraStar's
toll-free phone number and through the Internet at
http://www.nutrastar.com/products.html. In addition, a national wholesale
natural products company has commenced offering the Company's RiSolubles(R) and
RiceMucil(R) to 4,500 natural food stores.
NutraStar's equine product is distributed under the name "Absorbine Flex+" by
W.F. Young, Inc. pursuant to a distribution agreement with NutraStar dated May
1, 2001 pursuant to which the Company's Absorbine Flex+ is being introduced
nationwide and will be introduced into the international market in 36 countries.
The distribution agreement provides for the NutraGlo division to manufacture,
package and ship all W.F. Young's sales requirements while W.F. Young is granted
a license to use and market NutraStar's products and brand names. NutraGlo has
agreed to sell its equine products exclusively through W.F. Young at preferred
product prices. W.F. Young has agreed to use its best efforts to promote
NutraGlo's current and future equine products and make minimum product
purchases. Minimum product purchases for July 1, 2001 and September 1, 2002 have
been met. The distribution agreement is for a term of three years ending on
August 31, 2004 and may be renewed for subsequent one-year terms. NutraStar has
developed a number of other animal products which it is seeking to distribute
through various distribution channels such as the Internet and strategic joint
ventures in the large animal, pet and veterinarian industries.
The Company has entered into a strategic alliance with World Nutriceuticals,
Inc. ("WNI") pursuant to which WNI will introduce the Company's products to
their customer base with the objective of developing private-label products for
various health food and cosmetic vendors who are clients of WNI. This marketing
affiliation agreement was entered into effective April 12, 2002 and has an
initial term of two years, with one year renewal terms, and provides for a 10%
commission to be paid by NutraStar on gross receipts from customers identified
by WNI.
6
NutraStar also intends to distribute many of its consumer products through
direct response marketing channels such as infomercials and catalogue sales.
NutraStar expects its Absorbine(R) branded products to be sold initially through
television and radio infomercial campaigns sponsored by W.F. Young, Inc.
Product Supply
NutraStar currently purchases all of its stabilized rice bran, rice bran
solubles, rice bran fiber concentrates, and other rice bran products from RiceX.
The Company believes RiceX has a unique manufacturing process which allows its
stabilized rice bran products to have an estimated shelf life of at least one
year and up to three years under proper storage conditions while other companies
using stabilized rice bran products have a typical shelf life of approximately
two months. NutraStar does not currently have any supply contract with RiceX but
purchases its necessary inventory at RiceX's standard prices. While RiceX can
sell its stabilized rice bran to other customers, NutraStar currently purchases
approximately 8.2% of RiceX's output of stabilized rice bran products.
NutraStar believes that for the foreseeable future, RiceX will provide it with
an adequate quantity of high quality rice bran products although other potential
competitors can purchase RiceX's unique rice bran products. Although it is not
anticipated at this point, it is possible that future customers could start
purchasing stabilized rice bran from RiceX in such quantities that the Company
could be prevented from purchasing the amount of product deemed necessary for
its operations. At the present time, there are few other sources of stabilized
rice bran of the quality comparable to that produced by RiceX.
The Company believes that RiceX's processing facility in Dillon, Montana does
not have sufficient capacity to produce rice bran products in the quantities
that the Company anticipates needing in the future if its growth objectives are
achieved. However, RiceX has indicated that it is able to outsource production
to meet NutraStar's needs but this has not been verified or implemented.
NutraStar's long-term plans include assisting RiceX in the expansion of its
existing and future processing facilities, so that NutraStar will have more
control of both the production and distribution of its products, and/or the
establishment of a joint venture with a significant distributor to construct a
processing facility to produce the product to be sold to such distributor.
However, such undertakings will require substantial additional funds, and there
are no assurances that RiceX will accept any offer from the Company or that the
Company will successfully establish a joint venture.
Competition
NutraStar competes with other companies that offer stabilized rice bran as well
as other companies that offer other food ingredients and nutritional supplements
although NutraStar believes its rice bran has a longer shelf life than its
competitors. NutraStar's leading competitors in the stabilized rice bran market
include Producer's Rice Mill, California Pacific Rice and Uncle Ben's Rice, Inc.
NutraStar is unaware of others who offer stabilized rice bran products. In
7
addition, NutraStar faces competition from those who currently offer oat bran
and wheat bran in the nutritional supplement market, as it believes that some
consumers may consider the differences between different bran products to be
minimal. Many of NutraStar 's competitors have greater marketing, research, and
capital resources than it does, and may be able to compete more effectively,
especially with price. There are no assurances that NutraStar's products will be
able to compete successfully. The Company's inability to generate brand demand
and establish competitive advantages in the marketplace would have a material
adverse effect on its operations and profits.
Government Regulation
The manufacturing, packaging, labeling, advertising, distribution, and sale of
NutraStar's products are subject to extensive regulation by one or more federal
agencies. The primary governmental agency that oversees the Company's products
is the Food and Drug Administration (the "FDA").
The Dietary Supplement Health Education Act of 1994 (the "DSHEA") provides the
basic statutory framework governing the composition and labeling of dietary
supplements, which would include the Company's TheraFoods(TM) and NutraCea(TM)
product lines. A seller of dietary supplements, which include vitamins,
minerals, herbs, and other dietary substances for human consumption, may make
three different types of claims in its labeling: nutrient content claims,
nutritional support claims, and health benefit claims. In January 2000, the FDA
adopted regulations implementing the labeling provisions of the DSHEA.
Nutrient content claims are those claims that state the nutritional content of a
dietary supplement, and further include claims such as "high in calcium" and "a
good source of vitamin C." The DSHEA prescribes the form and content of
nutritional labeling of dietary supplements, and requires the manufacturer to
list all additional ingredients. A manufacturer is not required to file any
information with the FDA regarding nutrient claims, but should have adequate
data to support any such claims.
There are two types of nutritional support claims. The first type are claims
about classical nutritional deficiency diseases, such as "vitamin C prevents
scurvy." A manufacturer may make such claims, as long as the statement discloses
the prevalence of the disease in the United States. The second type are called
structure/function claims, which are statements about the dietary supplement's
effect on the structure or function of the body, or the "well being" achieved by
using the dietary supplement, such as "calcium builds strong bones." In order to
make a structure/function claim, the manufacturer must have substantiation that
the claims are truthful and not misleading, and the label must bear the
prescribed warning "This statement has not been evaluated by the Food and Drug
Administration. This product is not intended to diagnose, treat, cure, or
prevent any disease." A manufacturer must notify the FDA of structure/function
claims within 30 days after a product bearing such claim is first marketed.
8
Health benefit claims state a relationship between a nutrient and a disease or a
health-related condition. Under the DSHEA, a manufacturer must notify the FDA of
the intent to use a health benefit claim at least 120 days prior to first
marketing a product bearing such a claim, and include authoritative statements
published by a federal scientific body, such as the National Institutes of
Health, and currently in effect, that are based on the scientific body's
deliberative view of the scientific evidence. To date, only 14 health benefit
claims requested by various manufacturers have been approved, none of which
directly relate to rice bran.
Any claim by a dietary supplement to diagnose, prevent, mitigate, treat, or cure
a specific disease will be treated by the FDA as a drug, which must be proven
"safe and effective" prior to marketing.
Initially, NutraStar intended to make only nutrient content and
structure/function claims with respect to its products. However, there are no
assurances that the FDA will accept NutraStar's substantiation as to any of its
claims. Further, there are no assurances that the FDA will not determine that a
claim made by NutraStar is a health benefit claim or a drug claim, either of
which would require NutraStar to undertake a protracted and prohibitively
expensive procedure to prove such claims. In such circumstances, NutraStar may
be required to withdraw or modify certain of its claims.
One limited clinical study has been performed by Advanced Medical Research in
Madison, Wisconsin, which suggests that NutraStar's rice bran products may have
a significant effect on reducing the blood glucose levels in diabetes mellitus
patients. However, further clinical trials are necessary to substantiate any
health benefit claim. Further, any health benefit claim that NutraStar may
desire to make must be supported by an authoritative statement published by a
federal scientific body. Even if further clinical trials support the beneficial
effects of the Company's products, it is a time-consuming and expensive process
to receive such authoritative statements. Even if NutraStar receives an
authoritative statement that is favorable, the FDA may require further
substantiation before NutraStar may make any health benefit claims. There are no
assurances that Nutrastar will ever be able to make any health benefit claims
with respect to its products.
The DSHEA provides that the manufacturer of any dietary supplement that contains
an ingredient that was not marketed in the United States prior to October 1994,
must notify the FDA at least 75 days prior to marketing such product, and must
provide the FDA with information that supports the conclusion that the dietary
supplement with the new ingredient "will reasonably be expected to be safe."
NutraStar's current products do not require FDA notification.
The DSHEA also provides that third party literature, such as scientific
publications, may be used in connection with the sale of a dietary supplement.
Such a publication must not be false or misleading, may not mention a particular
manufacturer or brand of dietary supplement, must be presented so as to offer a
balanced view of available scientific information, and must be physically
separated from the products when used in a retail establishment. There are no
assurances that all pieces of third party literature that may be disseminated in
9
connection with NutraStar's products, including those distributors for whom it
provides private label products, will be determined by the FDA to satisfy these
requirements.
The DSHEA requires that all dietary supplements be prepared, packaged, and held
under conditions that satisfy the good manufacturing practice regulations that
the FDA may adopt. The FDA proposed such regulations in February 1997, but has
yet to adopt final regulations. Once adopted, there are no assurances that
NutraStar or RiceX will be able to meet such good manufacturing practices.
However, both NutraStar and RiceX currently meet these proposed standards.
The FDA has broad authority to enforce the provisions of federal law applicable
to dietary supplements, including the power to seize adulterated or misbranded
products or unapproved new drugs, to request product recall, to enjoin further
manufacture or sale of a product, to issue warning letters, and to institute
criminal proceedings. In the future, NutraStar may be subject to additional laws
or regulations administered by the FDA or other regulatory authorities, the
repeal of laws or regulations that the Company might consider favorable, or more
stringent interpretations of current laws or regulations. NutraStar is not able
to predict the nature of such laws or regulations, nor can it predict the effect
of such laws or regulations on its operations. The Company may be required to
reformulate certain of its products, recall or withdraw those products that
cannot be reformulated, keep additional records, or undertake expanded
scientific substantiation. Any or all of such requirements could have a material
adverse effect on NutraStar's business and financial condition.
While the FDA primarily regulates the labeling of dietary supplements, the
Federal Trade Commission (the "FTC") regulates the advertising of such products.
The FTC's primary concern is that any advertising must be truthful and not
misleading, and that a company must have adequate substantiation for all product
claims. In general, the FTC gives deference to an FDA determination of whether
there is adequate support for health related claims. However, the FTC has been
very active in enforcing requirements that companies possess adequate
substantiation for product claims. FTC enforcement actions may result in consent
decrees, cease and desist orders, judicial injunctions, and the payment of
fines. There are no assurances that the FTC will not question the Company's
advertising in the future.
In addition to the foregoing, NutraStar's operations will be subject to federal,
state, and local government laws and regulations, including those relating to
zoning, workplace safety, and accommodations for the disabled, and its
relationship with its employees are subject to regulations, including minimum
wage requirements, anti-discrimination laws, overtime and working conditions,
and citizenship requirements. NutraStar believes that it is in substantial
compliance with all material governmental laws and regulations.
Intellectual Property
NutraStar, through its NTI subsidiary, filed applications with the U.S. Patent
and Trademark Office and has successfully registered NutraStar's logo,
StaBran(R), RiSolubles(R), RiceMucil(R), and 21 other product names, as
10
registered federal trademarks and service marks. The Company has nine additional
trademark and service mark applications pending.
NutraStar owns the international rights and has a license from RiceX for the
domestic use of Patent Number 6,126,943 entitled "A Method for Treating
Hypercholesterolmia, Hyperlipidemia, and Atherosclerosis," which was published
October 3, 2000, Patent Number 6,303,586 entitled "A Method for Treating
Diabetes, Hyperglycemia and Hypoglycemia," which was published October 16, 2001,
Patent Number 6,303,586 B1 entitled "Supportive Therapy for Diabetes,
Hyperglycemia and Hypoglycemia" which was published October 16, 2001, and Patent
Number 6,350,473 entitled "A Method for Treating Diabetes, Hyperglycemia and
Hypoglycemia, and Atherosclerosis" which was published February 26, 2002. This
newly allowed diabetes patent grants claims for lowering glycosylated hemoglobin
levels and improving the synthesis of insulin in Type 1 Diabetes. Due to the
fact that Ms. McPeak is a co-inventor of the above patents and NutraStar has
been primarily responsible for prosecuting such patents during the past two
years, NutraStar has raised the issue of possible ownership rights in such
patents. Although discussions have been held with RiceX regarding NutraStar's
possible competing ownership rights, no resolution or formal action has yet
occurred.
NutraStar filed, through NTI, a non-provisional patent application entitled
"Methods of Treating Joint Inflammation, Pain and Loss of Mobility" with the
U.S. Patent and Trademark Office ("PTO") on November 6, 2001, Attorney Docket
No. 020766-000110US. In a December 3, 2002 office action, the PTO granted a
patent as to 26 of the patent claims and a 21 claim patent is pending. NutraStar
intends to challenge all of the rejected patent claims. The patent will be
published in May 2003. There are no assurances that this patent will adequately
protect its product, or that another company may develop a similar but
non-infringing product.
Research and Development Expenditures
During fiscal years 2002 and 2001, NTI spent $88,695 and $83,444, respectively,
on product research and development. It is expected that expenditures for
research and development will increase in the current year as NutraStar's
product line expands, as well as to continue its strategy of filing use patents
to protect its proprietary products and formulations.
Employees
Subsequent to the 2002 year end, the Company was required to reduce its
full-time employees from 10 to 6 and has retained one employee on an "as needed"
basis. If anticipated outside financing and sufficient revenue levels are
achieved, the Company expects to add approximately two executive employees and
three additional full-time staff employees to support the Company's operations,
which is expected to occur during 2003. Additional employees will be primarily
for marketing services. None of NutraStar's employees are employed pursuant to a
collective bargaining or union agreement, and it considers that its relationship
with its employees is good.
Factors Affecting NutraStar's Business
The Company will need additional funds to finance additional products as well as
fund its current operations. It currently has limited cash reserves and limited
working capital to fund its operations, and its ability to meet its obligations
11
in the ordinary course of business is dependent upon its ability to raise
additional financing through public or private equity financings, establish
increasing cash flow from operations, enter into collaborative or other
arrangements with corporate sources, or secure other sources of financing to
fund operations.
NutraStar has developed and is marketing a number of products, both food
supplements and cosmetics, which are derived from stabilized rice bran and
specially formulated rice bran oil. These rice bran based products are
relatively new which will require NutraStar to successfully introduce products
to the marketplace and create a sustainable and expanding market for its
products. The failure of the Company to effectively create a market and demand
for its products would have a material adverse affect on its financial condition
and results of operation.
The dietary supplement and cosmetic industries are subject to considerable
government regulation both as to efficacy as well as labeling and advertising.
There is no assurance that all of NutraStar's products and marketing strategies
will satisfy all of the applicable regulations of the DSHEA, FDA and/or the FTC.
Failure to meet any applicable regulations would require NutraStar to limit the
production or marketing of any non-compliant products or advertising.
The Company's prospects for financial success are difficult to forecast because
the Company has a limited operating history. The Company's current business
commenced in February 2000, when its wholly-owned subsidiary, NTI, first started
its operations. Consequently, both the Company and its operating subsidiary have
a limited operating history upon which an evaluation of their future prospects
can be based. Neither the Company nor its subsidiary, NTI, has ever made a
profit in any fiscal quarter. The Company's prospects for financial success must
be considered in light of the risks, expenses and difficulties frequently
encountered by companies in new, unproven and rapidly evolving markets. To
address these risks, NutraStar must, among other things, expand its customer
base, increase its cash flow from operations, respond effectively to competitive
developments, and continue to attract, retain and motivate qualified employees.
The Company's inability to further develop and expand its operations would
materially adversely affect the Company's business, financial condition and
results of operations.
The audit report of the Company's independent auditors includes a "going
concern" qualification. In the auditor's opinion, the Company's limited
operating history and the accumulated net deficit as of December 31, 2002, raise
substantial doubt about its ability to continue as a going concern.
The Company operates in a rapidly changing and growing industry, which is
characterized by vigorous competition from both established companies and
potential new companies. The markets for food supplements and cosmetics are
extremely competitive both as to price and quality.
In summary, the Company's net sales and operating results in any particular
quarter may fluctuate as a result of a number of factors, including its current
dependence on one source for its stabilized rice bran, the need to validate the
benefits and applications for stabilized rice bran products, delays in
establishing markets for its products, the current depressed economic conditions
as well as the overall performance of the food supplement and cosmetic
12
industries as discussed above. The Company's future operating results will
depend, to a large extent, on its ability to anticipate and successfully react
to these and other factors and successfully implement its growth strategy.
ITEM 2. DESCRIPTION OF PROPERTY
The Company subleases its executive offices, warehouse and laboratory, located
at 1261 Hawk's Flight Court, El Dorado Hills, California, for a monthly rental
of $5,358 plus its share of common area expenses. The monthly rental will
increase by 2.5% on October 1, 2004. The Company subleases this 5,500 square
foot facility through September 30, 2006. The Company believes that this
facility will be adequate for current operations. The Company subleases its
office space from RiceX.
ITEM 3. LEGAL PROCEEDINGS
The Company is involved from time to time in various lawsuits that arise in the
course of its business.
A Complaint was filed against NTI by Millennium Integrated Services, Inc.
("MISI") in Superior Court, Sacramento County, on April 4, 2002 (Case No.
02A502006). MISI provided website development services to NTI, at a cost of
$204,405. MISI is seeking contract payment of $204,405 plus interest of $32,031
as well as damages for alleged conversion and misappropriation of trade secrets.
Additionally, MISI has stated that it will move the court to amend its Complaint
to add a cause of action for negligent and intentional interference with an
employment agreement between MISI and one of its programmers. On April 9, 2002,
MISI filed a Motion for a Writ of Attachment which would allow MISI to seize and
hold NTI assets worth $236,436 pending the resolution of the lawsuit. On April
10, 2002, a Writ of Attachment was granted by the Court pursuant to which MISI
attached $29,666 of the Company's accounts receivable. NTI believes it has valid
defenses and offsets to the payment for these services and either will appeal
the Court's action or attempt to settle this matter. Discovery is just beginning
and it is too early to opine upon the possible outcome of the litigation.
Settlement of this case could have a material affect on NutraStar's cash flow
depending on how quickly any settlement would need to be paid. Conversely,
litigating this matter could also have a material adverse affect on NutraStar's
operations and financial results.
On July 16, 2002, the Company was summoned to answer a Complaint filed by
Faraday Financial, Inc. ("Faraday"), Case No. 020906477 filed in District Court,
County of Salt Lake, Utah. The Complaint alleges that he Company issued
convertible promissory notes totaling $450,000 and a promissory note totaling
$50,000. On December 13, 2001, Faraday entered into a settlement agreement with
the Company, whereby Faraday agreed to cancel the promissory notes in exchange
for 735,730 shares of preferred stock. Faraday claims that the settlement
agreement required that the Company effect a registration statement covering the
preferred stock by June 30, 2002. The Company failed to effect a registration
statement by June 30, 2002 and Faraday demanded the Company immediately forfeit
to Faraday 735,730 shares of common stock owned by the Chief Executive Officer
of the Company. In addition, the Chief Executive Officer entered into an escrow
13
agreement to ensure the automatic forfeiture of the common stock and entered
into a guarantee to be personally responsible to Faraday for the original
$500,000 loan amount, plus 12% interest per annum. Faraday has filed its fourth
claim for relief for a judgment against the Company for $500,000, plus accrued,
but unpaid interest, attorneys' fees and costs, and other such costs. The
litigation is in the early stages and it is too early to opine upon the possible
outcome, however management believes the maximum exposure to the Company is
approximately $500,000, plus interest and fees.
The Company was involved in litigation with several potential investors. The
plaintiffs requested a return of $750,000 in funds deposited with the Company,
representing potential permanent investments. These matters have been resolved
in connection with the acquisition of Alliance during December 2001. As of
December 31, 2002, management believes there were no additional liabilities
related to these matters.
There are various other claims that have been made against the Company by
certain of its vendors arising in the normal course of business. Management
expects that the settlement of these claims will not have a significant effect
on the Company's financial position and results of operations.
From February through July 2000, a third party solicited funds on behalf of an
undetermined public shell company, into which it was contemplated that NTI might
merge. In this regard, NTI received approximately $320,000 in deposits to be
used for such purpose. As a result of these solicitations, there may have been
violations of federal and/or state securities laws by such third party. NTI
never proceeded with the contemplated merger. Instead, NTI applied such funds to
a subsequent private placement that NTI conducted, in which shares of NTI's
common stock were issued for the $320,000 investment. The Company has offered
full refunds to all people who provided monies to NTI. There are no assurances
that federal and/or state securities authorities will not investigate and
possibly bring an action against the third party who solicited the funds and/or
the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
14
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED
STOCKHOLDER MATTERS.
Commencing in May 2001, the Company's common stock was listed and traded on the
NASDAQ Electronic Bulletin Board under the symbol "ACIL". Effective as of
December 17, 2001, the Company's trading symbol was changed to "NTRA" to reflect
the Exchange Transaction with NTI. The following chart sets forth the known high
and low price on a bid basis for the Company's stock for each quarter during the
previous two years. Prices for the first three quarters of 2001 are as reported
in the "Pink Sheets" published by the Pink Sheets LLC. The quotations set forth
below reflect inter-dealer prices, without retail mark-up, mark-down or
commissions and may not represent actual transactions.
--------------------------------------- ------------- ------------
Year Ended December 31, 2002 Low High
--------------------------------------- ------------- ------------
Fourth Quarter $0.05 $0.42
--------------------------------------- ------------- ------------
Third Quarter $0.20 $0.40
--------------------------------------- ------------- ------------
Second Quarter $0.30 $0.75
--------------------------------------- ------------- ------------
First Quarter $0.45 $2.25
--------------------------------------- ------------- ------------
--------------------------------------- ------------- ------------
Year Ended December 31, 2001 Low High
--------------------------------------- ------------- ------------
Fourth Quarter $0.30** $2.77**
--------------------------------------- ------------- ------------
Third Quarter $0.41* $2.29*
--------------------------------------- ------------- ------------
Second Quarter $.001* $0.41*
--------------------------------------- ------------- ------------
First Quarter $.001 $ .01
--------------------------------------- ------------- ------------
__________________________
* Reflects post-reverse stock split of 1 for 50.
** Represents post-share exchange transaction.
As of March 17, 2003, there were approximately 112 holders of record of the
Company's Common Stock. This amount does not include shares held in street name.
Dividend Policy
The Company has never paid any cash dividends on its common stock. The Company
currently anticipates that it will retain all future earnings for use in its
business. Consequently, it does not anticipate paying any cash dividends in the
foreseeable future.
Recent Sales of Unregistered Securities
During the Company's fiscal year ended December 31, 2002, it issued the
following equity securities pursuant to exemptions from registration under the
Securities Act of 1933 (the "1933 Act").
15
On March 4, 2002, the Company commenced a private placement of up to 6,666,667
units. Each unit consisted of one share of common stock and one warrant to
purchase an additional share of common stock. The units were offered at $0.65
per unit. The warrants have an exercise price of 120% of the current market
value of the Company's common stock at the time of issuance. The offering closed
March 15, 2002 with 153,333 units being sold for $100,000. The warrants were
exercisable at $1.20 per share. The units were issued without any public
solicitation and were sold to a limited number of investors who were deemed to
have such knowledge and experience in financial and business matters that they
were capable of evaluating the merits and risks of this investment. The units
were acquired with investment intent and without a view to distribution. The
units were issued pursuant to the exemptions provided by Rule 506 of Regulation
D and Section 4(6) of the 1933 Act. These units are deemed to be "restricted
securities" as defined in Rule 144 under the 1933 Act and the certificates
evidencing the shares and the warrants bear a legend stating the restrictions on
resale.
In addition to the above issuances, at December 31, 2002, the Company had
commitments to issue 399,174 shares of common stock upon conversion of debt and
accrued interest aggregating $399,174 and 1,060,000 shares of common stock in
payment for services rendered pursuant to consulting agreements valued at
$172,500.
On June 10, 2002, the Company issued warrants to purchase 2,500 shares of common
stock exercisable at $0.50 per share to a consultant for consulting expenses
valued at $850. The warrant expires on June 10, 2004.
During the fiscal year ended December 31, 2001, the Company issued the following
equity securities pursuant to exemptions from registration under the 1933 Act.
On December 14, 2001, the Company issued 17,000,000 shares of its common stock
to the 38 NTI shareholders in exchange for all of the outstanding shares of NTI
common stock. In connection with this transactions, the Company issued an
additional 249,770 shares of common stock for services rendered. The Company
shares were issued without any public solicitation and were acquired for
investment purposes only and without a view to distribution. The shares were
issued pursuant to the private placement exemption provided by Section 4(2) and
Rule 506 of Regulation D of the 1933 Act. These shares are deemed to be
"restricted securities" as defined in Rule 144 under the 1933 Act and the
certificates evidencing the shares bear a legend stating the restrictions on
resale.
During the fiscal year 2001, the Company issued shares of its Series A Preferred
Stock which are classified as convertible, redeemable Series A Preferred Stock
to conform with SEC accounting requirements, in the following transactions:
(i) 100,000 shares were issued as settlement of certain litigation. The
stock was valued at $1.00 per share;
16
(ii) 130,000 shares were issued to The RiceX Company as payment for
accounts payable totaling $130,000; on January 15, 2002, RiceX and
NutraStar entered into a Put/Call Agreement whereby RiceX could
require NutraStar to repurchase the 130,000 shares of Series A
Preferred Stock after July 15, 2002 in exchange for $130,000.
NutraStar may also voluntarily repurchase the 130,000 of Series A
Preferred Stock for $130,000 plus any accrued dividends thereon if
NutraStar desires and is financially able to do so;
(iii)13,000 shares were issued to one individual for services rendered to
the Company. The services were valued at $13,000;
(iv) 56,000 shares were issued for conversion of $56,000 of deposits
payable and an additional 10,000 shares were issued as interest
expense totaling $10,000. These shares were issued to two individuals
and valued at $1.00 per share;
(v) 1,775,707 shares were issued in exchange for short-term promissory
notes or pursuant to the conversion of outstanding convertible notes
aggregating $1,590,000 of principal plus related interest due thereon.
The shares were issued to thirteen creditors and valued at $1.00 per
share.
All of the above issuances were made without any public solicitation, to a
limited number of individuals or entities and were acquired for investment
purposes only. Each of the individuals or entities had access to information
about the Company and were deemed capable of protecting their own interests. The
shares were issued pursuant to the private placement exemption provided by
Section 4(2) of the 1933 Act. These are deemed to be "restricted securities" as
defined in Rule 144 under the 1933 Act and the certificates evidencing the
shares bear a legend stating the restrictions on resale.
On December 27, 2001, the Company closed a private placement of 1 million shares
of common stock pursuant to which it raised $1 million. The shares were valued
at $1.00 per share. The shares were issued without any public solicitation, were
sold to a limited number of accredited investors and were acquired with
investment intent and without a view to distribution. The shares were issued
pursuant to the exemptions provided by Rule 506 of Regulation D and Section 4(6)
of the 1933 Act. These shares are deemed to be "restricted securities" as
defined in Rule 144 under the 1933 Act and the certificates evidencing the
shares bear a legend stating the restrictions on resale.
In addition to the Exchange Transaction and private placement referred to above,
the Company issued shares of its common stock in the following transactions:
(i) A total of 28,546 shares were issued to two individuals for cash
investments totaling $20,000;
(ii) 21,409 shares were issued to acquire the rights to a registered
trademark valued at $21,409;
17
(iii)356,824 shares were issued to one individual to extend the term of a
note payable and payment of principal and interest thereon. The shares
were valued at $356,824;
(iv) A total of 249,314 shares were issued to one individual for services
rendered to the Company. The services were valued at $249,314;
(v) 250,001 shares of common stock were issued to a third party in
exchange for the remaining 20% of the outstanding stock of NutraGlo;
and
(vi) 150,000 shares of common stock issued as settlement for the
cancellation of a consulting agreement which shares were valued at
$150,000.
(vii)In connection with the issuance of certain promissory notes during
the year ended December 31, 2001, the Company issued warrants to
purchase 350,000 shares of its common stock at an exercise price of $1
per share. The warrants expire on June 25, 2006 and are immediately
exercisable.
All of the above issuances were made without any public solicitation, to a
limited number of individuals or entities and were acquired for investment
purposes only. Each of the individuals or entities had access to information
about the Company and were deemed capable of protecting their own interests. The
shares were issued pursuant to the private placement exemption provided by
Section 4(2) of the 1933 Act. These are deemed to be "restricted securities" as
defined in Rule 144 under the 1933 Act and the certificates evidencing the
shares bear a legend stating the restrictions on resale.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS AND PLAN OF
OPERATION
For more detailed financial information, please refer to the audited December
31, 2002 Financial Statements included in this Form 10-KSB.
Caution about forward-looking statements
This Form 10-KSB includes "forward-looking" statements about future financial
results, future business changes and other events that haven't yet occurred. For
example, statements like we "expect," we "anticipate" or we "believe" are
forward-looking statements. Investors should be aware that actual results may
differ materially from our expressed expectations because of risks and
uncertainties about the future. We do not undertake to update the information in
this Form 10-KSB if any forward-looking statement later turns out to be
inaccurate. Details about risks affecting various aspects of the Company's
business are discussed throughout this Form 10-KSB and should be considered
carefully.
18
Plan of Operation for the Next Twelve Months
NTI was formed on February 4, 2000 and became the wholly-owned subsidiary of
NutraStar on December 14, 2001. To date, NutraStar has focused on its
relationship with the producer of its raw materials, RiceX, and on its strategic
alliances. NutraStar has commenced the limited distribution of its stabilized
rice bran and rice bran products on the Internet and through direct-to-consumer
response advertising campaigns. In the very near future, NutraStar intends to
commence the full distribution of its products as private label brands through
strategic distributors on the occurrence of certain events, including the
raising of additional capital required to implement its business plan.
NutraStar's fiscal year is the calendar year.
NutraStar anticipates that in the next 12 to 24 months, it will need an
additional $10 to $20 million in financing. NutraStar anticipates that it will
need $5 to $15 million to make certain acquisitions, $2.5 million to further
increase production capacity, and $2.5 million for additional working capital,
including the purchase of inventory for anticipated sales growth. NutraStar
expects to obtain this additional funding from private placements of the
Company's debt and/or equity securities, or through the public offering of its
Common Stock.
Results of Operation
Year Ended December 31, 2002 versus 2001
----------------------------------------
NutraStar generated revenues of $1,286,439 during the fiscal year 2002 compared
to total revenues of $1,610,222 generated in fiscal year 2001. While net sales
remained virtually the same for both years, commission revenue of $317,668 was
realized in fiscal year 2001 compared to no such revenues realized in fiscal
year 2002.
Cost of goods sold for fiscal year 2002 decreased by 15% to $800,255 compared to
costs of goods sold of $945,633 in the fiscal year 2001. This decrease reflects
lower product sales and increasing standard product cannister size from 360
grams to 600 grams. Gross profits decreased from $664,589 in fiscal year 2001 to
$486,184 in fiscal year 2002. This 27% decline in gross profits was primarily
due to the 20% decrease in total revenues realized in fiscal year 2002.
Operating expenses of $3,188,431 reflect a 5% decrease from $3,356,904 of
operating expenses incurred in fiscal year 2001. Operating expenses for fiscal
year 2002 include legal and accounting costs of approximately $ 63,400 incurred
in the preparation of the Company's SB-2 registration statement which was filed
with the SEC in June 2002.
The Company's operating loss increased to $2,702,247 during fiscal year 2002
compared to an operating loss of $2,692,315 during the previous fiscal year.
This modest increase in operating loss reflects the 20% decrease in total
revenues during fiscal year 2002 which was offset to some extent by decreases in
both costs of goods sold and operating expenses. The net loss for fiscal year
2002 declined almost $971,000 to $2,800,537 compared to a net loss of $3,771,474
for fiscal year 2001. The decrease in net loss for 2002 was due primarily to the
significant reduction in interest expense which fell from $1,080,602 in fiscal
year 2001 to $98,927 in fiscal year 2002. This decrease in interest expense
19
reflects the reduction of debt resulting primarily from exchanging $1,590,000 of
debt for equity during fiscal year 2002.
Due to the December 14, 2001 share exchange with Alliance, for accounting
purposes, the acquisition has been treated as a recapitalization of NutraStar
(formerly Alliance) with NTI as the acquirer (reverse acquisition).
Consequently, the financial statements of NTI are presented as those of the
Company. As a result, a comparison of the current financial statements as
compared to those of Alliance as previously reported in its Form 10-SB may not
be deemed relevant.
Capital Financing
As a part of the exchange transaction with NTI, Alliance issued 17,000,000
shares of its common stock to the shareholders of NTI in exchange for all of the
outstanding shares of NTI. An additional $249,770 shares were issued for
services rendered in connection with the exchange transaction. This transaction
has been accounted for as a reverse acquisition, whereby NTI is considered the
acquiring company and Alliance the acquired company.
In connection with the exchange agreement, Alliance obtained $1,000,000 in 2001
from the sale of one million shares of its common stock which was issued at
$1.00 per share. The Company issued an additional 249,770 shares of common stock
for services rendered valued at $249,770.
During fiscal year 2001, NutraStar also issued 2,084,707 shares of its Series A
Preferred Stock for services, settlement of a lawsuit, payment of accounts
payable and in exchange for outstanding promissory notes and interest thereon
valued at $1,899,000.
During fiscal year 2002, NutraStar raised an aggregate of $234,800 through the
issuance of short-term promissory notes. These notes bear interest of 10% per
annum. At December 31, 2002, certain of these notes were delinquent. Subsequent
to year end, all of these notes were modified to be due on demand. In addition
to the above, NutraStar entered into two secured promissory note agreements.
Both notes were in the principal amount of $50,000 and collateralized by shares
of the Company's stock. One of the notes was repaid during the year 2002. The
other note bears interest of 2% per month and is secured by 634,121 shares of
the Company's Series A preferred stock.
Liquidity and Capital Resources
NutraStar has incurred significant operating losses for its last three fiscal
years and, as of December 31, 2002, NutraStar had an accumulated deficit of
$8,278,840. At December 31, 2002, the Company had cash and cash equivalents of
$34,718 and a net working capital deficit of $1,386,173.
To date, NutraStar has funded its operations through a combination of revenues,
short term debt and the issuance of common and preferred stock. During December
2001 NutraStar completed two private placements; the first raised $1,000,000
from the sale of common stock at $1.00 per share; and the second raised
approximately $1,841,707 through the conversion of debt into preferred stock
that was priced at $1.00 per share which is classified as convertible,
redeemable Series A Preferred Stock to conform with SEC accounting requirements.
20
During fiscal year 2002, NutraStar raised $100,000 from the sale of units
consisting of one share of common stock and a warrant to purchase one additional
share. The Company also committed to issue 1,060,000 shares of common stock in
payment of consulting fees valued at $172,500.
The Company is dependent on the proceeds from future debt or equity investments
to expand NutraStar's operations and fully implement NutraStar's business plan.
If the Company is unable to raise sufficient capital, the Company will be
required to delay or forego some portion of its business plan, which may have a
material adverse effect on the Company's anticipated results from operations and
financial condition. Alternatively, the Company may seek interim financing in
the form of bank loans, private placement of debt or equity securities, or some
combination thereof. Such interim financing may not be available in the amounts
or at the times when the Company requires, and will likely not be on terms
favorable to the Company.
The Company has various financial commitments including the following:
- as of December 31, 2002, the Company owed $150,129 in cumulative
dividends on its Series A Preferred Stock.
- the Company owes $244,333 on the remaining four years of its office
lease.
- the Company has entered into several employment agreements with key
employees with terms ranging from 3 to 10 years and minimum future
payments under such agreements aggregating $2,130,416.
Dependence on Key Supplier
NutraStar has entered into an agreement with The RiceX Company, whereby RiceX
will sell NutraStar its rice bran derivatives at prices equal to the lower of
RiceX's standard price or the price negotiated by other customers for like
quantities and products. The agreement also provided that RiceX would not sell
any rice bran derivative products in the United States except to NutraStar. This
latter part of the agreement was terminated on July 9, 2002. To purchase
products from RiceX, NutraStar is required to pay for all purchase orders on a
COD basis.
In addition to the risks associated with the potential termination of RiceX as
NutraStar's major supplier, the inability of RiceX to deliver the amount of
product that NutraStar requires, any interruption in product delivery for any
reason, or the inability of RiceX to fulfill its contractual obligations would
have a material adverse effect on NutraStar's business, results from operations,
and financial condition, as NutraStar could not readily find and implement
alternative suppliers and likely not on advantageous terms. RiceX's ability to
manufacture certain of NutraStar's core products is currently limited to the
production capability of RiceX's Dillon, Montana plant (the "Dillon Plant").
Currently, the Dillon Plant is capable of producing only a limited quantity of
NutraStar's products, which will not be sufficient to meet NutraStar's long-term
sales goals. The Company and/or RiceX plan to add production capacity during the
current year.
21
Critical Accounting Policies
NutraStar's discussion and analysis of its financial conditions and results of
operations are based upon its consolidated financial statements, which have been
prepared in accordance with generally accepted accounting principles in the
United States. The preparation of financial statements require managers to make
estimates and disclosures on the date of the financial statements. On an
on-going basis, NutraStar evaluates its estimates, including, but not limited
to, those related to revenue recognition. The Company uses authoritative
pronouncements, historical experience and other assumptions as the basis for
making judgments. Actual results could differ from those estimates. NutraStar
believes that the following critical accounting policies affect its more
significant judgments and estimates in the preparation of its consolidated
financial statements.
Revenue recognition
-------------------
NutraStar is required to make judgments based on historical experience and
future expectations, as to the realizability of shipments made to its customers.
These judgments are required to assess the propriety of the recognition of
revenue based on Staff Accounting Bulletin ("SAB") No. 101, "Revenue
Recognition," and related guidance. NutraStar makes these assessments based on
the following factors: i) customer-specific information, ii) return policies,
and iii) historical experience for issues not yet identified.
Valuation of long-lived assets
------------------------------
Long-lived assets, consisting primarily of property and equipment, patents and
trademarks, and goodwill, comprise a significant portion of the Company's total
assets. Long-lived assets are reviewed for impairment whenever events or changes
in circumstances indicate that their carrying values may not be recoverable.
Recoverability of assets is measured by a comparison of the carrying value of an
asset to the future net cash flows expected to be generated by those assets. The
cash flow projections are based on historical experience, management's view of
growth rates within the industry, and the anticipated future economic
environment.
Factors NutraStar considers important that could trigger a review for impairment
include the following:
(a) significant underperformance relative to expected historical or
projected future operating results,
(b) significant changes in the manner of its use of the acquired assets or
the strategy of its overall business, and
(c) significant negative industry or economic trends.
When the Company determines that the carrying value of patents and trademarks,
long-lived assets and related goodwill and enterprise-level goodwill may not be
recoverable based upon the existence of one or more of the above indicators of
22
impairment, it measures any impairment based on a projected discounted cash flow
method using a discount rate determined by its management to be commensurate
with the risk inherent in its current business model.
Recently Issued Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No.
141, "Business Combinations." This statement addresses financial accounting and
reporting for business combinations and supersedes APB Opinion No. 16, "Business
Combinations," and SFAS No. 38, "Accounting for Pre-Acquisition Contingencies of
Purchased Enterprises." All business combinations in the scope of this statement
are to be accounted for using one method, the purchase method. The provisions of
this statement apply to all business combinations initiated after June 30, 2001.
Use of the pooling-of-interests method for those business combinations is
prohibited. This statement also applies to all business combinations accounted
for using the purchase method for which the date of acquisition is July 1, 2001
or later. The Company does not expect adoption of SFAS No. 141 to have a
material impact, if any, on its financial position or results of operations.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets." This statement addresses financial accounting and reporting for
acquired goodwill and other intangible assets and supersedes APB Opinion No. 17,
"Intangible Assets." It addresses how intangible assets that are acquired
individually or with a group of other assets (but not those acquired in a
business combination) should be accounted for in financial statements upon their
acquisition. This statement also addresses how goodwill and other intangible
assets should be accounted for after they have been initially recognized in the
financial statements. It is effective for fiscal years beginning after December
15, 2001. Early application is permitted for entities with fiscal years
beginning after March 15, 2001, provided that the first interim financial
statements have not been issued previously. The Company does not expect adoption
of SFAS No. 142 to have a material impact, if any, on its financial position or
results of operations.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." This statement applies to legal obligations associated with the
retirement of long-lived assets that result from the acquisition, construction,
development, and/or the normal operation of long-lived assets, except for
certain obligations of lessees. This statement is not applicable to the Company.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets." This statement addresses financial accounting
and reporting for the impairment or disposal of long-lived assets. This
statement replaces SFAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed of," the accounting and
reporting provisions of APB No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual, and Infrequently Occurring Events and Transactions," for the disposal
of a segment of a business, and amends Accounting Research Bulletin No. 51,
"Financial Statements," to eliminate the exception to consolidation for a
subsidiary for which control is likely to be temporary. The Company does not
expect adoption of SFAS No. 144 to have a material impact, if any, on its
financial position or results of operations.
In April 2002, the Financial Accounting Standards Board ("FASB") issued SFAS No.
145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections." SFAS No. 145 updates, clarifies,
23
and simplifies existing accounting pronouncements. This statement rescinds SFAS
No. 4, which required all gains and losses from extinguishment of debt to be
aggregated and, if material, classified as an extraordinary item, net of related
income tax effect. As a result, the criteria in Accounting Principles Board No.
30 will now be used to classify those gains and losses. SFAS No. 64 amended SFAS
No. 4 and is no longer necessary as SFAS No. 4 has been rescinded. SFAS No. 44
has been rescinded as it is no longer necessary. SFAS No. 145 amends SFAS No. 13
to require that certain lease modifications that have economic effects similar
to sale-leaseback transactions be accounted for in the same manner as sale-lease
transactions. This statement also makes technical corrections to existing
pronouncements. While those corrections are not substantive in nature, in some
instances, they may change accounting practice. This statement is not applicable
to the Company.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." This statement addresses financial accounting
and reporting for costs associated with exit or disposal activities and
nullifies Emerging Issues Task Force ("EITF") Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)." This statement
requires that a liability for a cost associated with an exit or disposal
activity be recognized when the liability is incurred. Under EITF Issue 94-3, a
liability for an exit cost, as defined, was recognized at the date of an
entity's commitment to an exit plan. The provisions of this statement are
effective for exit or disposal activities that are initiated after December 31,
2002 with earlier application encouraged. This statement is not applicable to
the Company.
In October 2002, the FASB issued SFAS No. 147, "Acquisitions of Certain
Financial Institutions." SFAS No. 147 removes the requirement in SFAS No. 72 and
Interpretation 9 thereto, to recognize and amortize any excess of the fair value
of liabilities assumed over the fair value of tangible and identifiable
intangible assets acquired as an unidentifiable intangible asset. This statement
requires that those transactions be accounted for in accordance with SFAS No.
141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible
Assets." In addition, this statement amends SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," to include certain financial
institution-related intangible assets. This statement is not applicable to the
Company.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure," an amendment of SFAS No. 123. SFAS
No. 148 provides alternative methods of transition for a voluntary change to the
fair value based method of accounting for stock-based employee compensation. In
addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to
require more prominent and more frequent disclosures in financial statements
about the effects of stock-based compensation. This statement is effective for
financial statements for fiscal years ending after December 15, 2002. SFAS No.
148 will not have any impact on the Company's financial statements as management
does not have any intention to change to the fair value method.
ITEM 7. FINANCIAL STATEMENTS
Page
INDEPENDENT AUDITOR'S REPORT .......................................... 26
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheet ..................................... 27-28
Consolidated Statements of Operations .......................... 29
Consolidated Statements of Shareholders' Deficit ............... 30-32
Consolidated Statements of Cash Flows .......................... 33-36
Notes to Consolidated Financial Statements ..................... 37-63
24
INDEPENDENT AUDITOR'S REPORT
Board of Directors and Shareholders
NutraStar Incorporated and subsidiaries
We have audited the accompanying consolidated balance sheet of NutraStar
Incorporated and subsidiaries as of December 31, 2002, and the related
consolidated statements of operations, shareholders' deficit, and cash flows for
each of the two years in the period ended December 31, 2002. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. 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 audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of NutraStar
Incorporated and subsidiaries as of December 31, 2002, and the consolidated
results of their operations and their cash flows for each of the two years in
the period ended December 31, 2002 in conformity with accounting principles
generally accepted in the United States of America.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 3 to the
financial statements, during the year ended December 31, 2002, the Company
incurred a net loss of $2,800,537 and had negative cash flows from operations of
$910,765. In addition, the Company had an accumulated deficit of $8,278,840 at
December 31, 2002. These factors, among others, as discussed in Note 3 to the
financial statements, raise substantial doubt about the Company's ability to
continue as a going concern. Management's plans in regard to these matters are
also described in Note 3. The consolidated financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
SINGER LEWAK GREENBAUM & GOLDSTEIN LLP
Los Angeles, California
March 29, 2003
26
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
December 31, 2002
--------------------------------------------------------------------------------
ASSETS
Current assets
Cash $ 34,718
Accounts receivable 7,273
Inventory 42,695
Prepaid expenses 27,180
-------------
Total current assets 111,866
Property and equipment, net 155,712
Patents and trademarks, net 48,748
Goodwill 250,001
-------------
Total assets $ 566,327
============
The accompanying notes are an integral part of these financials
27
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
December 31, 2002
-----------------------------------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' DEFICIT
Current liabilities
Accounts payable $ 707,331
Accrued salaries and benefits 51,192
Deferred compensation 325,962
Accrued expenses 81,455
Customer deposits 44,316
Due to officer 16,457
Due to related party 40,526
Notes payable - related party 180,800
Note payable 50,000
-----------
Total current liabilities 1,498,039
Put option 130,000
-----------
Total liabilities 1,628,039
-----------
Commitments and contingencies
Convertible, redeemable series A preferred stock,
no par value, $1 stated value
3,000,000 shares authorized
2,144,707 shares issued and outstanding 2,060,931
-----------
Shareholders' deficit
Common stock, no par value
50,000,000 shares authorized
23,758,071 shares issued and outstanding 5,457,796
Committed common stock 571,674
Deferred compensation (873,273)
Accumulated deficit (8,278,840)
-----------
Total shareholders' deficit (3,122,643)
-----------
Total liabilities and shareholders' deficit $ 566,327
===========
The accompanying notes are an integral part of these financials
28
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended December 31,
2002 2001
------------ ------------
(restated)
Revenues
Net sales $ 1,286,439 $ 1,292,554
Commission revenue -- 317,668
------------ ------------
Total revenues 1,286,439 1,610,222
Cost of goods sold 800,255 945,633
------------ ------------
Gross profit 486,184 664,589
Operating expenses 3,188,431 3,356,904
------------ ------------
Loss from operations (2,702,247) (2,692,315)
------------ ------------
Other income (expense)
Interest income 637 1,443
Interest expense (98,927) (1,080,602)
------------ ------------
Total other income (expense) (98,290) (1,079,159)
------------ ------------
Net loss (2,800,537) (3,771,474)
Cumulative preferred dividends 150,129 --
------------ ------------
Net loss attributable to common shareholders $ (2,950,666) $ (3,771,474)
============ ============
Basic and diluted loss attributable to common
shareholders per common share $ (0.13) $ (0.20)
============ ============
Weighted-average number of common shares
used to compute basic and diluted loss
attributable to common shareholders per share 22,070,881 18,686,078
============ ============
The accompanying notes are an integral part of these financials
29
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
For the Years Ended December 31,
------------------------------------------------------------------------------------------------------------------------------------
Convertible, Redeemable
Series A Preferred Stock Common Stock Committed Deferred
------------------------ ------------------------ Common Compen- Accumulated
Shares Amount Shares Amount Stock sation Deficit Total
----------- ----------- ----------- ------------ ----------- ------------ ------------ -----------
Balance, December
31, 2000 - $ - 15,943,906 $ 382,877 - $ - $ (1,556,700) $ (1,173,823)
Preferred stock issued
for settlement of litigation 100,000 100,000
for payment for accounts
payable 130,000 130,000
for conversion of notes
payable and accrued
interest 1,775,707 1,671,802
for services rendered 13,000 13,000
for deposits payable 56,000 56,000
as interest expense 10,000 10,000
Common stock issued
for cash 28,546 20,000 20,000
for acquisition of registered
trademark 21,409 21,409 21,409
to extend note payable 356,824 356,824 356,824
for services rendered 249,314 249,314 249,314
for acquisition of NutraGlo 250,001 250,001 250,001
for settlement of litigation 150,000 150,000 150,000
for cash in conjunction with
acquisition by Alliance 4,649,520 1,000,000 1,000,000
Committed stock for
conversion of notes
payable 399,174 399,174
The accompanying notes are an integral part of these financials
30
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
For the Years Ended December 31,
Stock options issued
for compensation - $ 647,429 $ (449,515) $ 197,914
for services rendered - 1,273,861 (476,360) 797,501
for settlement of litigation - 107,047 107,047
Warrants issued with
convertible debt - 114,083 114,083
Put option - $ (130,000)
Net loss $(3,771,474) (3,771,474)
---------- ----------- ----------- ------------ ----------- ------------ ------------ -----------
Balance, December
31, 2001 (restated) 2,084,707 1,850,802 21,649,520 4,572,845 $ 399,174 (925,875) (5,328,174) (1,282,030)
Preferred stock issued
for expense reimbursement 60,000 60,000
Preferred stock dividend - 150,129
Common stock issued
for cash 1,908,551 395,000 395,000
for services rendered 200,000 90,000 90,000
Issuance costs - (39,499) (39,499)
Committed stock for
services rendered 172,500 172,500
Stock options issued
for compensation - 193,750 (145,312) 48,438
for services rendered - 173,250 173,250
as interest expense - 5,600 5,600
Warrants issued for
services rendered - $ 850 850
Beneficial conversion
feature for the issuance
of convertible debt - 66,000 66,000
Amortization of deferred
compensation $ 197,914 197,914
The accompanying notes are an integral part of these financials
31
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
For the Years Ended December 31, 2002
Net loss $(2,950,666) (2,950,666)
---------- ----------- ----------- ------------ ----------- ------------ ------------ -----------
Balance, December
31, 2002 2,144,707 $2,060,931 23,758,071 $ 5,457,796 571,674 $ (873,273) $(8,278,840) $(3,122,643)
========== =========== =========== ============ =========== ============ ============ ============
The accompanying notes are an integral part of these financials
32
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31,
--------------------------------------------------------------------------------------
2002 2001
----------- -----------
(restated)
Cash flows from operating activities
Net loss $(2,800,537) $(3,771,474)
Adjustments to reconcile net loss to net cash
used in operating activities
Depreciation and amortization 126,460 94,397
Loss reserve for patents and trademarks 75,359 --
Non-cash issuances of preferred stock 60,000 468,511
Non-cash issuances of common stock 90,000 756,138
Non-cash issuances of committed stock 172,500 130,487
Non-cash issuances of stock options 425,202 1,102,462
Non-cash issuances of warrants 850 10,178
Beneficial conversion feature 66,000 --
(Increase) decrease in
Accounts receivable (5,680) 114,043
Inventory 51,191 421,886
Prepaid expenses (18,392) 6,597
Deposits 181,071 (80,546)
Increase (decrease) in
Accounts payable 325,214 (333,773)
Accrued salaries and benefits (9,822) 36,079
Deferred compensation 325,962 --
Accrued expenses 24,475 157,670
Customer deposits 44,316 --
Due to officer (5,435) 32,029
----------- -----------
Net cash used in operating activities (871,266) (855,316)
----------- -----------
Cash flows from investing activities
Purchase of property and equipment (61,150) (234,348)
Purchase of patents and trademarks (24,669) (30,199)
----------- -----------
Net cash used in investing activities (85,819) (264,547)
----------- -----------
Cash flows from financing activities
Proceeds from convertible notes payable $ -- $ 1,230,000
Principal payments on convertible notes payable -- (490,000)
Proceeds from notes payable 334,800 --
Principal payments on notes payable (104,000) --
Refunds from deposits payable -- (240,500)
Proceeds from the issuance of common stock, net 355,501 1,020,000
----------- -----------
The accompanying notes are an integral part of these financials
33
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2002
--------------------------------------------------------------------------------------
Net cash provided by financing activities 586,301 1,519,500
----------- -----------
Net increase (decrease) in cash (370,784) 399,637
Cash, beginning of year 405,502 5,865
----------- -----------
Cash, end of year $ 34,718 $ 405,502
=========== ===========
Supplemental disclosures of cash flow information
Interest paid $ -- $ --
=========== ===========
Income taxes paid $ -- $ --
=========== ===========
The accompanying notes are an integral part of these financials
34
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2002
--------------------------------------------------------------------------------
Supplemental schedule of non-cash investing and financing activities During the
year ended December 31, 2002, the Company
o issued 200,000 shares of common stock for services rendered totaling
$90,000.
o issued options to purchase 155,000 shares of common stock to an employee of
the Company. In relation to these issuances, the Company recorded
compensation expense totaling $193,750 and deferred compensation expense
totaling $145,312.
o issued options to purchase 425,000 shares of common stock for services
rendered. In relation to these issuances, the Company recorded consulting
expense totaling $173,250.
o issued options to purchase 28,000 shares of common stock for debt issued.
In relation to these issuances, the Company recorded interest expense
totaling $5,600.
o issued warrants to purchase 2,500 shares of common stock for services
rendered. In relation to these issuances, the Company recorded consulting
expense totaling $850.
o committed to issue 1,060,000 shares of common stock for services rendered.
In relation to these commitments, the Company recorded consulting expense
totaling $172,500.
o recorded interest expense totaling $66,000 related to the beneficial
conversion feature for the issuance of convertible debt.
o issued 60,000 shares of preferred stock as payment for an expense
reimbursement totaling $60,000.
o recorded 7% cumulative preferred stock dividends totaling $150,129
During the year ended December 31, 2001, the Company
o converted notes with a principal balance of $1,340,000 and accrued interest
of $90,196 into 1,430,196 shares of the Company's Series A preferred stock.
Related to these conversions, the Company issued an additional 345,511
shares of Series A preferred stock to certain of the note holders and
recorded related interest charges of $345,511. The remaining notes with a
principal balance of $250,000 and accrued interest of $18,687 had been
converted into committed common stock. Related to the conversion, the
Company recorded interest charges of $130,487 for additional shares that
will be issued.
o issued 100,000 shares of Series A preferred stock as a settlement of
certain litigation. Related to this transaction, the Company recorded
expenses totaling $100,000
35
The accompanying notes are an integral part of these financials
NUTRASTAR INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2002
--------------------------------------------------------------------------------
Supplemental schedule of non-cash investing and financing activities (Continued)
o issued 130,000 shares of Series A preferred stock to a related party as
payment of accounts payable totaling $130,000 and subsequently executed a
put/call option with the related party (see Note 11).
o issued 13,000 shares of Series A preferred stock for services rendered
valued at $13,000.
o issued 56,000 shares of Series A preferred stock for deposits payable
totaling $56,000. In relation to one of these transactions, the Company
issued 10,000 shares of preferred stock as interest expense totaling
$10,000.
o issued 21,409 shares of common stock to acquire a registered trademark
valued at $21,409.
o issued 356,824 shares of common stock to extend the term of a note payable
and recorded interest expense totaling $356,824.
o issued 249,314 shares of common stock for services rendered valued at
$249,314.
o issued 250,001 shares of common stock in exchange for the remaining 20% of
the common stock of NutraGlo owned by a third party.
o issued 150,000 shares of common stock as a settlement for the cancellation
of a consulting agreement and recorded consulting expense totaling
$150,000.
o recorded committed common stock of $399,174 for the conversion of a note
payable and accrued interest.
o issued options to purchase 935,564 shares of common stock to employees of
the Company. In relation to these issuances, the Company recorded
compensation expense totaling $197,914 and deferred compensation expense
totaling $449,515.
o issued options to purchase 1,498,660 shares of common stock. In relation to
these issuances, the Company recorded consulting expense totaling $797,501
and deferred compensation expense totaling $476,360.
o issued options to purchase 142,730 shares of common stock in settlement of
certain disputes. In relation to these issuances, the Company recorded
settlement expenses totaling $107,047.
36
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 1 - ORGANIZATION AND LINE OF BUSINESS
General
-------
NutraStar Incorporated ('NutraStar"), a California corporation, markets
proprietary whole food dietary supplements derived from nutrient-dense
stabilized rice bran (a nutraceutical) produced by an affiliated company,
The RiceX Company ("RiceX"), a current shareholder and a publicly traded
company. The Company (as defined in Note 4) has a license to distribute
certain derivatives of RiceX's stabilized rice bran, as well as
valued-added rice bran products in the United States of America.
On December 14, 2001, Alliance Consumer International, Inc. ("Alliance")
acquired all of the outstanding common stock of NutraStar. For accounting
purposes, the acquisition has been treated as a recapitalization of
NutraStar with NutraStar as the acquirer (reverse acquisition).
Effective April 27, 2000, NutraStar became an 80% owner of NutraGlo
Incorporated ("NutraGlo"), a Nevada corporation. NutraGlo was non-operative
during 2000. During the year ended December 31, 2001, NutraGlo started
marketing, manufacturing, and distributing NutraStar's stabilized rice bran
and other nutraceuticals to the equine market. In connection with
NutraStar's acquisition of Alliance, NutraStar issued 250,001 shares of
common stock in exchange for the remaining 20% of the common stock of
NutraGlo.
The transaction has been accounted for in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 141, "Business Combinations,"
which is required for all transactions occurring after June 30, 2001. In
accordance with SFAS No. 141, the purchase price is to be allocated to
assets acquired and liabilities assumed based on the estimated fair market
value at the closing date of the acquisition, with the excess of the
purchase price being allocated to goodwill. Since there were not any assets
acquired and liabilities assumed in connection with this transaction, the
value of the shares issued of $250,001 has been recorded as goodwill in the
accompanying consolidated balance sheet. As NutraStar was the 80% owner of
NutraGlo, the operations of NutraGlo have been consolidated with NutraStar.
Therefore, pro forma information is not required.
Lines of Business
-----------------
The Company has four primary divisions through which it sells its products:
(1) TheraFoods(R), which distributes consumer products including
RiSolubles(R), RiceMucil(R), NutraFlex(TM), and StaBran(R), (2)
NutraCea(R), which was created to compliment medical food products, (3)
NutraBeauticals(R), which provides natural products to improve skin health,
and (4) NutraGlo(R), which developed a derivative of the NutraFlex(TM)
product for horses.
For internal reporting purposes, management segregates the Company into two
segments: (1) NutraStar, including the transactions of TheraFoods(R),
NutraCea(R), and NutraBeauticals(R), and (2) NutraGlo.
37
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 2 - RESTATEMENT
During the year ended December 31, 2001, the Company issued 130,000 shares
of Series A preferred stock to a related party as payment of accounts
payable totaling $130,000. Related to these issuances, on January 15, 2002,
these holders executed a put/call agreement with the Company (see Note 11).
The Company previously had not recorded the put option on its financial
statements. The Company has also reclassified its convertible Series A
preferred stock to convertible, redeemable Series A preferred stock to
conform with the accounting requirements of the United States Securities
and Exchange Commission.
This restatement does not have any effect on the Company's reported
earnings. Its impact on the previously reported total liabilities and
convertible, redeemable Series A preferred stock as of December 31, 2001 is
as follows:
As Previously
Reported Restatement As Restated
------------- ----------- -------------
Total liabilities $ 562,529 $ 130,000 $ 692,529
Total convertible, redeemable Series
A preferred stock $ 1,980,802 $ (130,000) $ 1,850,802
NOTE 3 - GOING CONCERN
The accompanying financial statements have been prepared in conformity with
United States generally accepted accounting principles which contemplate
continuation of the Company as a going concern. During the year ended
December 31, 2002, the Company incurred a net loss of $2,800,537, and it
had negative cash flows from operations of $910,765. In addition, the
Company had an accumulated deficit of $8,278,840 at December 31, 2002.
These factors raise substantial doubt about the Company's ability to
continue as a going concern.
Recovery of the Company's assets is dependent upon future events, the
outcome of which is indeterminable. Successful transition of the Company to
the attainment of profitable operations is dependent upon the Company
achieving a level of sales adequate to support the Company's cost
structure. The financial statements do not include any adjustments relating
to the recoverability and classification of recorded asset amounts or
amounts and classification of liabilities that might be necessary should
the Company be unable to continue in existence.
38
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 3 - GOING CONCERN (Continued)
Management's plans to alleviate substantial concern about the Company's
ability to continue as a going concern include the following:
o The Company anticipates that it will be able to raise additional
equity that will be sufficient for it to continue to implement
its current business strategy. It plans on registering all of its
common stock with the Securities and Exchange Commission not
previously registered as well as any future common stock issued.
This should result in more market liquidity for the Company's
common shareholders.
o The Company plans on implementing an aggressive marketing
strategy that will enhance consumer awareness of its products.
The strategy includes establishing and/or expanding existing
strategic relationships; using an Internet business-to-business
and business-to-consumer Web site that will handle increased
product demand if its marketing strategy is successful; creating
a direct response marketing campaign; and advertising in
targeted, industry specific magazines.
o The Company is reducing its fixed overhead expenses and plans to
continue to control such items for the foreseeable future.
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
---------------------------
The consolidated financial statements include the accounts of NutraStar and
its wholly owned subsidiaries, NutraStar Technologies Incorporated and
NutraGlo(R) (collectively, the "Company"). All significant inter-company
accounts and transactions are eliminated in consolidation.
Revenue Recognition
-------------------
Revenue is generally recognized upon shipment of product with a provision
for estimated returns and allowances recorded at that time, if applicable.
Commissions revenue is generally recognized when earned and collection is
reasonably assured.
Comprehensive Income
--------------------
The Company utilizes SFAS No. 130, "Reporting Comprehensive Income." This
statement establishes standards for reporting comprehensive income and its
components in a financial statement. Comprehensive income as defined
includes all changes in equity (net assets) during a period from non-owner
sources. Examples of items to be included in comprehensive income, which
are excluded from net income, include foreign currency translation
adjustments, minimum pension liability adjustments, and unrealized gains
and losses on available-for-sale securities. Comprehensive income is not
presented in the Company's financial statements since the Company did not
have any changes in equity from non-owner sources.
39
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Accounts Receivable
-------------------
The Company provides for the possible inability to collect accounts
receivable by recording an allowance for doubtful accounts. The Company
writes off an account when it is considered to be uncollectible. As of
December 31, 2002, an allowance for doubtful accounts was not deemed
necessary.
Inventory
---------
Inventory is stated at the lower of cost (first-in, first-out) or market
and consists of nutraceutical products manufactured by an affiliated
company, RiceX, which the Company enhances for final distribution to its
customers. While the Company has an inventory of these products, which
contain ingredients supplied by RiceX, any significant prolonged shortage
of these ingredients or of the supplies used to enhance these ingredients
could materially adversely affect the Company's results of operations.
Property and Equipment
----------------------
Property and equipment are stated at cost. The Company provides for
depreciation using the straight-line method over the estimated useful lives
as follows:
Furniture and equipment 7 years
Software 3 years
Expenditures for maintenance and repairs are charged to operations as
incurred while renewals and betterments are capitalized. Gains or losses on
the sale of property and equipment are reflected in the statements of
operations.
Patents and Trademarks
----------------------
The Company has exclusive licenses for several patents, which were acquired
from independent third parties and a related party. All costs associated
with the patents are capitalized. Patents acquired from related parties are
recorded at the carryover basis of the transferor. The Company paid cash as
consideration for all patents and trademarks acquired, except the Via-Bran
registered trademark, which was acquired for 21,409 shares of common stock
valued at $21,409.
Amortization is computed on the straight-line method based on estimated
useful lives of 17 to 20 years. The Company also has registered trademarks,
which are amortized over estimated useful lives of 10 years.
The Company recorded a loss reserve totaling $75,359 as of December 31,
2002 related to the impairment of certain patents.
Deferred Compensation
---------------------
Deferred compensation at December 31, 2002 consisted of salaries payable to
employees of the Company that have been earned, but not paid.
40
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Fair Value of Financial Instruments
-----------------------------------
For certain of the Company's financial instruments, including cash,
accounts receivable, inventory, prepaid expenses, accounts payable, accrued
salaries and benefits, deferred compensation, accrued expenses, customer
deposits, due to officer, due to related party, notes payable - related
party, note payable, and put option, the carrying amounts approximate fair
value due to their short maturities.
Stock-Based Compensation
------------------------
SFAS No. 123, "Accounting for Stock-Based Compensation," defines a fair
value based method of accounting for stock-based compensation. However,
SFAS No. 123 allows an entity to continue to measure compensation cost
related to stock and stock options issued to employees using the intrinsic
method of accounting prescribed by Accounting Principles Board ("APB")
Opinion No. 25, "Accounting for Stock Issued to Employees." Entities
electing to remain with the accounting method of APB No. 25 must make pro
forma disclosures of net income and earnings per share as if the fair value
method of accounting defined in SFAS No. 123 had been applied. The Company
has elected to account for its stock-based compensation to employees under
APB No. 25.
Advertising Expense
-------------------
The Company expenses all advertising costs, including direct response
advertising, as they are incurred. Advertising expense for the years ended
December 31, 2002 and 2001 was $57,264 and $24,369, respectively.
Income Taxes
------------
The Company accounts for income taxes under the liability method, which
requires the recognition of deferred tax assets and liabilities for the
expected future tax consequences of events that have been included in the
financial statements or tax returns. Under this method, deferred income
taxes are recognized for the tax consequences in future years of
differences between the tax bases of assets and liabilities and their
financial reporting amounts at each period end based on enacted tax laws
and statutory tax rates applicable to the periods in which the differences
are expected to affect taxable income. Valuation allowances are
established, when necessary, to reduce deferred tax assets to the amount
expected to be realized.
Loss Per Share
--------------
The Company utilizes SFAS No. 128, "Earnings per Share." Basic loss per
share is computed by dividing loss available to common shareholders by the
weighted-average number of common shares outstanding. Diluted loss per
share is computed similar to basic loss per share except that the
denominator is increased to include the number of additional common shares
that would have been outstanding if the potential common shares had been
issued and if the additional common shares were dilutive. Common equivalent
shares are excluded from the computation if their effect is anti-dilutive.
As such, basic and diluted loss per share are the same.
41
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Estimates
---------
The preparation of financial statements requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenue and
expenses during the reporting period. Actual results could differ from
those estimates.
Concentrations of Credit Risk
-----------------------------
The Company sells its services throughout the United States, extends credit
to its customers, and performs ongoing credit evaluations of such
customers. The Company evaluates its accounts receivable on a regular basis
for collectability and provides for an allowance for potential credit
losses as deemed necessary.
On May 1, 2001, the Company entered into a three-year, exclusive
distribution agreement with a customer, in which the customer is required
to purchase a minimum of 90,000 pounds of the Company's product on or
before July 1, 2001, 120,000 pounds before September 1, 2002, 275,000
pounds between September 1, 2002 and August 31, 2003, and 350,000 pounds
between September 1, 2003 and August 31, 2004. During the year ended
December 31, 2002, sales to this customer totaled $516,596 (40% of total
sales). During the year ended December 31, 2001, sales to this customer
totaled $596,627 (46% of total sales).
In addition to the above, during the years ended December 31, 2002 and
2001, one customer accounted for 10% and 19%, respectively, of the
Company's sales.
Recently Issued Accounting Pronouncements
-----------------------------------------
In April 2002, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment
of FASB Statement No. 13, and Technical Corrections." SFAS No. 145 updates,
clarifies, and simplifies existing accounting pronouncements. This
statement rescinds SFAS No. 4, which required all gains and losses from
extinguishment of debt to be aggregated and, if material, classified as an
extraordinary item, net of related income tax effect. As a result, the
criteria in Accounting Principles Board No. 30 will now be used to classify
those gains and losses. SFAS No. 64 amended SFAS No. 4 and is no longer
necessary as SFAS No. 4 has been rescinded. SFAS No. 44 has been rescinded
as it is no longer necessary. SFAS No. 145 amends SFAS No. 13 to require
that certain lease modifications that have economic effects similar to
sale-leaseback transactions be accounted for in the same manner as
sale-lease transactions. This statement also makes technical corrections to
existing pronouncements. While those corrections are not substantive in
nature, in some instances, they may change accounting practice. This
statement is not applicable to the Company.
42
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 4 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Recently Issued Accounting Pronouncements (Continued)
-----------------------------------------
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." This statement addresses
financial accounting and reporting for costs associated with exit or
disposal activities and nullifies Emerging Issues Task Force ("EITF") Issue
No. 94-3, "Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." This statement requires that a liability for a cost
associated with an exit or disposal activity be recognized when the
liability is incurred. Under EITF Issue 94-3, a liability for an exit cost,
as defined, was recognized at the date of an entity's commitment to an exit
plan. The provisions of this statement are effective for exit or disposal
activities that are initiated after December 31, 2002 with earlier
application encouraged. This statement is not applicable to the Company.
In October 2002, the FASB issued SFAS No. 147, "Acquisitions of Certain
Financial Institutions." SFAS No. 147 removes the requirement in SFAS No.
72 and Interpretation 9 thereto, to recognize and amortize any excess of
the fair value of liabilities assumed over the fair value of tangible and
identifiable intangible assets acquired as an unidentifiable intangible
asset. This statement requires that those transactions be accounted for in
accordance with SFAS No. 141, "Business Combinations," and SFAS No. 142,
"Goodwill and Other Intangible Assets." In addition, this statement amends
SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets," to include certain financial institution-related intangible
assets. This statement is not applicable to the Company.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure," an amendment of SFAS No. 123.
SFAS No. 148 provides alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based
employee compensation. In addition, SFAS No. 148 amends the disclosure
requirements of SFAS No. 123 to require more prominent and more frequent
disclosures in financial statements about the effects of stock-based
compensation. This statement is effective for financial statements for
fiscal years ending after December 15, 2002. SFAS No. 148 will not have any
impact on the Company's financial statements as management does not have
any intention to change to the fair value method.
NOTE 5 - CASH
The Company maintains its cash balances at one bank located in California.
The balances at the bank are insured by the Federal Deposit Insurance
Corporation up to $100,000. At December 31, 2002, the Company did not have
any uninsured cash.
43
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 6 - PROPERTY AND EQUIPMENT
Property and equipment at December 31, 2002 consisted of the following:
Furniture and equipment $ 18,417
Software 347,773
----------------
366,190
Less accumulated depreciation 210,478
----------------
Total $ 155,712
================
Depreciation expense was $116,393 and $89,026 for the years ended December
31, 2002 and 2001, respectively.
NOTE 7 - PATENTS AND TRADEMARKS
Patents and trademarks at December 31, 2002 consisted of the following:
Patents $ 89,399
Trademarks 52,259
----------------
141,658
Less loss reserve 75,359
Less accumulated amortization 17,551
----------------
Total $ 48,748
================
At December 31, 2002, $67,098 of the Company's patents and trademarks had
been purchased from a related party.
The Company recorded a loss reserve totaling $75,359 as of December 31,
2002 related to the impairment of certain patents.
44
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 7 - PATENTS AND TRADEMARKS (Continued)
Amortization expense was $10,067 and $5,371 for the years ended
December 31, 2002 and 2001, respectively. Future estimated, aggregate
amortization expense at December 31, 2002 was as follows:
Year Ending
December 31,
2003 $ 9,696
2004 9,696
2005 9,696
2006 9,696
2007 9,694
------------
Total $ 48,478
=============
NOTE 8 - GOODWILL
Goodwill represents the purchase price of the remaining 20% of
NutraGlo. As of January 1, 2002, the Company adopted SFAS No. 142. SFAS
No. 142 prohibits the amortization of goodwill, but requires that it be
reviewed for impairment at least annually or on an interim basis if an
event occurs or circumstances change that could indicate that its value
has diminished or been impaired. Recoverability of goodwill is measured
by a comparison of its carrying value to the future net cash flows
expected to be generated by it.
Cash flow projections are based on historical experience, management's
view of growth within the industry, and the anticipated future economic
environment. Since the Company purchased the remaining 20% of NutraGlo
on December 12, 2001, amortization expense was not recorded as of
December 31, 2001. As such, the transitional disclosure provisions of
SFAS No. 142 do not apply.
45
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 9 - NOTES PAYABLE - RELATED PARTIES
During the year ended December 31, 2002, the Company raised an aggregate of
$234,800 through the issuance of short-term promissory notes. Notes payable
- related parties at December 31, 2002 consisted of the following:
Notes payable to the Chief Executive Officer, bearing interest
at 10% per annum, with $74,000 due prior to December 31,
2002, $1,800 due on January 26, 2003, and $100,000 due on
March 3, 2003. At December 31, 2002, a total of $74,000 of
these notes were delinquent. Subsequent to December 31,
2002, all of these notes were modified to be due on demand. $ 175,800
Notepayable to a related party, bearing interest at 10% per
annum and due on December 20, 2002. At December 31, 2002,
this note was delinquent. Subsequent to December 31, 2002,
this note was modified to be due on demand. 5,000
------------
Total $ 180,800
============
NOTE 10 - NOTE PAYABLE
Note payable at December 31, 2002 amounted to $50,000 to a third party,
bearing interest at 2% per month, secured by 243,036 shares of common
stock, and due on December 20, 2002. As of December 31, 2002, the Company
was in default on the note. Subsequent to December 31, 2002, the Company
entered into an agreement with the third party to modify the collateral to
634,121 shares of preferred stock and extended the due date of the note to
September 20, 2003.
NOTE 11 - PUT OPTION
During the year ended December 31, 2001, the Company issued 130,000 shares
of Series A preferred stock to a related party as payment of accounts
payable totaling $130,000. On January 15, 2002, these holders of the Series
A preferred stock executed a put/call agreement. The put allows for the
holder to sell to the Company all, but not less than all, of the 130,000
shares of the Company's Series A preferred stock, or common stock if any of
the Series A preferred stock were converted, for $130,000, plus all
accumulated, but unpaid dividends, at any time after six months from
January 15, 2002. Related to the put option and the related conversion of
debt, the Company has recorded a liability of $130,000.
46
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 11 - PUT OPTION (Continued)
In addition, the Company maintains the right to call the option and
purchase back the shares of the Series A preferred stock for $130,000, plus
any unpaid and accrued dividends at any time, subject to certain
provisions.
NOTE 12 - COMMITMENTS AND CONTINGENCIES
Lease
-----
The Company leases its office space under a non-cancelable operating lease
with RiceX that expires in September 2006 and requires monthly payments of
$5,358. Future minimum payments under this lease agreement at December 31,
2002 were as follows:
Year Ending
December 31,
------------
2003 $ 64,298
2004 64,700
2005 65,906
2006 49,429
---------------
Total $ 244,333
===============
Rent expense was $63,899 and $66,799 for the years ended December 31,
2002 and 2001, respectively.
Registration Statement
----------------------
The Company will pay all of the costs connected with the registration on
Form SB-2 related to the re-sale of up to 3,709,028 shares of common stock
originally filed on June 4, 2002, except the holder of the common stock
will pay all sales commissions or brokers' discounts and the fees and
expenses of the holders' legal counsel or accountants, if any.
47
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 12 - COMMITMENTS AND CONTINGENCIES (Continued)
Agreements
----------
The Company has entered into several employment agreements with key
employees with terms ranging from three to 10 years. Minimum future
payments under these agreements at December 31, 2002 were as follows:
Year Ending
December 31,
------------
2003 $ 508,750
2004 380,000
2005 283,333
2006 250,000
2007 250,000
Thereafter 458,333
----------------
Total $ 2,130,416
================
Generally, if the Company terminates these agreements without cause or the
employee resigns with good reason, as defined, the Company will pay the
employees' salaries, bonuses, and benefits payable for the remainder of the
term of the agreements.
On December 14, 2001, the Company entered into a 12-month consulting
services agreement, whereby a $15,000 retainer fee is due every month for
financial and accounting services. This agreement was canceled in March
2002. During the year ended December 31, 2002, total consulting expenses
paid under this contract were $37,500.
On December 14, 2001, the Company entered into a 12-month consulting
services agreement, whereby it agreed to pay a $5,000 retainer fee for
financial and accounting services. In addition, upon the attainment by the
consultant of certain capital transactions, such as any financing business
combination, sale, or acquisition, a certain percentage, ranging from 2% to
6%, of the value of the capital transaction will be paid by the Company to
the consultant in cash. As of December 31, 2002, consulting expenses paid
under this contract were $35,000.
On February 26, 2002, the Company entered into a master services agreement
for certain e-commerce services in the amount of $9,975.
48
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 12 - COMMITMENTS AND CONTINGENCIES (Continued)
Agreements (Continued)
----------
On April 12, 2002, the Company entered into a two-year marketing agreement,
whereby the Company is to pay a commission of 10% of gross receipts on
sales from customers introduced to the Company by the consultant, subject
to certain requirements. In relation to this agreement, the Company must
grant to the consultants five-year options to purchase up to 150,000 shares
of the Company's common stock upon the attainment of customers at an
exercise price of $0.75 per share, vesting according to the achievement of
certain levels of gross receipts. The agreement automatically renews after
the initial two-year term. As of December 31, 2002, the consultant had not
produced any sales. Therefore, options had not been issued. Options issued
upon procurement of customers will be valued either at the fair market
value of the services performed or the fair market value of the options,
whichever is more readily available, with the expense amortized over the
service period.
On May 6, 2002, the Company entered into a one-year finder's and advisory
agreement, whereby the finder is to seek businesses that are consistent
with the Company's business and strategic plans or to introduce the Company
to investors. The fees paid to the finder for finding investors to fund the
Company are based upon certain percentages, ranging from 2% to 10%, plus
unaccountable expenses, depending on the amount funded by the investors. In
addition, 10% of the transaction value will be paid in cashless warrants.
If the finder arranges a credit line or other types of debt placement, the
fees paid to the finder will be 2% of the total debt placement.
If the finder introduces a business or entity and the Company engages in a
merge-type transaction or other similar transactions, the fees paid to the
finder are based upon certain percentages, ranging from 3% to 7%, depending
on the transaction value. In addition, 10% of the transaction value will be
paid in cashless warrants. This agreement is automatically renewed after
the initial one-year term. As of December 31, 2002, amounts were not paid
to the finder.
On June 10, 2002, the Company entered into a one-year finder's fee
agreement, whereby the Company is to pay the finder 5% of the gross
revenues generated from a commercial transaction other than financing, a
merger, or some other form of business combination. For every $100,000 in
gross revenues that are generated by the finder, the Company will issue
warrants to the finder to purchase 5,000 shares of common stock, which will
be exercisable immediately, at the then current market price on a cashless
basis, subject to certain limitations.
49
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 12 - COMMITMENTS AND CONTINGENCIES (Continued)
Agreements (Continued)
----------
In September 2002, the Company entered into a secured promissory note
agreement for $50,000, which was paid off prior to the year ended December
31, 2002. The note was collateralized by 500,000 shares of the Company's
common stock. As of December 31, 2002, these shares had not been returned
to the Company by the loaner. The Company has reflected these shares as
being issued and outstanding as of December 31, 2002.
In September 2002, the Company entered into a secured promissory note
agreement for $50,000, due on December 20, 2002. The note was
collateralized by 243,036 shares of the Company's common stock. As of
December 31, 2002, the Company was in default on this agreement. Subsequent
to December 31, 2002, the Company and the loaner agreed to modifications in
the agreement, whereby the note will be secured by 634,121 shares of the
Company's convertible, redeemable Series A preferred stock and will be due
on demand.
In November 2002, the Company entered into a one-year consulting agreement
with a third party in exchange for a fixed monthly fee. In addition, the
Company must issue to the consultant $100,000 worth of common stock as a
commencement bonus. The per share price of the Company's common stock was
$0.10 on the date services were first provided by the consultant.
Therefore, the Company is committed to issue 1,000,000 shares of common
stock as of December 31, 2002. The expense related to the transaction has
been recorded in operating expenses on the accompanying statement of
operations. Furthermore, the contract calls for the issuance to the
consultant options to purchase 1,200,000 shares of common stock. Subsequent
to December 31, 2002, this agreement was terminated, and the options were
canceled. These stock options are not included in the stock options
outstanding at December 31, 2002.
Litigation
----------
On April 4, 2002, a complaint was filed against the Company by Millennium
Integrated Services, Inc. ("MISI"). MISI provided Web site development
services to the Company at a cost of $204,405. MISI is seeking contract
payment of $204,405, plus interest of $32,031 and damages for alleged
conversion and misappropriation of trade secrets. On April 9, 2002, MISI
filed a Motion for a Writ of Attachment that would allow MISI to seize and
hold the Company's assets worth $236,436, pending the resolution of the
lawsuit. This Writ of Attachment was granted on April 10, 2002.
Certain of the Company's accounts receivable as of December 31, 2002 have
been attached to secure an accounts payable balance to MISI of $188,882 as
of December 31, 2002. The Company believes that the settlement of this case
may have a material effect on the Company's cash flows.
50
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 12 - COMMITMENTS AND CONTINGENCIES (Continued)
Litigation (Continued)
----------
On July 16, 2002, the Company was summoned to answer a complaint filed by
Faraday Financial, Inc. ("Faraday"). Between December 2000 and March 2001,
the Company issued convertible promissory notes totaling $450,000 and a
promissory note totaling $50,000. On December 13, 2001, Faraday entered
into a settlement agreement with the Company, whereby Faraday agreed to
cancel the promissory notes in exchange for 735,730 shares of preferred
stock. Faraday claims that the settlement agreement required that the
Company effect a registration statement covering the preferred stock by
June 30, 2002. In the event the Company failed to effect a registration
statement by June 30, 2002, the Company was to immediately forfeit to
Faraday 735,730 shares of common stock in the name of the Chief Executive
Officer of the Company.
In addition, the Chief Executive Officer entered into an escrow agreement
to ensure the automatic forfeiture of the common stock and entered into a
guarantee to be personally responsible to Faraday for the original $500,000
loan amount, plus 12% interest per annum. Faraday has filed its fourth
claim for relief for a judgment against the Company for $500,000, plus
accrued, but unpaid interest, attorneys' fees and costs, and other such
costs. As of September 30, 2002, management believes the maximum exposure
for the Company is approximately $500,000, plus interest and fees.
The Company was involved in litigation with several potential investors.
The plaintiffs requested a return of $750,000 in funds deposited with the
Company, representing potential permanent investments. These matters have
been resolved in connection with the acquisition of Alliance during
December 2001. As of December 31, 2002, there were not any additional
liabilities related to these matters.
There are various other claims that have been made against the Company by
certain of its vendors. Management expects that the settlement of these
claims will not have a significant effect on the Company's financial
position and results of operations.
From February through July 2000, a third party solicited funds on behalf of
an undetermined public shell company, into which it was contemplated that
the Company might merge. In this regard, the Company received approximately
$320,000 in deposits to be used for such purpose. As a result of these
solicitations, there may have been violations of federal and/or state
securities laws by such third party. The Company never proceeded with the
contemplated merger. Instead, the Company applied such funds to a
subsequent private placement that the Company conducted, in which shares of
the Company's common stock were issued for the $320,000 investment. The
Company has offered full refunds to all people who provided monies to the
Company. There are not any assurances that federal and/or state securities
authorities will not investigate and possibly bring an action against the
third party who solicited the funds and the Company.
51
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 13 - SHAREHOLDERS' DEFICIT
Convertible, Redeemable Series A Preferred Stock
------------------------------------------------
In December 2001, the Company approved the issuance of 3,000,000 shares of
convertible, redeemable Series A preferred stock and executed a certificate
of designation of the rights, preferences, and privileges of the Series A
preferred stock. Each shareholder of Series A preferred stock is entitled
to receive a 7% cumulative dividend, which is only payable in the case of
liquidation or redemption. The Series A preferred stock has a $1 per share
stated value and will receive certain liquidation preferences after
satisfaction of claims of creditors, but before payment or distributions of
assets and surplus funds.
Furthermore, the Series A preferred stock is convertible at the option of
the holder at $1 per share into the Company's common stock, subject to
certain anti-dilution provisions. In addition, the Series A preferred stock
will automatically convert into common stock in the event of a qualified
public trading benchmark, which is defined as (i) the common stock is
listed on a national exchange at twice its conversion price or (ii) the
common stock is quoted on the over-the-counter bulletin board at an average
bid price of at least $1.25 per share over any 30-day trading period.
The Company may redeem any and all outstanding shares of Series A preferred
stock. Upon the five-year anniversary of the date of issuance, the Company
is required to redeem all of its outstanding shares of Series A preferred
stock at $1 per share, plus all accrued and unpaid dividends declared. As
of December 31, 2002, cumulative dividends totaled $150,129.
During the year ended December 31, 2001, the Company issued 100,000 shares
of Series A preferred stock as a settlement of certain litigation. Related
to this transaction, the Company recorded expenses totaling $100,000 during
the year ended December 31, 2001.
During the year ended December 31, 2001, the Company issued 130,000 shares
of Series A preferred stock to a related party as payment of accounts
payable totaling $130,000 and subsequently executed a put/call option with
the related party (see Note 11).
During the year ended December 31, 2001, the Company issued 13,000 shares
of Series A preferred stock for services rendered. In relation to this
transaction, the Company recorded consulting expense totaling $13,000 as of
December 31, 2001.
During the year ended December 31, 2001, the Company issued 56,000 shares
of Series A preferred stock for deposits payable totaling $56,000. In
relation to one of these transactions, the Company issued 10,000 shares of
preferred stock as interest expense totaling $10,000 as of December 31,
2001.
52
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 13 - SHAREHOLDERS' DEFICIT (Continued)
Convertible, Redeemable Series A Preferred Stock (Continued)
------------------------------------------------
During the year ended December 31, 2001, notes with a principal balance of
$1,340,000 and accrued interest of $90,196 had been converted into
1,430,196 shares of the Company's Series A preferred stock. Related to
these conversions, the Company issued an additional 345,511 shares of
Series A preferred stock to certain of the note holders and recorded
related interest charges of $345,511. The remaining notes with a principal
balance of $250,000 and accrued interest of $18,687 had been converted into
committed common stock. Related to the conversion, the Company recorded
interest charges of $130,487 for additional shares that will be issued.
Common Stock
------------
On March 4, 2002, the Company commenced a private placement of up to
6,666,667 units. Each unit consisted of one share of common stock and one
warrant to purchase an additional share of common stock. The units were
offered at $0.65 per unit. The warrants have an exercise price of 120% of
the current market value of the Company's common stock at the time of
exercise.
In relation to this offering, on March 15, 2002, the Company issued 153,333
shares of common stock with a detachable purchase warrant to purchase
153,333 shares of common stock at an exercise price of $1.20 per share in
exchange for $100,000.
Effective December 14, 2001, the Company was combined with Alliance,
whereby the Company became a wholly owned subsidiary of Alliance. In
connection with the acquisition, the Company issued an additional 249,770
shares of common stock for services rendered. Under the terms of the
agreement, all of the issued and outstanding shares of the Company's common
stock were exchanged for 17,000,000 shares of Alliance's common stock.
The transaction has been accounted for as a reverse acquisition, whereby
NutraStar is considered the acquiring company and Alliance the acquired
company. The equity section of NutraStar has been restated, similar to a
recapitalization, to reflect the pro-rata shares it received in the
acquisition. The ratio of shares issued in the share-exchange was
approximately 1.43 shares of Alliance's common stock to every one share of
NutraStar's outstanding common stock. All share and per share data prior to
the acquisition have been restated to reflect this ratio.
53
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 13 - SHAREHOLDERS' DEFICIT (Continued)
Common Stock (Continued)
------------
Outstanding unexercised options and warrants of the Company were also
converted into options and warrants to acquire shares of Alliance's common
stock at a ratio of 1 to 1.43. Alliance also obtained $1,000,000 from the
sale of its common stock in connection with the acquisition agreement.
These shares of stock were issued for $1 per share. There were 3,649,520
shares outstanding as of the date of the acquisition. Prior to the
acquisition, NutraStar changed its name to NutraStar Technologies
Incorporated. Subsequent to the acquisition, Alliance changed its name to
NutraStar Incorporated.
During the year ended December 31, 2001, the Company issued 28,546 shares
of common stock for cash totaling $20,000.
During the year ended December 31, 2001, the Company issued 21,409 shares
of common stock to acquire a registered trademark valued at $21,409.
During the year ended December 31, 2001, the Company issued 356,824 shares
of common stock to extend the term of a note payable and recorded interest
expense totaling $356,824.
During the year ended December 31, 2001, the Company issued 249,314 shares
of common stock for services rendered. In relation to this transaction, the
Company recorded consulting expense totaling $249,314 as of December 31,
2001.
During the year ended December 31, 2001, the Company issued 250,001 shares
of common stock to a third party in exchange for the remaining 20% of the
common stock of NutraGlo.
During the year ended December 31, 2001, the Company issued 150,000 shares
of common stock as settlement for the cancellation of a consulting
agreement and recorded consulting expense totaling $150,000.
Committed Common Stock
----------------------
During the year ended December 31, 2001, the Company converted notes
payable with a principal balance of $250,000 and accrued interest of
$18,687 into committed common stock. Related to this conversion, the
Company recorded interest charges of $130,487 for additional shares that
will be issued.
During the year ended December 31, 2002, the Company committed to issue
1,060,000 shares of common stock for services rendered. In relation to
these commitments, the Company recorded consulting expense totaling
$172,500.
54
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 13 - SHAREHOLDERS' DEFICIT (Continued)
Committed Common Stock (Continued)
----------------------
The following table reconciles total shares and amount recorded as common
stock committed:
Shares Amount
------------ ------------
Committed upon conversion of debt and accrued
interest 399,174 $ 399,174
Committed for consulting services 1,060,000 172,500
------------ ------------
Total 1,459,174 $ 571,674
============ ============
Common Stock Warrants
----------------------
A summary of the Company's warrant activity is listed below:
Weighted- Weighted-
Weighted- Average Average
Average Exercise Exercise
Stock Stock Remaining Price of Price of
Exercise Warrants Warrants Contractual Warrants Warrants
Price Outstanding Exercisable Life Outstanding Exercisable
----------- ----------- ----------- ----------- ----------- ------------
$ 1.00 300,000 300,000 5 years $ 1.00 $ 1.00
Options
-------
The expense, if any, of stock options issued to employees is recognized
over the shorter of the term of service or vesting period. The expense of
stock options issued to consultants or other third parties are recognized
over the term of service. In the event services are terminated early, the
entire amount is recognized. The unamortized portion of the expense to be
recognized is recorded as deferred compensation.
During the year ended December 31, 2001, the Company issued options to
purchase 935,564 shares of common stock to employees of the Company. The
exercise prices of the options issued ranged from $0.25 to $1. The fair
market value of the common stock at the grant date was $1. The intrinsic
values ranged from $0.73 to $0.75. The options are amortized over the
vesting period, which ranges between two to five years, with the current
year amortization recorded as compensation expense. In relation to these
issuances, the Company recorded compensation expense totaling $197,914 and
deferred compensation expense totaling $449,515 as of December 31, 2001.
55
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 13 - SHAREHOLDERS' DEFICIT (Continued)
Options (Continued)
-------
During the year ended December 31, 2001, the Company issued options to
purchase 1,498,660 shares of common stock. The exercise price of the
options issued ranged from $0.25 to $1. The fair market value of the
options at grant date ranged from $0.75 to $0.89. The fair market value of
the common stock at the grant date was $1. These options are amortized over
the period of service of the consultant, with the current year amortization
recorded as consulting expense. In addition, certain of these options vest
immediately, with others vesting upon the attainment of certain performance
criteria. In relation to these issuances, the Company recorded consulting
expense totaling $797,501 and deferred compensation expense totaling
$476,360 as of December 31, 2001.
During the year ended December 31, 2001, the Company issued options to
purchase 142,730 shares of common stock in settlement of certain disputes.
The exercise price of the options issued was $1. The fair market value of
the options at grant date was $0.75. The fair market value of the common
stock at grant date was $1. In addition, these options vest immediately. In
relation to these issuances, the Company recorded settlement expenses
totaling $107,047 as of December 31, 2001.
On January 7, 2002, the Company entered into a five-year employment
agreement with an employee. In relation to this agreement, the Company
issued options to purchase 155,000 shares of common stock. The options vest
over four years in increments of 80,000, 25,000, 25,000, and 25,000, have
an exercise price of $1 per share, and expire on January 7, 2012. The fair
market value of the common stock at the grant date was $2.25. The intrinsic
value was $1.25. The options are amortized over the vesting periods. As of
December 31, 2002, the Company recorded compensation expense and deferred
compensation totaling $48,438 and $145,312, respectively, in relation to
this transaction.
On January 10, 2002, the Company entered into a six-month consulting
services agreement for marketing services. In relation to this agreement,
the Company issued options to purchase 25,000 shares of common stock valued
at $47,250 at an exercise price of $1 per share. The options vest
immediately and expire in 10 years. The fair market value of the options at
grant date was $1.89. The fair market value of the common stock at grant
date was $1. The Company recorded consulting expense of $47,250 in relation
to this transaction.
56
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 13 - SHAREHOLDERS' DEFICIT (Continued)
Options (Continued)
-------
On February 4, 2002, the Company entered into a three-month marketing
services agreement for public relations and advertising services. In
relation to this agreement, the Company paid a retainer of $35,000 upon
execution of the agreement, issued 35,000 shares of restricted common stock
valued at $47,250, and issued options to purchase 50,000 shares of the
Company's common stock valued at $43,000 at an exercise price of $3 per
share. The options vest immediately and expire in two years. The fair
market value of the options at grant date was $0.86. The fair market value
of the common stock at grant date was $1.35. The Company recorded
consulting expense totaling $90,250 in relation to this transaction.
On February 21, 2002, the Company entered into a one-year financial
advisory services agreement. In relation to this agreement, the Company
paid a non-refundable retainer of $20,000, issued 200,000 restricted shares
of common stock valued at $90,000, and issued options to purchase 100,000
restricted shares of common stock at $1 per share valued at $29,000,
100,000 at $2.50 per share valued at $22,000, and 100,000 at $4 per share
valued at $18,000. The options vest immediately and expire in two years.
The fair market value of the options at grant date ranged from $0.18 to
$0.29. The fair market value of the common stock at grant date was $0.45.
The Company recorded consulting expense totaling $159,000 in relation to
this transaction.
On June 19, 2002, the Company issued options to purchase 50,000 shares of
common stock at an exercise price of $1 per share to a consultant for
consulting expenses valued at $14,000. The options vest over two years and
expire in 10 years. The fair market value of the options at grant date was
$0.28. The fair market value of the common stock at grant date was $0.51.
On August 13, 2002, the Company issued options to purchase 28,000 shares of
common stock at an exercise price of $0.25 per share to a debtor. The
options vest immediately and expire in 10 years. The fair market value of
the options at grant date was $0.20. The fair market value of the common
stock at grant date was $0.21. In relation to this transaction, the Company
recorded interest expense of $5,600.
57
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 13 - SHAREHOLDERS' DEFICIT (Continued)
Options (Continued)
-------
The following table summarizes all of the Company's stock option
transactions:
Employee Options Consultant Options
---------------------------- -----------------------------
Weighted- Weighted-
Average Average
Stock Options Exercise Stock Options Exercise
Outstanding Price Outstanding Price
-------------- ------------ ---------------- -----------
Outstanding,
December 31, 2000 - $ - $ - $ -
Granted 935,564 $ 0.31 1,641,390 $ 0.51
------------- ---------------
Outstanding,
December 31, 2001 935,564 $ 0.31 1,641,390 $ 0.51
Granted 155,000 $ 1.00 455,500 $ 2.16
------------- ---------------
Outstanding,
December 31, 2002 1,090,564 $ 0.41 2,096,890 $ 0.87
============= ===============
Exercisable,
December 31, 2002 351,683 $ 0.44 1,433,198 $ 1.09
============= ===============
The weighted-average remaining contractual life of the options outstanding
at December 31, 2002 was 7.97 years. The exercise prices of the options
outstanding at December 31, 2002 ranged from $0 to $4, and information
relating to these options is as follows:
Weighted- Weighted-
Weighted- Average Average
Average Exercise Exercise
Range of Stock Stock Remaining Price of Price of
Exercise Options Options Contractual Options Options
Prices Outstanding Exercisable Life Outstanding Exercisable
------------- ----------- ------------ ------------- ----------- ----------
$ 0.00 - 0.28 1,962,671 827,313 8.90 years $ 0.25 $ 0.25
$ 0.29 - 1.00 974,783 707,568 7.82 years $ 1.00 $ 1.00
$ 1.01 - 4.00 250,000 250,000 1.20 years $ 3.20 $ 3.20
----------- ------------
3,187,454 1,784,881
=========== ============
58
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 13 - SHAREHOLDERS' DEFICIT (Continued)
Options (Continued)
-------
The Company has adopted the disclosure-only provisions of SFAS No. 123.
Accordingly, no compensation cost other than that required to be recognized
by APB 25 for the difference between the fair value of the Company's common
stock at the grant date and the exercise price of the options has been
recognized. Had compensation cost for the Company's stock option plan been
determined based on the fair value at the grant date for awards consistent
with the provisions of SFAS No. 123, the Company's net loss and loss per
share for the years ended December 31, 2002 and 2001 would have been
increased to the pro forma amounts indicated below:
2002 2001
------------ -------------
Net loss
As reported $ (2,950,666) $ (3,771,474)
Pro forma $ (3,082,932) $ (4,099,194)
Basic loss per common share
As reported $ (0.13) $ (0.20)
Pro forma $ (0.14) $ (0.22)
The fair value of these options was estimated at the date of grant using
the minimum value method with the following weighted-average assumptions
for the years ended December 31, 2002 and 2001: dividend yields of 0% and
0%, respectively; risk-free interest rates of 2.19% and 3.12%,
respectively; and expected life of 2.79 and 2.85 years, respectively. The
weighted-average exercise price was $0.71 at December 31, 2002.
The weighted-average fair value of the options issued during the year ended
December 31, 2002 was $0.84.
Warrants
--------
In connection with the issuance of certain promissory notes during the year
ended December 31, 2001, the Company issued warrants to purchase 350,000
shares of the Company's common stock at an exercise price of $1 per share.
The warrants expire on June 25, 2006 and are immediately exercisable. The
Company recorded a discount related to the detachable warrants of $114,083,
which represented the portion of the proceeds allocated to the warrants
based on the relative fair values of the debt and warrants. At the date of
conversion, $103,905 of the discount remained unamortized and has been
debited to convertible Series A preferred stock as part of the conversion.
In relation to these issuances, interest expense of $10,178 was recorded.
On June 10, 2002, the Company issued warrants to purchase 2,500 shares of
common stock at $0.50 per share to a consultant for consulting expenses
valued at $850.
59
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 14 - INCOME TAXES
Significant components of the Company's deferred tax asset for income taxes
consisted of the following at December 31, 2002:
Deferred tax asset
Net operating loss carryforwards $ 3,241,401
Less valuation allowance 3,241,401
----------------
Net deferred tax asset $ -
================
A reconciliation of the expected income tax computed using the federal
statutory income rate to the Company's effective rate for the years ended
December 31, 2002 and 2001 was as follows:
2002 2001
------------ ---------
Income tax computed at federal statutory tax rate 34.0% 34.0%
State taxes, net of federal benefit 5.8 5.8
Change in valuation allowance (39.8) (39.8)
--------- ---------
Total - % - %
========== =========
Realization of the future tax benefits related to the deferred assets is
dependent on many factors, including the Company's ability to generate
taxable income within the net operating loss carryforward period.
Management has considered these factors in reaching its conclusion as to
the valuation allowance for financial reporting purposes.
At December 31, 2002, the Company had net operating loss carryforwards for
federal and state income tax purposes of approximately $8,129,000, which
begin to expire in 2020. Certain of the net operating loss carryforwards
are limited to each year in accordance with the Internal Revenue Code.
NOTE 15 - RELATED PARTY TRANSACTIONS
On December 12, 2001, the Company entered into a 15-year agreement with
RiceX to be the exclusive distributor of rice solubles and rice bran fiber
concentrate in the United States of America and to have the exclusive
rights to various patents and trademarks owned by RiceX. Under the terms of
this agreement, RiceX has agreed to cancel certain indebtedness by the
Company in exchange for 130,000 shares of Series A preferred stock and
payment of $41,335 in interest, has agreed to new minimum purchase
requirements, and has agreed to extend the term of the agreement for five
years, with two additional renewal periods of five years each.
60
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 15 - RELATED PARTY TRANSACTIONS (Continued)
The sales price to the Company will be the lower of RiceX's published
standard price or the price negotiated by other customers for like
quantities and products. In January 2002, the Company revised the 15-year
agreement with RiceX.
To maintain rights under this revised agreement, the Company must purchase
$250,000 of product from RiceX by April 2002, $500,000 by July 2002,
$750,000 by October 2002, $1,250,000 by January 2003, $1,500,000 by July
2003, $2,250,000 by January 2004, $6,000,000 by January 2005, and
increasing thereafter by 10% per annum through the remaining term of the
agreement. During the year ended December 31, 2002, the Company received
notice from RiceX, stating that the Company was in default under the terms
of this distribution agreement with RiceX. On July 9, 2002, RiceX exercised
its right to terminate the exclusive distribution agreement and the related
license agreements with the Company due to the Company's default. However,
RiceX has agreed that the Company has license to use the patents in its
business pursuits. Purchase of inventory from RiceX as of December 31, 2002
totaled $441,739. The Company has recorded a loss reserve for the license
agreement totaling $75,359 as of December 31, 2002.
In connection with this agreement, the Company was granted exclusive patent
and licensing rights by RiceX for which the Company will pay RiceX a
royalty equal to 2% of gross receipts received by the Company from the sale
of the Company's products that incorporate any of RiceX's products, less
certain selling expenses. At December 31, 2002, the Company recorded
patents and licenses in the amount of $12,132 related to these exclusive
rights.
During the year ended December 31, 2001, the Company was unable to meet
customer demands for inventory. Therefore, RiceX sold its inventory
directly to the Company's customers. RiceX remitted the gross profit for
these sales to the Company, and the Company recorded commissions revenue
totaling $317,668 from RiceX related to sales made by RiceX to customers of
the Company.
During the year ended December 31, 2001, the Company issued 300,000 Series
A preferred stock to the Chief Executive Officer in exchange to cancel
$300,000 of convertible promissory notes.
During the year ended December 31, 2001, the Company entered into a
non-interest-bearing loan agreement with the Chief Executive Officer of the
Company. Related to this agreement, the Company recorded a Due to Officer
in the amount of $16,457 at December 31, 2002.
During the year ended December 31, 2001, certain operating expenses of the
Company totaling $111,313 were paid by RiceX. These expenses were
reimbursed by the Company, and at December 31, 2002, there were not any
amounts owed to RiceX.
61
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 16 - 401(K) PROFIT SHARING PLAN
Effective April 2000, the Company adopted a 401(k) profit sharing plan (the
"Plan") for the exclusive benefit of eligible employees and their
beneficiaries. Substantially all employees are eligible to participate in
the Plan. Matching contributions to the Plan are 3% of the employees' gross
salary, not to exceed a certain percentage. For the years ended December
31, 2002 and 2001, the Company made matching contributions of $14,696 and
$18,620, respectively.
NOTE 17 - LINES OF BUSINESS
For internal reporting purposes, management segregates the Company into two
segments as follows for the years ended December 31, 2002 and 2001:
2002
--------------------------------------------------------------------
NutraStar NutraGlo Eliminations Total
--------------- ---------------- --------------- ----------------
Total revenues $ 683,097 $ 603,342 $ - $ 1,286,439
Loss from operations $ (2,579,405) $ (122,842) $ - $ (2,702,247)
Identifiable assets $ 287,588 $ 433,909 $ (155,170) $ 566,327
Capital expenditures $ 61,150 $ - $ - $ 61,150
Depreciation and
amortization $ 126,460 $ - $ - $ 126,460
2001
--------------------------------------------------------------------
NutraStar NutraGlo Eliminations Total
--------------- ---------------- --------------- ----------------
Total revenues $ 1,018,688 $ 591,534 $ - $ 1,610,222
Income (loss) from
operations $ (2,947,059) $ 254,744 $ - $ (2,692,315)
Identifiable assets $ 964,944 $ 537,277 $ (238,920) $ 1,261,301
Capital expenditures $ 234,348 $ - $ - $ 234,348
Depreciation and
amortization $ 94,397 $ - $ - $ 94,397
NOTE 18 - SUBSEQUENT EVENTS
On January 30, 2003, the Company entered into a promissory note agreement
for $20,422 with the Chief Executive Officer of the Company. The note bears
interest at 10% per annum and is due on February 2, 2003.
62
NUTRASTAR INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 18 - SUBSEQUENT EVENTS (Continued)
On February 7, 2003, the Company entered into a promissory note agreement
for $90,000 with a family member of the Chief Executive Officer of the
Company. The note bears interest at 8% per annum, is collateralized by all
of the assets of the Company, and is due on May 6, 2003.
On February 18, 2003, the Company entered into a promissory note agreement
for $60,000 with the Chief Executive Officer of the Company. The note bears
interest at 10% per annum and is due on March 18, 2003.
On March 3, 2003, the due dates of notes payable to the Chief Executive
Officer of the Company totaling $175,800 and a note payable to a related
party totaling $5,000 were modified to be due on demand.
On March 5, 2003, the Company entered into a consulting agreement for
certain consulting services. As compensation for any funding, the
consultants are to be paid 7.5% of any cash received, 2.5% in value of such
funding in common stock of the Company, based on the closing price on the
day any agreement is signed, and a warrant to purchase one shares of the
Company's common stock for every dollar funded. The warrants are
exercisable at $0.50 per share on or before three years from the
anniversary of any funding.
On March 5, 2003, the Company entered into a promissory note agreement for
$40,000 with a related party. The note bears interest at 2% per month, is
collateralized by 400,000 shares of the Company's common stock, and is due
on June 3, 2003.
On March 10, 2003, the Company entered into a promissory note agreement for
$5,000 with a related party. The note bears interest at 2% per month, is
collateralized by 50,000 shares of the Company's common stock, and is due
on June 8, 2003.
63
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
In conjunction with the Exchange Transaction, the independent accountants for
Alliance, Andersen Andersen & Strong, L.C.("AA&S"), were dismissed and Singer,
Lewak, Greenbaum & Goldstein, LLP ("SLGG") were engaged as the accountant 's for
the combined entities consisting of NutraStar and NTI for the fiscal year ending
December 31, 2001, and thereafter. This action was approved by the NutraStar
Board of Directors on March 7, 2002.
The Board based its decision on several factors, including SLGG's experience in
our particular industry and SLGG's extensive SEC compliance practice.
There were no disagreements with AA&S on any matter of accounting principles or
practices, financial statement disclosure, or auditing scope or procedure.
The Report of Independent Certified Public Accountants signed by AA&S relating
to the financial statements of Alliance for the period March 12, 2001 through
March 31, 2001, did not contain an adverse opinion or a disclaimer of opinion
nor was qualified or modified as to uncertainty, audit scope or accounting
principles. The Accountants' Report, although unqualified, contained a fourth
explanatory paragraph describing a "going concern" contingency. Also on March 7,
2002, the Registrant's Board of Directors dismissed Hood & Strong, LLP ( "H&S"),
the independent accountant's for NTI, and approved the engagement of SLGG to
replace H&S as the independent accountants for NTI for the fiscal year ending
December 31, 2001, and thereafter.
The Independent Auditors' Report signed by H&S relating to the financial
statements of NTI for the fiscal year ended December 31, 2000, did not contain
an adverse opinion or a disclaimer of opinion nor was qualified or modified as
to uncertainty, audit scope or accounting principles. The Auditors' Report,
although unqualified, contained a fourth explanatory paragraph describing a
"going concern" contingency.
During the fieldwork performed by H&S in March and November, 2001 in connection
with the accounting work performed on NTI's financial statements, there was a
disagreement between NTI's management and H&S regarding the need for an
explanation in the financial statements relating to the "going concern"
uncertainty. Management of NTI believed that no material "going concern"
uncertainty existed with NTI's business based upon its belief that the positive
results from initial implementation of its business strategy supported a viable
and sustainable business plan. H&S believed that a "going concern" contingency
existed based upon its belief that without the elimination of business risks
such as achieving successful operations, obtaining sufficient additional
financing or obtaining a line of credit, that there was sufficient uncertainty
to require disclosure. A "going concern" explanation was included in the
Auditors' Report thus resolving the issue to the satisfaction of H&S. There were
no other disagreements with H&S on any matters of accounting principles or
practices, financial statement disclosure, or auditing scope or procedures
which, if not resolved to the satisfaction of H&S, would have caused H&S to make
reference to the subject matter of any such disagreement if a report was to be
executed.
64
The Chairwoman of NTI's Board of Directors was involved in discussions with H&S
regarding the "going concern" issue. The Chairwoman reported the disagreement
and its resolution to NTI's Board of Directors. Neither a committee of NTI's
Board of Directors nor the Board of Directors as a group discussed the "going
concern" disagreement with H&S.
Prior to their engagement, SLGG was not consulted regarding the application of
accounting principles to any transactions, or the type of audit opinion that
might be rendered or the subject matter of the disagreement with H&S described
above.
These changes were previously reported in NutraStar's Form 8-K filed March 14,
2002 and the Amended Form 8-K filed March 25, 2002.
65
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE
EXCHANGEACT
The following table sets forth information about the directors and executive
officers of NutraStar, most of whom assumed their respective positions upon the
closing of the exchange transaction with NTI on December 14, 2001:
C
--------------------- ---- -------------------------------------------------- -----------------
Name of Person Age Position and Office Presently Held With NutraStar Director Since
--------------------- ---- -------------------------------------------------- -----------------
Patricia McPeak 61 Chairman, CEO and President December 14, 2001
--------------------- ---- -------------------------------------------------- -----------------
Joseph Ferrara(1) 45 President ----
--------------------- ---- -------------------------------------------------- -----------------
Edward G. Newton(2) 66 Vice President, Secretary and Director December 14, 2001
--------------------- ---- -------------------------------------------------- -----------------
James W. Kluber 52 Chief Financial Officer ----
--------------------- ---- -------------------------------------------------- -----------------
Dr. Rukmini 67 Chief Science Officer of NTI ----
Cheruvanky
--------------------- ---- -------------------------------------------------- -----------------
Dr. Reddy S.V. 66 Director of Science and Technology for NTI ----
Cherukuri
--------------------- ---- -------------------------------------------------- -----------------
Danny Lowell(3) 50 Chief Information Officer ----
--------------------- ---- -------------------------------------------------- -----------------
--------------------------
(1) Mr. Ferrara served as President of NutraStar from May 1, 2002 until his
resignation effective November 1, 2002.
(2) Subsequent to the year end, Mr. Newton resigned as a director of NutraStar.
(3) Subsequent to the year end, Mr. Lowell resigned his position with
NutraStar.
Patricia McPeak has been NutraStar's Chairman and CEO since December 14, 2001.
She also served as NutraStar's President from December 14, 2001 to May 1, 2002
and reassumed the position on January 30, 2003. She was the founder of NTI, and
has been the Chief Executive Officer, President, and a director of NTI since its
formation in February 2000, and was the Secretary of NTI from February to
October 2000. She has extensive experience in the field of nutraceuticals and
ingredient production, having served as an executive in this industry for 24
years. Ms. McPeak was a co-founder of The RiceX Company, and was the President
and a director of that company since its formation in May 1989, until she
resigned as President of that company to found NTI. See "Certain Transactions -
The RiceX Company." In 1981, Ms. McPeak co-founded Brady International, Inc., a
company involved in converting raw rice bran into food, and was an executive
officer of that company from 1981 to May 1989.
Edward G. Newton has been NutraStar's Secretary, Vice President-Sales and a
Director since December 14, 2001. He was the Vice President, Sales and a
director of NTI since its formation in February 2000, has been the Secretary of
NTI since October 2000. Mr. Newton has more than 32 years of experience in the
food industry. From 1996 to February, 2000, Mr. Newton served as Director of
66
Sales for RiceX. For the 30 years prior to working at RiceX, he worked in
various sales and management capacities for General Mills, an international
consumer foods company. His positions at General Mills included Purchasing
Director of Ingredients from 1974 to 1977, Director of Personnel and Sales
Training from 1977 to 1986, and Manager of Military Sales from 1986 to 1993. Mr.
Newton received his bachelor's degree in economics and business administration
from Whitman College and attended the Graduate School of Food Distribution at
USC from 1977 to 1986.
James W. Kluber has been the Chief Financial Officer of NutraStar since December
2001. Mr. Kluber has served as a senior financial consultant in a variety of
service and technology environments with special focus on high growth companies
and restructuring operations. He has successfully raised capital for companies
in a variety of markets, utilizing public and private equity as well as
securitized and unsecured debt to accomplish funding requirements. Since
February, 2000, Mr. Kluber has been Vice President and CFO of NewGold, Inc.,
conducting gold and silver mining operation in Nevada. Mr. Kluber is also a
partner in Concord Ventures LLC, a private firm focusing on operational and
financial services for growth oriented companies requiring assistance in
developing and executing their business strategies. Additionally, he was the
Senior Vice President and CFO from 1996 to 1999 for RealPage, Inc. a leading
provider of software and services to the real estate industry. From 1993 to 1996
he served as Vice President of Financial Operations for two public companies
sponsored by Security Capital Group, ProLogis Trust and Archstone Communities.
Dr. Rukmini Cheruvanky became NutraStar's Chief Science Officer on February 1,
2002. She is a leading researcher in the therapeutic effects of rice bran and
rice bran oil for over 30 years, has been NTI's Chief Science Officer since
March 2000. Prior to joining NTI, she served as the Director of Research and
Development of The RiceX Company from April 1996 to March 2000. From January to
April 1996, Dr. Cheruvanky was the Laboratory Supervisor for Certified
Analytical Laboratories in New York, a company that specializes in food
analysis. From November 1994 to December 1995, she was Research Chemist in the
Research and Development Department of DuPont Merck Pharmaceutical Company in
New York. From May 1967 to February 1994, Dr. Cheruvanky served the National
Institute of Nutrition located in Hyderabad, India, a premier nutritional
institute, under the Indian Council of Medical Research. Dr. Cheruvanky retired
in 1994 as a Deputy Director heading the Food Toxicology and Environmental
Carcinogenic Division of the Institute. From May 1965 to May 1967, Dr.
Cheruvanky worked as a Research Officer, investigating the active principles of
the Indian Medicinal plants, under Indian Council of Medical Research scheme at
the Chemistry Department, Andhra University, Waltair, India. Dr. Cheruvanky
received her master's degree in Organic Chemistry from Andhra University in
India in 1959 and doctorate degree in Organic Chemistry of Natural Plant
Products from Andhra University in 1965. Dr. Cheruvanky has more than 80
peer-reviewed scientific publications to her credit. She was a mentor to several
Ph.D. and Master of Science students. Dr. Cheruvanky traveled widely for
exchange of scientific knowledge and study of food regulatory aspects in several
countries, on a prestigious World Health Organization program. Dr. Cheruvanky is
a Fellow of the American College of Nutrition.
67
Dr. Reddy Sastry V. Cherukuri is NTI's Director of Science and Technology since
March 2000. Prior to joining NTI, he served as the Director of Science and
Technology of The RiceX Company from April 1996 to March 2000. From May 1995 to
April 1996, Dr. Cherukuri served as a Laboratory Supervisor at Customs Coatings,
Inc., New York, a pharmaceutical company. From December 1994 to January 1995, he
was a chemist at DuPont Merck Pharmaceutical Company, New York. From May 1992 to
November 1994, Dr. Cherukuri was a consultant to several pharmaceutical
companies in India. From January 1967 to May 1992, he served for the Indian
Drugs and Pharmaceutical, Ltd., Hyderabad, India, a premier drugs and
pharmaceuticals manufacturing company, under the federal government of India.
Dr. Cherukuri retired in 1992 as the Senior Research Manager, Chief of Medicinal
Chemistry and Group Leader of New Drug Development division of the company. Dr.
Cherukuri received his Bachelor of Science Degree with Honors in 1958, Master of
Science Degree in Organic Chemistry in 1959 and Ph.D. Degree in Organic
Chemistry of Synthetic and Natural Plant Products in 1967, all from the Andhra
University, Waltair, India. Dr. Cherukuri has more than 75 peer- reviewed
scientific publications and 12 patents to his credit. He served as a member of
several scientific Boards and as a reviewer for several scientific journals.
Danny Lowell joined NutraStar in January 2002 as Chief Information Officer. He
previously worked with NutraStar as a technology and enterprise architecture
consultant from October 2000 through the end of 2001. Mr. Lowell is leading our
Information Technology strategic planning, development, and management. He is
responsible for implementing enterprise architecture and business systems,
including development of Internet sites. Mr. Lowell's diverse 22-year career in
Information Technology includes demonstrated proficiency and success across all
facets of the industry, including Internet, client-server, and mainframe
environments. Mr. Lowell is highly experienced with complex business systems,
process re-engineering, enterprise resource planning, and business/system
analysis. He is also familiar with software development and project management
life cycle methodologies, data analysis and design, and a multitude of technical
platforms, programming languages and databases. Mr. Lowell previously served as
an independent consultant from November 1999 to April 2001, during which time he
led teams of technology consultants in developing software applications, data
models, enterprise architecture, and methodologies for the state of California
and private industry. From January 1994 to May 1997, he served as Vice President
of Information Technology for K-Data Inc., and prior to that he spent eight
years as a computer technician with EDS. From June, 1997 to November 1999, he
held various consultant positions with several technology companies. Mr. Lowell
holds a Bachelor of Science degree in Computer Science from California State
University, Sacramento. He is also a member of the Project Management Institute
and is a certified Project Management Professional.
The current Directors will serve and hold office until the next annual
shareholders' meeting or until their respective successors have been duly
elected and qualified. Our executive officers are appointed by the Board of
Directors and serve at the discretion of the Board.
68
Family Relationships
There are no family relationships between any director or executive officer.
Management Consultants
Subsequent to Mr. Ferrara's resignation, in November 2002, an "Office of the
President" was created which included Patricia McPeak (the CEO) and two outside
consultants, Etienne Taylor and Brian Jones. Messrs. Taylor and Jones specialize
in managing corporate restructuring. The Office of the President was responsible
for the management of the day-to-day operations of NutraStar. The Office of the
President was disbanded on January 31, 2003 and Messrs. Taylor and Jones were
terminated as consultants to NutraStar. As of January 31, 2003, Ms. McPeak
assumed the duties of President of NutraStar.
Board Meetings and Committees
The Board of Directors of the Company held two meetings and acted by unanimous
consent on 12 occasions during the year ended December 31, 2002. The Board does
not currently have an Audit, Executive or Compensation Committee.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the
Company's executive officers and directors, and persons who own more than 10% of
the Company's common stock to file reports of ownership on Form 3 and changes in
ownership on Form 4 with the Securities and Exchange Commission (the "SEC").
Such executive officers, directors and 10% stockholders are also required by SEC
rules to furnish the Company with copies of all Section 16(a) forms they file.
Based solely upon its review of copies of such forms received by it, or on
written representations from certain reporting persons that no other filings
were required for such persons, the Company believes that, during the year ended
December 31, 2002, its executive officers and directors and 10% stockholders
complied with all applicable Section 16(a) filing requirements.
ITEM 10. EXECUTIVE COMPENSATION
The following table sets forth the compensation of the Company's Chief Executive
Officer during the last three complete fiscal years. One other officer received
annual compensation in excess of $100,000 during the last completed fiscal year.
69
SUMMARY COMPENSATION TABLE
Annual Compensation Long Term Compensation
------------------------------------------ ---------------------------------------
Awards Payout
--------------------------- --------
Restricted Securities
Other Annual Stock Underlying LTIP All Other
Bonus Compensation Award(s) Options Payout Compensation
Year Salary(1) ($) ($) ($) (#) ($) ($)
------------ -------------- --------- ----------------- ------------- ------------- -------- ------------
Radd Barrett 2/21/01 to
(FormerCEO) 12/14/01 -0- -0- -0- -0- -0- -0- -0-
2000(2) -0- -0- -0- -0- -0- -0- -0-
Patricia McPeak 2002 $150,000(3) $100,000 $15,750(4) -0- -0- -0- (5)
(CEO)
2001 $241,667 $ 8,333 $12,000(4) -0- 28,820 -0- (5)
2000 $182,692 -0- $12,000(4) -0- -0- -0- -0-
Edward Newton (VP) 2002 $100,000(6) -0- $ 1,500(4) -0- -0- -0- (5)
2001 $100,000 -0- -0- -0- 304,124 -0- (5)
Danny Lowell (CIO) 2002 $120,000(7) -0- $ 1,662(4) -0- -0- -0- (5)
-----------------------------
(1) Amount includes payments received from both NTI and NutraStar.
(2) From July, 1999 through February 21, 2001, Alliance was in bankruptcy.
(3) Of this amount, $110, 577 was deferred.
(4) Includes a monthly car allowance of $1,000.
(5) Ms. McPeak and Messrs. Newton and Lowell are provided with paid disability insurance benefits.
(6) Of this amount, $38,462 was deferred.
(7) Of this amount, $46,154 was deferred.
Stock Option Plan
NutraStar does not have a formal stock option plan currently in place. Options
to date have been granted on an individual basis pursuant to individual option
agreements. NutraStar expects to adopt a formal stock option plan during this
current fiscal year.
As a result of the Exchange Transaction, a total of 655,480 options previously
issued to employees of NTI converted into 935,564 options exercisable into
NutraStar common stock. A total of 1,050,000 options previously issued by NTI to
various consultants and advisors were converted into 1,498,660 options
exercisable into NutraStar common stock.
70
Options/SAR Grants in Last Fiscal Year
--------------------------------------
The following table sets forth certain information with respect to options or
SAR grants in NutraStar during the fiscal year ended December 31, 2002 to the
Named Executive Officers.
-------------------------- ------------------------- ----------------------- ------------------ ----------------------
Name Number of Securities Percent of Total Exercise or Base Expiration Date
Underlying Options Options Granted to Price
Granted Employees at December ($ Per Share)
31, 2002
-------------------------- ------------------------- ----------------------- ------------------ ----------------------
Patricia M. McPeak 28,820 1.0% $0.28 December 3, 2011
-------------------------- ------------------------- ----------------------- ------------------ ----------------------
Edward G. Newton 304,124 7.1% $0.25 December 3, 2011
-------------------------- ------------------------- ----------------------- ------------------ ----------------------
Aggregated Option/SAR Exercises Year-End Table.
-----------------------------------------------
During the fiscal year ended December 31, 2002, none of the Named Executive
Officers had exercised any options/SARs issued by NutraStar. The following table
sets forth information regarding the stock options held as of December 31, 2002
by the Named Executive Officers.
--------------------- ----------------------------------- ----------------------------------
Name Number of Securities Underlying Value of Unexercised
Unexercised Options at In-the-Money Options at
December 31, 2002 December 31, 2002(3)
--------------------- ----------------------------------- ----------------------------------
Exercisable Unexercisable Exercisable Unexercisable
--------------------- ---------------- ------------------ ---------------- -----------------
Patricia McPeak (1) 5,764 23,056 $ 461 $ 1,844
--------------------- ---------------- ------------------ ---------------- -----------------
Edward G. Newton (2) 304,124 -0- $ 24,330 $ -0-
--------------------- ---------------- ------------------ ---------------- -----------------
------------------------------------------------
(1) As of December 31, 2002 5,764 options were vested.
(2) As of December 31, 2002 all options were vested.
(3) Based on closing price of $0.08 per common share as of December 31, 2002.
Employee Pension, Profit Sharing or Other Retirement Plans
NutraStar does not have a defined benefit pension plan or profit sharing or
other retirement plan, however, it has established a 401(k) retirement plan.
Compensation of Directors
NutraStar's directors are also officers of NutraStar and do not receive any
additional compensation for their services as members of the Board of Directors.
NutraStar intends to appoint additional directors in the future who may or may
not be employees. For the non-employee directors, NutraStar may seek shareholder
approval for a "Director Option Plan" which would serve as the compensation plan
for such directors. No specific plan had been developed as of the end of the
fiscal year.
71
Employment Agreements
Patricia M. McPeak has an employment contract with NTI which has been assigned
to NutraStar (the "McPeak Employment Agreement"). The McPeak Employment
Agreement provides that McPeak receive an annual base salary of $150,000 which
annual base salary shall increase to $500,000 when NutraStar achieves $25
million in annual gross sales or its Common Stock is publicly traded and has a
sales price of at least $25 per share for 90 consecutive days, and the annual
base salary shall increase to $1 million when NutraStar achieves $50 million in
annual gross sales. Ms. McPeak will be entitled to quarterly bonuses of $25,000
upon achievement of certain benchmarks that will be set and determined by
NutraStar's Board of Directors. The agreement provides that Ms. McPeak shall
participate in NutraStar's stock bonus plans, and that NutraStar shall provide
Ms. McPeak with medical, life, and disability insurance benefits, additional
executive level benefits, and an annual automobile allowance of $12,000.
NutraStar may terminate the agreement on 30-days prior notice, but will remain
liable for all base salary, bonus, and benefits obligations throughout the
remaining term of the agreement. The McPeak Employment Agreement expires on
October 31, 2009.
Edward Newton has an employment contract with NTI, which has been assigned to
NutraStar (the "Newton Employment Agreement"). The Newton Employment Agreement
provides that Mr. Newton receive an annual base salary of $100,000. The
Agreement provides that Mr. Newton shall participate in NutraStar's stock bonus
plans. The Newton Employment Agreement expires on March 31, 2003. Subsequent to
the year end, Mr. Newton's Employment Agreement was renewed for an additional
three years on substantially similar terms.
Danny Lowell has an employment contract with NTI (the "Lowell Employment
Agreement"). The Lowell Employment Agreement provides for Mr. Lowell to receive
an annual base salary of $120,000. He will also be paid a $15,000 Start-up Bonus
if certain benchmarks are achieved. Mr. Lowell was also issued a total 155,000
stock options which vest over a four year period. The Agreement also provides
that Mr. Lowell will be provided with medical, life and disability insurance
benefits. The Lowell Employment Agreement expires January 7, 2007.
Dr. Rukmini Cheruvanky has an employment contract with NTI (the " Cheruvanky
Employment Agreement"). The Cheruvanky Employment Agreement provides for her to
receive an annual base salary of $60,000. Dr. Cheruvanky was also issued a total
of 64,846 stock options which vest over a four year period. The Agreement also
provides that Dr. Cheruvanky will be provided with medical, life and disability
insurance benefits. The Cheruvanky Employment Agreement expires March 31, 2004.
Dr. Reddy Sastry V. Cherukuri has an employment contract with NTI (the
"Cherukuri Employment Agreement"). The Cherukuri Employment Agreement provides
for him to receive an annual base salary of $60,000. Dr. Cherukuri was also
issued a total of 64,846 stock options which vest over a four year period. The
72
Agreement also provides that Dr. Cherukuri will be provided with medical, life
and disability insurance benefits. The Cherukuri Employment Agreement expires
March 31, 2004.
Consulting Contracts
On December 14, 2001, the Company entered into a 12-month consulting services
agreement, whereby a $15,000 retainer fee is due every month for financial and
accounting services. This agreement was canceled in March 2002. During the year
ended December 31, 2002, total consulting expenses paid under this contract were
$37,500.
On December 14, 2001, the Company entered into a 12-month consulting services
agreement, whereby it agreed to pay a $5,000 retainer fee for financial and
accounting services. In addition, upon the attainment by the consultant of
certain capital transactions, such as any financing, business combination, sale,
or acquisition, a certain percentage, ranging from 2% to 6%, of the value of the
capital transaction will be paid by the Company to the consultant in cash. As of
December 31, 2002, consulting expenses paid under this contract were $35,000.
On February 26, 2002, the Company entered into a master services agreement for
certain e-commerce services in the amount of $9,975.
On April 12, 2002, the Company entered into a two-year marketing agreement,
whereby the Company is to pay a commission of 10% of gross receipts on sales
from customers introduced to the Company by the consultant, subject to certain
requirements. In relation to this agreement, the Company must grant to the
consultants five-year options to purchase up to 150,000 shares of the Company's
common stock upon the attainment of customers at an exercise price of $0.75 per
share, vesting according to the achievement of certain levels of gross receipts.
The agreement automatically renews after the initial two-year term. As of
December 31, 2002, the consultant had not produced any sales. Therefore, options
had not been issued.
On May 6, 2002, the Company entered into a one-year finder's and advisory
agreement, whereby the finder is to seek businesses that are consistent with the
Company's business and strategic plans or to introduce the Company to investors.
The fees paid to the finder for finding investors to fund the Company are based
upon certain percentages, ranging from 2% to 10%, plus unaccountable expenses,
depending on the amount funded by the investors. In addition, 10% of the
transaction value will be paid in cashless warrants. If the finder arranges a
credit line or other types of debt placement, the fees paid to the finder will
be 2% of the total debt placement. If the finder introduces a business or entity
and the Company engages in a merge-type transaction or other similar
transactions, the fees paid to the finder are based upon certain percentages,
ranging from 3% to 7%, depending on the transaction value. In addition, 10% of
the transaction value will be paid in cashless warrants. This agreement is
automatically renewed after the initial one-year term. As of December 31, 2002,
amounts were not paid to the finder.
73
On June 10, 2002, the Company entered into a one-year finder's fee agreement,
whereby the Company is to pay the finder 5% of the gross revenues generated from
a commercial transaction other than financing a merger, or some other form of
business combination. For every $100,000 in gross revenues that are generated by
the finder, the Company will issue warrants to the finder to purchase 5,000
shares of common stock, which will be exercisable immediately, at the then
current market price on a cashless basis, subject to certain limitations. As of
December 31, 2002, no warrants had been issued to the finder.
In November 2002, the Company entered into a one-year consulting agreement with
a third party in exchange for a fixed monthly fee. In addition, the Company must
issue to the consultant $100,000 worth of common stock as a commencement bonus.
The per share price of the Company's common stock was $0.10 on the date services
were first provided by the consultant. Therefore, the Company is committed to
issue 1,000,000 shares of common stock as of December 31, 2002. Furthermore, the
contract calls for the issuance to the consultant of options to purchase
1,200,000 shares of common stock. Subsequent to December 31, 2002, this
agreement was terminated, and the options were canceled. These stock options are
not included in the stock options outstanding at December 31, 2002.
Limitation of Liability and Indemnification Matters
NutraStar's Restated Articles of Incorporation provide that it will indemnify
its officers and directors, employees and agents and former officers, directors,
employees and agents unless such person shall have been adjudged to be liable to
the corporation in the performance of that person's duty to the corporation or
its shareholders. This indemnification includes expenses, including attorneys'
fees, judgments, fines, and amounts paid in settlement actually and reasonably
incurred by these individuals in connection with such action, suit, or
proceeding, including any appeal thereof, subject to the qualifications
contained in California law as it now exists. Expenses, including attorneys'
fees, incurred in defending a civil or criminal action, suit, or proceeding will
be paid by NutraStar in advance of the final disposition of such action, suit,
or proceeding upon receipt of an undertaking by or on behalf of the director,
officer, employee or agent to repay such amount, if it shall ultimately be
determined that he or she is not entitled to be indemnified by NutraStar. This
indemnification will continue as to a person who has ceased to be a director,
officer, employee or agent, and will benefit their heirs, executors, and
administrators. These indemnification rights are not deemed exclusive of any
other rights to which any such person may otherwise be entitled apart from the
bylaws. California law generally provides that a corporation shall have the
power to indemnify persons if they acted in good faith in a manner reasonably
believed to be in the best interests of the corporation and, with respect to any
criminal action or proceeding, had no reasonable cause to believe the conduct
was unlawful. In the event any such person is judged liable to the corporation
or its shareholders, this indemnification will apply only if approved by the
court in which the action was pending. Any other indemnification shall be made
only after the determination by NutraStar's Board of Directors, excluding any
directors who were party to such action, by independent legal counsel in a
written opinion, or by a majority vote of shareholders, excluding any
shareholders who were parties to such action, to provide such indemnification.
74
Insofar as indemnification for liabilities arising under the Securities Act of
1993 (the "Securities Act") may be permitted to directors, officers and
controlling persons of the small business issuer pursuant to the foregoing
provisions, or otherwise, the small business issuer has been advised that in the
opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Securities Act and is, therefore,
enforceable. .
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
The following table sets forth the number of shares of the Company's
Common Stock beneficially owned as of March 1, 2003 by, (i) each executive
officer and director of the Company; (ii) all executive officers and directors
of the Company as a group; and (iii) owners of more than 5% of the Company's
Common Stock.
------------------------------ ---------------- ------------------- -----------
Name and Address of Position Number of Shares Percent
Beneficial Owner Beneficially Owned
------------------------------ ---------------- ------------------- -----------
Officers and Directors
------------------------------ ---------------- ------------------- -----------
Patricia McPeak Chairman and CEO 13,470,100(1) 51.7%
1261 Hawk's Flight Court
El Dorado Hills, CA 95762
------------------------------ ---------------- ------------------- -----------
Edward Newton Vice President, 304,124(2) 1.2%
1261 Hawk's Flight Court Secretary
El Dorado Hills, CA 95762
------------------------------ ---------------- ------------------- -----------
James Kluber CFO -0- *
1261 Hawk's Flight Court
El Dorado Hills, CA 95762
------------------------------ ---------------- ------------------- -----------
All officers and directors as 13,774,224 52.9%
a group (3 individuals)
------------------------------ ---------------- ------------------- -----------
__________________________________
(1) Amount includes 5,764 shares issuable under stock options exercisable within
60 days of March 1, 2003 and 300,000 shares of Series A Preferred Stock
convertible into 300,000 shares of common stock. Dorothy Hanks, Ms. McPeak's
mother, owns 50,000 shares of NutraStar's common stock, of which Ms. McPeak
disclaims any beneficial ownership.
(2) Amount represents shares issuable under stock options exercisable within 60
days of March 1, 2003.
75
Equity Compensation Plan Information
------------------------------- ---------------------------- ---------------------------- ----------------------------
Plan Category Number of securities to be Weighted-average exercise Number of securities
issued upon exercise of price of outstanding remaining available for
outstanding options, options, warrants and right future issuance under
warrants and rights equity compensation plans
(excluding securities
reflected in column
(a))
(a) (b) (c)
------------------------------- ---------------------------- ---------------------------- ----------------------------
Equity compensation plans
approved by security holders -0- N/A -0-
------------------------------- ---------------------------- ---------------------------- ----------------------------
Equity compensation plans not
approved by security holders 1,090,564 $0.41 -0-
------------------------------- ---------------------------- ---------------------------- ----------------------------
Total 1,090,564 $0.41 -0-
------------------------------- ---------------------------- ---------------------------- ----------------------------
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Distribution Agreement with The RiceX Company
Patricia McPeak, NutraStar's Chief Executive Officer, a director, and a
principal shareholder, is a co-founder, a principal shareholder, and the former
President and a former director of RiceX, and Daniel L. McPeak, her husband, is
a co-founder, the current Chairman of the Board and Chief Executive Officer, and
a principal shareholder of RiceX. See "Business - Product Supply."
On December 12, 2001, NTI entered into a revised 15-year agreement with RiceX to
be the exclusive distributor of rice solubles and rice bran fiber concentrate in
the United States and to have the exclusive rights to various patents and
trademarks owned by RiceX. The exclusivity provisions of this agreement were
terminated on July 9, 2002. However, the exclusive rights to various patents and
trademarks owned by RiceX continue to be held by NutraStar pursuant to a
separate license agreement. At December 31, 2002, NutraStar recorded patents and
licenses in the net amount of $48,748 related to these exclusive rights.
In conjunction with the above agreement, RiceX cancelled certain indebtedness
owed by NTI in exchange for 130,000 shares of Series A preferred stock and
payment of $41,335 in interest. On January 15, 2002, RiceX and NutraStar entered
into a Put/Call Agreement whereby RiceX can require NutraStar to repurchase the
130,000 shares of Series A preferred stock after July 15, 2002 in exchange for
$130,000. NutraStar may also voluntarily repurchase the 130,000 shares of Series
A preferred stock for $130,000 plus any accrued dividends thereon if NutraStar
desires and is able to do so.
76
During the year ended December 31, 2002, NutraStar recorded no commissions
revenue related to sales made by RiceX to customers of NutraStar. Purchases from
RiceX were $441,143 or 93.3% of total purchases and $471,126 or 20% of total
purchases for the years ended December 31, 2002 and 2001, respectively.
Loans From Officer and Related Parties
During the year ended December 31, 2001, NutraStar issued 300,000 Series A
preferred shares to Patricia M. McPeak, Chairwoman and CEO in exchange for the
cancellation of $300,000 of convertible promissory notes owed to her. This
exchange was made at the then fair market value of $1.00 per share of Series A
preferred.
During the year ended December 31, 2001, NutraStar entered into a
non-interest-bearing loan agreement with Patricia McPeak, the CEO of NutraStar.
Related to this agreement, NutraStar recorded a Due to Officer in the amount of
$16,456 at December 31, 2002. During the year ended December 31, 2002
NutraStar issued a notes payable to Patricia McPeak aggregating $175,800 which
bear interest at 10% per annum and are payable on demand.
On November 10, 2002 NutraStar borrowed $5,000 from an individual represented by
a note payable bearing interests of 10% per annum and due on demand.
During the year ended December 31, 2001, certain operating expenses of NTI
totaling $111,313 were paid by RiceX. NutraStar reimbursed these expenses, and
at December 31, 2002, there were no amounts owed to RiceX.
Lease with RiceX
NutraStar leases its principal office space from RiceX pursuant to a five year
sublease agreement which expires September 30, 2006. Current monthly lease
payments are $5,358. Management believes the terms of this sublease are at least
as favorable as terms which could have been obtained from an unaffiliated third
party.
Promoters of NutraStar
Patricia McPeak and Edward Newton could be deemed promoters of NTI and now
NutraStar. Ms. McPeak is the CEO of NutraStar and NTI and is the founder of NTI.
She owns 13,164,336 shares of NutraStar common stock which amount does not
include convertible preferred stock and exercisable options held by Ms. McPeak.
Mr. Newton is a Vice President and Director of NutraStar and NTI and is the
Corporate Secretary of NTI. Mr. Newton has been an officer and former Director
of NTI since its formation.
77
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 2(1) Plan and Agreement of Exchange.
Exhibit 3.1(2) Restated Articles of Incorporation filed March 28, 2001.
Exhibit 3.2(2) Bylaws
Exhibit 3.3(5) Restated and Amended Articles of Incorporation dated December
11, 2001.
Exhibit 10.1(5) Executive Employment Agreement between NutraStar Incorporated
and Patricia McPeak.
Exhibit 10.2(5) Executive Employment Agreement for Edward Newton.
Exhibit 16.1(3) Letter on change in certifying accountant dated March 13,
2002.
Exhibit 16.2(4) Updated letter on change in certifying accountant dated
March 25, 2002.
Exhibit 16.3(4) Letter on change in certifying accountant dated March 21,
2002.
Exhibit 99.1 Certification by CEO pursuant to Sections 302 of the
Sarbanes-Oxley Act of 2002.
Exhibit 99.2 Certification by CFO pursuant to Sections 302 of the
Sarbanes-Oxley Act of 2002.
Exhibit 99.3 Certification pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
--------------------
(1) Incorporated by reference to exhibits previously filed on Form 8-K filed on
November 19, 2001. (2) Incorporated by reference to exhibits previously filed on
Form 10-SB filed on April 19, 2001. (3) Incorporated by reference to exhibits
previously filed on Form 8-K filed on March 14, 2002. (4) Incorporated by
reference to exhibits previously filed on Form 8-K/A filed on March 25, 2001.
(5) Incorporated by reference to exhibits previously filed on Form 10-KSB filed
on April 16, 2002.
(b) Reports on Form 8-K filed during the quarter ended December 31, 2002: None
ITEM 14. CONTROLS AND PROCEDURES
Within 90 days prior to the date of this Form 10-KSB, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Company's President and Chief Executive Officer along
with the Company's Chief financial Officer, of the effectiveness of the design
and operation of the Company's disclosure controls and procedures pursuant to
Exchange Act Rule 13a-14. Based upon that evaluation, the Company's President
and Chief Executive Officer along with the Company's Chief Financial Officer
concluded that the Company's disclosure controls and procedures are effective in
timely alerting them to material information relating to the Company required to
be included in this Form 10-KSB.
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There have been no significant changes in the Company's internal controls or in
other factors, which could significantly affect the internal controls subsequent
to the date the Company carried out its evaluation.
79
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.
NUTRASTAR INCORPORATED
Date: April 14, 2003 By /s/ Patricia McPeak
----------------------
Patricia McPeak
President and Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Patricia McPeak
--------------------
Patricia McPeak Chairman of the Board and April 14, 2003
President
/s/ Edward G. Newton
--------------------
Edward G. Newton Secretary April 14, 2003
/s/ James W. Kluber
--------------------
James W. Kluber Chief Financial Officer April 14, 2003
(Principal Financial and Accounting Officer)
80