-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, GhZgxMTKWlilPB4DlxensDba4XjhhkFr9sc0gNB1JGgtiSo04Wi2fGRuMp5ngT2y 3NvwiUnuTcD59kOE5Did3g== 0000950147-00-000492.txt : 20000331 0000950147-00-000492.hdr.sgml : 20000331 ACCESSION NUMBER: 0000950147-00-000492 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000330 FILER: COMPANY DATA: COMPANY CONFORMED NAME: GUMTECH INTERNATIONAL INC \UT\ CENTRAL INDEX KEY: 0001006195 STANDARD INDUSTRIAL CLASSIFICATION: SUGAR & CONFECTIONERY PRODUCTS [2060] IRS NUMBER: 870482806 STATE OF INCORPORATION: UT FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-27646 FILM NUMBER: 588060 BUSINESS ADDRESS: STREET 1: 246 EAST WATKINS STREET CITY: PHOENIX STATE: AZ ZIP: 85004 BUSINESS PHONE: 6022521617 MAIL ADDRESS: STREET 1: 246 EAST WATKINS STREET CITY: PHOENIX STATE: AZ ZIP: 85004 10-K 1 ANNUAL RPT FOR THE FISCAL YEAR ENDED 12/31/99 ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549-1004 ---------- FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1999 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File No. 0-27646 GUM TECH INTERNATIONAL, INC. (Name of small business issuer in its charter) UTAH 87-0482806 (State or Other Jurisdiction (I.R.S. Employer of Incorporation or Organization) Identification No.) 246 East Watkins Street Phoenix, AZ 85004 (602) 252-1617 (Address of principal executive offices, Issuer's Telephone Number, Including Area Code) Securities registered pursuant to Section 12(g) of the Act: No Par Value Common Stock Nasdaq National Market Check whether the Registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES [X NO [ ] Check if there is no disclosure contained herein of delinquent filers in response to Item 405 of Regulation S-B, and will not be contained, to the best of the Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] As of March 24, 2000, 8,866,017 shares of the Registrant's Common Stock were outstanding. As of March 24, 2000, the market value of the Registrant's Common Stock, excluding shares held by affiliates, was $154.4 million based upon a closing bid price of $17.6875 per share of Common Stock on the Nasdaq National Market. ================================================================================ TABLE OF CONTENTS Page ---- PART I...................................................................... 1 ITEM 1. BUSINESS........................................................ 1 ITEM 2. DESCRIPTION OF PROPERTY......................................... 5 ITEM 3. LEGAL PROCEEDINGS............................................... 5 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............. 6 PART II..................................................................... 7 ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS........ 7 ITEM 6. SELECTED FINANCIAL DATA......................................... 8 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS....................................... 9 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA..................... 17 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE........................................ 17 PART III.................................................................... 17 ITEM 10. INFORMATION CONCERNING DIRECTORS, NOMINEES, AND EXECUTIVE OFFICERS........................................................ 17 ITEM 11. EXECUTIVE COMPENSATION.......................................... 19 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS................. 21 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.................. 22 PART IV..................................................................... 22 ITEM 14. EXHIBITS, LIST AND REPORTS ON FORM 8-K.......................... 22 Unless otherwise indicated in this filing, "Gum Tech," "us," "we," "our" and similar terms refer to Gum Tech International, Inc. and its subsidiaries. The Gum Tech name and logo and Zicam are trademarks of Gum Tech International, Inc. Other brands, names and trademarks contained in this filing are the property of their respective owners. -i- PART I ITEM 1. BUSINESS INTRODUCTION GUM OPERATIONS We develop and manufacture specialty chewing gum products for branded and private label customers, as well as products marketed under our own brand. Specialty chewing gums include vitamins, herbals, and active over-the-counter drug ingredients formulated to provide specific health-related benefits to the user. We manufacture and continue to develop specialty chewing gums that are formulated to: * promote oral hygiene and breath freshness; * promote weight management; * reduce pain; * relieve indigestion; * contribute to energy and endurance; * reduce the risk of osteoporosis; and * reduce tobacco cravings. In 1998, following a significant management restructuring, we changed our principal strategy from developing, manufacturing, and distributing our own branded and private label gum products to developing, manufacturing, and packaging specialty gum products for sale and distribution by major branded and private label customers that we believe have the capital resources and distribution capability to promote and market specialty chewing gums on a large national and international scale. We adopted this change in strategy primarily because we did not have the financial resources, name recognition, and distribution capability to successfully market and distribute our gums on a wide-scale. Most of our sales from gum operations are currently attributable to products developed, manufactured, and packaged by us for marketing and sale by five consumer products companies: Breath Asure, Inc., Ranir/DCP, Inc., Heritage Consumer Products, Herbalife International, Inc., and Pharma-Green Ltd. We are also actively involved in discussions with other major consumer product companies regarding the development and formulation of a variety of additional specialty chewing gum products. In December 1999, we reached an agreement in principle to form a joint venture with Swedish Match AB. The joint venture will be organized as an independent company for the purpose of developing, manufacturing, marketing, and distributing non-tobacco nicotine products worldwide. Under the terms of this agreement, Swedish Match will own 51% and we will own 49% of the joint venture. We will contribute intellectual property related to chewing gum products containing nicotine and Swedish Match will contribute $10 million in start-up capital. Swedish Match, based in Stockholm, Sweden, is an international group which develops, manufactures, markets, and distributes, through its own subsidiaries worldwide, a broad range of tobacco products within the OTP (Other Tobacco Products) category, with smokeless tobacco as its core business along with cigars and pipe tobacco, as well as matches and lighters. Swedish Match's extensive range of products is sold in 140 countries, with annual sales totaling approximately $1 billion. 1 ZICAM OPERATIONS Through a joint venture with BioDelivery Technologies, Inc. (formerly Gel Tech, Inc.), a California corporation, we are engaged in the manufacture, marketing, and distribution of health-related products using a patent-pending, nasal gel technology. The initial product marketed by this joint venture is Zicam, a nasal gel formula that has been formulated to reduce the severity and duration of the common cold. An initial internal study and a subsequent independent clinical study of Zicam have indicated that use of Zicam significantly reduces the duration and severity of the common cold when taken at the onset of a cold. To conduct clinical studies and develop, manufacture, and market Zicam, we entered into an operating agreement with BioDelivery Technologies under which both parties transferred their respective interests in the patent rights to the nasal gel technology in exchange for membership interests in Gel Tech LLC, an Arizona limited liability company. We have a 60% interest in the capital and profits of the joint venture and parties affiliated with BioDelivery Technologies collectively own a 40% interest in the capital and profits of the joint venture. In addition, as contemplated by the operating agreement, we contributed $3.5 million to the joint venture. We were incorporated in Utah in 1991. Our principal executive offices are located at 246 E. Watkins Street, Phoenix, Arizona and our telephone number is (602) 252-1617. STRATEGY We are pursuing the following business strategies: * CONTINUE TO RESEARCH AND DEVELOP NEW SPECIALTY GUM PRODUCTS. We possess considerable gum formulation expertise, and together with our existing and potential customers, are developing new products in the specialty chewing gum market. * PARTNER WITH MAJOR CONSUMER PRODUCT COMPANIES TO INCREASE SALES. Since early 1998, we have pursued a strategy of partnering with major consumer products companies that have the financial resources and distribution capability to market and distribute specialty chewing gum products on a national and international scale. Most recently in December 1999, we announced a joint venture with Swedish Match to produce, market and distribute nicotine products throughout the world. * IMPROVE MANUFACTURING OPERATIONS TO ENHANCE EFFICIENCY AND INCREASE PROFIT MARGINS. In 1998 and 1999, we expanded our operations, including adding personnel and additional packaging and coating equipment, to meet expected increases in demand for several gum products. * CONTINUE TO EFFECTIVELY MARKET GUM TECH BRANDED PRODUCTS. While we have changed our principal strategy to focus on contract manufacturing for others, we continue to support several of our own branded products and believe that these products and related marketing efforts provide a showcase for new product concepts and demonstrate our expertise in developing new gum formulations. * EFFECTIVELY MANAGE THE DEVELOPMENT AND GROWTH OF THE GEL TECH LLC JOINT VENTURE AND THE MANUFACTURING AND MARKETING OF ZICAM. Zicam is a new product that we believe represents an opportunity for substantial growth in our revenue. In order to realize this growth in revenue, however, we must effectively manage the development and growth of our joint venture with BioDelivery Technologies and Zicam must achieve significant market acceptance. In addition, we are exploring product line extensions that would utilize GelTech's nasal gel technology. 2 PRODUCT INFORMATION The table below describes certain information related to specific chewing gum products currently manufactured by us for other consumer products companies.
Product Intended Benefits to User Market Distributed By ------- ------------------------- ------ -------------- Breath Asure Dental Gum(TM) Promotes oral hygiene and breath freshness Oral Care Breath Asure Private label dental gums Promote oral hygiene and breath freshness Oral Care Ranir/DCP AcuTrim(R) Promotes weight management OTC drug Heritage Consumer Products Aspergum(R) Pain relief OTC drug Heritage Consumer Products Chooz Antacid and prevents osteoporosis OTC drug Heritage Consumer Products Herbalife NRG(R) Improves energy & endurance Dietary supplement Herbalife Herbalife Chew Slim(R) Promotes weight management Dietary supplement Herbalife Pharma-Green (seven varieties) Various Dietary supplement Pharma-Green Ltd. Brain Gum Improves brain function Dietary supplement KR Research, Inc.
MANUFACTURING AND PACKAGING We manufacture all of our gum products, including those marketed and distributed by others. The manufacture of specialty chewing gums involves: * storing bulk raw materials and "fine" raw materials, such as flavor, colors and active ingredients; * producing and mixing the gum base in large stainless steel mixers; * extruding the gum into selected sizes and shapes; * coating the gum, generally with a sugarless coating solution; * branding the product if required; * packaging the gum in blister packages; and * packaging the blisters, according to customer specifications, for shipment. All of our gum products contain one or more active ingredients which are added either to the gum center in the mixing stage or included in the coating solution. Prior to commencing production of the chewing gum, we record lot numbers for all ingredients, examine and file certificates of ingredients, perform quality control tests, and sanitize equipment and utensils. Our personnel conduct additional quality control tests throughout the manufacturing process. We manufacture our products in compliance with current good manufacturing procedures requiring written standard operating procedures. Zicam is currently manufactured and packaged by Botanical Laboratories, Inc. of Ferndale, Washington in accordance with current good manufacturing processes. The finished product is shipped to our warehouse facility in Phoenix for warehousing and shipment to customers. COMPETITION Although the specialty gum market is emerging as a market category distinct from the traditional, established chewing gum market, Gum Tech and the companies to whom we sell face significant competition in each of the four categories in which we operate. These categories include oral care products, OTC drugs, 3 smoking cessation products, and dietary supplements. In the oral care products market, we manufacture products for Breath Asure and Ranir/DCP, which compete directly with Arm & Hammer dental gum, Trident Advantage, and V-6 dental gum. We manufacture OTC drug-related gum products, including Aspergum, an analgesic, Chooz, an antacid/calcium supplement, and AcuTrim, a dietary gum. Each of these products competes generally with analgesics, antacids, and dietary products produced and marketed by major consumer products companies. We will be pursuing opportunities in the smoking cessation market through our joint venture with Swedish Match, which is currently dominated by the Nicorette product marketed by Pharmacia and Upjohn. In the dietary supplement market, our various gum products compete with a large number of non-gum dietary supplement products. Competitive factors in the chewing gum industry include price, flavor, and name recognition resulting from media advertising. We historically have not had the capital resources, marketing and distribution networks, product name recognition, and advertising budget to produce or introduce chewing gum brands that could compete effectively with the multi-national chewing gum manufacturers and large specialty chewing gum marketers. Accordingly, we have adopted a strategy of partnering with major branded and private label customers that possess the resources and capabilities needed to market and distribute gum products on a wide-scale. We face significant competition from a large number of major drug companies involved in selling a variety of cough and cold remedies that compete directly with Zicam. Most of these competitors have greater name recognition, more established brands, wider distribution capabilities and greater financial and marketing resources than we do. FDA AND OTHER GOVERNMENT REGULATION We are subject to various Federal, state and local laws affecting our business. All of our chewing gum and Zicam products are subject to regulation by the FDA, including regulations with respect to labeling of products, approval of ingredients in products, claims made regarding the products, and disclosure of product ingredients. In addition, some of our products are considered "drugs." Consequently, manufacture of these products must comply with "good manufacturing practices" mandated by the FDA, which prescribes specific requirements and procedures for the manufacture of FDA-regulated drug products. If we fail to comply with these requirements and procedures, the FDA has the right to restrict the sale of or remove such products from the market. We believe that all of our products comply with all regulatory requirements including the FDA manufacturing standards and practices for drug products. Our advertising claims made with respect to all of our products are also subject to the jurisdiction of the FDA and the Federal Trade Commission. In both cases, we are required to obtain scientific data to support any advertising or labeling of health claims we make concerning our products. In addition, our chewing gum manufacturing facility and the facilities of Botanical Laboratories are subject to regulation by various governmental agencies including state and local licensing, zoning, land use, construction and environmental regulations and various health, sanitation, safety and fire codes and standards. Suspension of certain licenses or approvals, due to failure to comply with applicable regulations or otherwise, could interrupt our manufacturing operations. We are also subject to federal and state laws establishing minimum wages and regulating overtime and working conditions. 4 TRADEMARKS, TRADE NAMES, AND PROPRIETARY RIGHTS We own a perpetual non-exclusive license to use Microdent, a plaque-reducing agent, in our coated chewing gum products. Microdent is the critical ingredient in the chewing gums that we manufacture and package for Breath Asure and Ranir/DCP. We routinely seek trademark protection from the United States Patent Office ("USPO") and from similar agencies in foreign countries for chewing gum brands and Zicam. Despite these protections, we may not be able to successfully defend any trademarks granted to us against claims from or use by competitors. In addition, trademark applications may not be approved by the USPO or any similar foreign agency. We consider some of our chewing gum formulations and processes to be proprietary in nature and rely upon a combination of nondisclosure agreements, other contractual restrictions, and trade secrecy laws to protect this proprietary information. Despite these precautions, these steps may not be adequate to prevent misappropriation of our proprietary information and our competitors could independently develop chewing gum formulations and processes that are substantially equivalent or superior to those that we develop. EMPLOYEES As of December 31, 1999, our gum operations employed 75 individuals, including three executive officers, 56 manufacturing and warehouse personnel, four research and development personnel, and 12 administrative/sales personnel. As of December 31, 1999, Gel Tech employed six executive and administrative personnel. ITEM 2. DESCRIPTION OF PROPERTY We lease an approximately 28,000 square foot building for our principal executive offices and chewing gum manufacturing facilities at 246 East Watkins, Phoenix, Arizona 85004. Our ten-year lease (with two three-year renewal options) for this building expires on December 2005. The monthly rental expense for this property is approximately $12,000. In September 1998, we leased an additional 31,000 square foot building located near our principal executive offices and manufacturing facility to house our warehouse and packaging operations. This lease provides for monthly rent of approximately $12,000 and a five year term, subject to a five year renewal option. ITEM 3. LEGAL PROCEEDINGS LITIGATION On October 16, 1996, a lawsuit was filed against us and other parties in the United States District Court for the Central District of California, CV-95-9784. The action is entitled GCN Products, Inc. vs. Roy Kelly, et al. The complaint, as it relates to us, principally alleged that we engaged in unlawful rebates, appropriations and overcharges, commercial bribery, fraud and unjust enrichment. On September 4, 1998, the court granted a motion for summary judgment in our favor, and dismissed the plaintiff's claims against us and our current and former directors. The ruling remains subject to appeal. On January 27, 1999, an action was filed against us and certain other parties in the Superior Court of the State of Arizona in and for the County of Maricopa, CV-99-01528, by Paul F. Janssens-Lens. The complaint alleges intentional interference with business relations, intentional misrepresentation, negligent misrepresentation, securities fraud, and consumer fraud. The plaintiff seeks compensatory damages of $720,000, unspecified punitive damages, and attorneys' fees and costs. We deny the plaintiff's allegations and intend to vigorously defend this action. 5 On June 2, 1999, we filed a complaint in the Superior Court of Maricopa County, Arizona against DJ Ltd. ("DJ"), CIV 99-1136-PHX-PGR (D. Ariz.). Our complaint sought a declaratory judgment that DJ was not owed any fee under an agreement entered into between the parties pursuant to which DJ was to act as our financial advisor. DJ removed the case to the United States District Court for the District of Arizona and filed a counterclaim. In its counterclaim, DJ alleges that we breached the contract between the parties and that Gum Tech has been unjustly enriched. DJ seeks damages in the amount of $480,000, plus costs, expenses and warrants to purchase 50,000 shares of Gum Tech common stock. DJ also seeks a declaratory judgment confirming its version of its rights under the agreement. On October 21, 1999, an action was filed against us in the Superior Court of the State of California in and for the County of Los Angeles, case number BC 218 878, by International Interest Group, Inc. ("IIG") The complaint alleges the breach of an alleged oral finder's fee agreement between the parties relating to the introduction of certain individuals associated with BioDelivery Technology to a former chief executive officer of Gum Tech in 1996. BioDelivery Technology and Gum Tech formed a joint venture in 1999 to manufacture, market and distribute Zicam. The complaint seeks unspecified general contract damages, declaratory relief, and an accounting. We removed the action to the United States District Court for the Central District of California on February 2, 2000. We deny the existence, as well as the validity, of the alleged oral agreement, and intend to vigorously defend the action. On November 9, 1999, The Quigley Corporation commenced a civil action against Gum Tech, Inc., Gel-Tech Industries, Inc., and Gel-Tech, L.L.C. in the United States District Court for the Eastern District of Pennsylvania. The complaint alleges infringement of a patent by the defendants' use of Zicam. The complaint seeks compensatory damages and injunctive relief. Each of the defendants denies infringement of the patent and alleges that the patent is invalid. The defendants filed a motion for summary judgment on January 21, 2000, seeking to dismiss the lawsuit as a matter of law. This motion was denied on March 9, 2000. Quigley filed a motion for preliminary injunction on February 25, 2000, seeking an injunction against the defendants regarding future sales by Zicam. A hearing on the motion is scheduled to be heard by the court on March 31, 2000. The defendants assert that the claim by Quigley is totally without merit and intend to continue vigorously defending this lawsuit. We are not involved as a party in any other legal proceeding other than various claims and lawsuits arising in the normal course of business, none of which, in the opinion of our management, is individually or collectively material to our business. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. 6 PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Our common stock has traded on the Nasdaq National Market under the symbol "GUMM" since April 24, 1996. The following table sets forth for the quarters indicated the range of high and low closing prices of the Company's common stock as reported by the Nasdaq National Market, but does not include retail markup, markdown or commissions. Market Price -------------------- High Low -------- -------- FISCAL YEAR 1998 First Quarter ...................................... $ 7.3750 $ 4.8125 Second Quarter ..................................... $ 7.5625 $ 5.2500 Third Quarter ...................................... $10.7500 $ 7.1875 Fourth Quarter ..................................... $ 8.0000 $ 5.4375 FISCAL YEAR 1999 First Quarter ...................................... $14.6719 $ 8.3750 Second Quarter ..................................... $11.8750 $ 9.5625 Third Quarter ...................................... $13.5625 $10.7500 Fourth Quarter ..................................... $20.3750 $12.5000 FISCAL YEAR 2000 First Quarter (through March 24, 1999) ............. $33.8750 $16.3125 As of March 20, 1999, Gum Tech had approximately 5,482 record and beneficial stockholders. DIVIDEND POLICY We have paid only limited cash dividends on our common stock in the past and intend to retain earnings, if any, for use in the operation and expansion of the business. The amount of future dividends, if any, will be determined by the board of directors based upon earnings, financial condition, capital requirements and other conditions. 7 ITEM 6. SELECTED FINANCIAL DATA The following sets forth selected historical financial data for Gum Tech for each of the years in the five-year period ended December 31, 1999. The selected annual historical statement of income and balance sheet data is derived from Gum Tech's financial statements audited by independent auditors. For additional information, see the financial statements of Gum Tech and the notes thereto included elsewhere in this report. The following table should be read in conjunction with Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" and is qualified by reference thereto and to Gum Tech's financial statements and notes thereto.
Year -------------------------------------------------------- (in thousands, except per share amounts) 1999 1998 1997 1996 1995 -------- -------- -------- -------- -------- Net sales $ 15,500 $ 5,273 $ 3,777 $ 3,116 $ 4,344 Net income (loss) applicable to common stock $ (1,012) $ (6,261) $ (5,399) $ (3,388) $ 497 Net income (loss) per share of common stock $ (0.14) $ (0.97) $ (1.02) $ (0.77) $ 0.11 Dividends per share $ -- $ -- $ -- $ -- $ 0.01 Shares outstanding at year end 8,321 6,858 5,856 4,949 3,437 Total assets $ 20,028 $ 7,900 $ 9,685 $ 7,458 $ 4,592 Long term obligations $ 2,241 $ 2,380 $ 3,785 $ 1,488 $ 2,507 Stockholders' equity $ 12,702 $ 3,718 $ 4,673 $ 5,283 $ 1,623
8 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW Gum Tech develops and manufactures specialty chewing gum products for branded and private label customers, as well as products marketed under its own brand labels. Specialty chewing gums include vitamins, herbals and active over-the-counter drug ingredients formulated to provide specific health-related benefits to the user. Gum Tech currently targeted four market segments: oral care, smoking cessation, dietary supplement, and over-the-counter (OTC) drug. A substantial majority of Gum Tech's sales from its gum operations currently are attributable to products developed, manufactured and packaged by Gum Tech for marketing and sale by five branded and private label consumer products companies. In January 1999, Gum Tech entered into a joint venture with BioDelivery Technologies, Inc. to manufacture, market and distribute Zicam, a nasal gel formula. Under an operating agreement signed on May 6, 1999, Gum Tech and BioDelivery Technologies transferred their respective interests in the patent rights to the nasal gel technology used in Zicam in exchange for membership interests in Gel Tech LLC, an Arizona limited liability company. Gum Tech has a 60% interest in the capital and profits of the joint venture and has provided $3.5 million of capital to the joint venture. Gum Tech reports financial results of Gel Tech LLC on a consolidated basis, but identifies certain information by its two business segments--chewing gum operations and Zicam operations. RESULTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 1999 COMPARED TO THE YEAR ENDED DECEMBER 31, 1998 The following table details certain financial information for our chewing gum and Zicam operations for the year ended December 31, 1999: Chewing Gum Zicam Consolidated ----------- ----------- ----------- Net sales $ 5,910,221 $ 9,589,803 $15,500,024 Cost of sales 4,806,544 2,534,818 7,341,362 ----------- ----------- ----------- Gross profit 1,103,677 7,054,985 8,158,662 Operating expenses 2,277,263 3,428,227 5,705,490 Research and development 422,555 241,893 664,448 ----------- ----------- ----------- Income (Loss) from operations (1,596,141) 3,384,865 1,788,724 Interest and other income 73,136 50,428 123,564 Interest expense 1,311,792 0 1,311,792 ----------- ----------- ----------- Income (loss) before income tax $(2,834,797) $ 3,435,293 $ 600,496 ----------- ----------- ----------- 9 CHEWING GUM OPERATIONS Certain information is set forth below for our chewing gum operations expressed in dollars and as a percentage of net sales for the periods indicated: Year Ended December 31 ------------------------------------------ 1999 1998 ------------------- ------------------- Net sales $ 5,910,221 100% $ 5,272,547 100% Cost of sales 4,806,544 81 4,357,010 83 ----------- ----- ----------- ----- Gross profit 1,103,677 19 915,537 17 Operating expenses 2,277,263 39 6,164,022 117 Research and development 422,555 7 667,067 12 ----------- ----- ----------- ----- Income (Loss) from operations (1,596,141) (27) (5,915,552) (112) Interest and other income 73,136 1 127,947 2 Interest expense 1,311,792 22 473,811 9 Provision (benefit) for income taxes -- -- -- -- ----------- ----- ----------- ----- Net income (loss) $(2,834,797) (48)% $(6,261,416) (119)% =========== ===== =========== ===== NET SALES. Net sales increased to approximately $5.9 million for the 12 months ended December 31, 1999, or 12% above the prior year. This increase reflects the addition of several new customers and/or products in mid- to late 1998. Among these were Ranir DCP, Breath Asure, Heritage Consumer Products' AcuTrim(R) gum and Pharmagreen Ltd. Sales in the prior year largely reflect sales of Cigarest's smoking cessation gum, Herbalife's diet and energy gums, Aspergum(R) and Chooz(R) and initial deliveries of Breath Asure Dental Gum(TM). Although sales to our five principal gum customers have contributed significantly to our growth in sales over the past two years, we do not anticipate additional growth in sales to these customers in the coming year, and sales to these customers may in fact decline. We expect that any future growth in our chewing gum operations will result primarily from the addition of new contract relationships with new partners, including the recently announced relationship with Swedish Match. We cannot assure you, however, that we will be able to attract any new partners, or that any joint venture with any new partners will ultimately prove successful. COST OF SALES. Cost of sales increased to approximately $4.8 million, or approximately $450,000 above the prior year, due to the higher level of sales. GROSS PROFIT. Gross profit increased to $1.1 million reflecting both the higher level of sales and improvement in our manufacturing processes. OPERATING EXPENSES. Operating expenses declined by approximately $3.9 million from the 1998 level to $2.3 million in 1999. The amount for 1998 includes unusual one-time charges of $1,478,750 to reflect the cost of an extension of options to a former officer, $732,000 for options granted to another individual, and $618,230 representing a severance compensation expense. Exclusive of these charges, operating expenses in 1998 were $3,335,042, or approximately $1.06 million greater than the 1999 level. The reduction in normal recurring operating expenses in 1999 was principally due to a reduction in advertising, trade show and travel expense of $522,000 due to the change in corporate strategy in 1998, lower legal expenses of $157,000 due to costs associated with the management restructuring in early 1998, and the allocation of administrative and warehousing expenses to Gel Tech LLC of $167,000 in 1999. 10 INTEREST AND OTHER INCOME. Interest and other income decreased due to a lower cash balance. INTEREST EXPENSE. Interest expense increased from 1998 by $837,981 to approximately $1.3 million primarily due to interest charges associated with the Citadel financing in June 1999. Included in these amounts were a number of non-cash interest charges associated with this financing. This financing, together with the Company's outstanding term loan facility, were redeemed in full in the first quarter of 2000, which we anticipate will virtually eliminate interest expense in subsequent quarters. INCOME (LOSS) BEFORE PROVISION FOR INCOME TAXES AND MINORITY INTEREST. Net loss decreased by approximately $3.4 million primarily due to the substantial decrease in operating expenses offset in part by higher interest expense. Despite the anticipated reduction in interest charges, gum operations will continue to record a net loss in the future until sales of gum products increase. ZICAM OPERATIONS Zicam sales and operations began January 1, 1999. As a result, the financial results for Zicam operations cannot be compared to the prior period. For the year ended December 31, 1999, Zicam operations recorded net sales of approximately $9.6 million. The bulk of Zicam sales occurred late in the fourth quarter of 1999 after widespread national publicity in November 1999 resulted in unexpectedly high demand for this new product. Initially, production of Zicam could not be increased sufficiently to meet this high level of demand. Consequently, deliveries of Zicam were delayed. Due to the highly seasonal nature of cold remedies such as Zicam and a relatively short cold season, these delays limited our ability to realize the full potential of Zicam sales for the 1999-2000 cold season. Gross profit on Zicam for the 12 months ended December 31, 1999 was approximately $7.1 million, or 74% of net sales. Operating expenses of $3.4 million were recorded for this period, of which approximately $2.25 million was spent, or accrued for advertising, sales commissions, public relations and other sales expenses. Research and development expenses of $241,892 for this period largely reflect the cost of on-going clinical work associated with Zicam. Interest and other income largely reflects interest income associated with invested cash. Gel Tech did not have any debt outstanding during this period and consequently did not record any interest expense. 11 RESULTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 1998 COMPARED TO THE YEAR ENDED DECEMBER 31, 1997 The following table presents certain statement of operations information expressed in dollars and as a percentage of net sales for the periods indicated: Years Ended December 31 ------------------------------------------ 1998 1997 ------------------- ------------------- Net sales $ 5,272,547 100% $ 3,776,562 100% Cost of sales 4,357,010 83 4,197,777 (111) ----------- ----- ----------- ----- Gross profit 915,537 17 (421,215) (11) Operating expenses 6,164,022 117 3,881,238 103 Research & development 667,067 12 209,783 5 ----------- ----- ----------- ----- Income (Loss) from operations (5,915,552) (112) (4,512,236) (119) Interest and other income 127,947 2 204,220 5 Interest expense 473,811 9 1,090,618 29 Provision (benefit) for income taxes -- -- -- -- ----------- ----- ----------- ----- Net income (loss) $(6,261,416) (119)% $(5,398,634) (143)% =========== ===== =========== ===== NET SALES. Net sales for 1998 were $5.27 million, approximately 40% above the 1997 level. Sales in 1998 reflect the change in the Company's strategy early in the year to a focus on contract manufacturing whereas sales in 1997 largely reflect sales of Cigarrest, which the Company marketed, and sales of the Company's own gum products. Sales in 1998 included deliveries of diet and energy gums to Herbalife in the first half of the year, Aspergum (an analgesic gum), and Chooz (an antacid gum) in the second quarter, Breath Asure dental gum in the third quarter, and Ranir/DCP private label dental gum, Accutrim (a diet gum), seven different gums to Pharma-green and a dental gum to EcoDenT in the fourth quarter. COST OF SALES. Cost of sales increased to $4.4 million, approximately $159,000 above the 1997 level, primarily reflecting the increased level of sales. In 1997, the Company recorded sales under its barter agreements at a zero value with a cost of sales of $715,000. Adjusting for this cost, the cost of sales for 1997 was $3.5 million, or 92% of net sales. The improvement in the gross profit percentage from 8% in 1997 to 17% in 1998 is due to increased utilization of plant facilities resulting in lower per unit overhead costs and the efficiencies realized by producing larger quantities of the same gum. Both periods were impacted by sizable write-offs of obsolete inventory ($260,000 in 1998 and $350,000 in 1997). GROSS PROFIT. Gross profit for 1998 increased to $915,537 reflecting the higher level of sales and increased utilization of plant facilities. OPERATING EXPENSES. Operating expenses in 1998 were significantly impacted by one-time charges related to the management restructuring that occurred in early 1998 and continuing charges attributable to the Company's prior corporate strategy. These charges resulted from an extension of stock options to a former officer of the Company ($1.48 million) and an expense to reflect options owed to another individual ($732,000), both of which were non-cash charges, and severance compensation to certain corporate officers ($600,000). Excluding these items, operating expenses were $3.4 million, or $480,000 less than the 1997 level, which is primarily attributable to a decrease in advertising expenses. RESEARCH & DEVELOPMENT. Research & development expenses increased in 1998 to $667,067 from $209,783 in 1997 due to the introduction of more than 20 new gum products in 1998, including three that contained over-the-counter drugs. Research and development expenses include the cost of formulation, process and ingredient validation, and production scale-up costs of new products as well as costs of product concepts still under study. 12 INTEREST AND OTHER INCOME. Interest income declined in 1998 from 1997 due to a decrease in the Company's invested cash position during the year. INTEREST EXPENSE. Interest expense decreased due to the refinancing and restructuring of an equipment lease in late 1997 to a term loan and conversion into common stock of approximately $1.0 million in principal amount of the Company's convertible debt in the second half of 1998. NET INCOME (LOSS). The net loss for 1998 was $6.3 million compared to $5.4 million the prior year. Although the results for 1998 were negatively impacted by some significant one time charges, the Company continued to experience a sizable loss in 1998 due to insufficient sales to support the Company's overhead expenses. LIQUIDITY AND CAPITAL RESOURCES As of December 31, 1999, Gum Tech's working capital was approximately $12.5 million compared to $2.2 million at December 31, 1998. During the 12 months ended December 31, 1999, Gum Tech experienced a decrease in cash used by operating activities of approximately $3.2 million, versus $3.9 million the prior year. The decrease in cash for 1999 is largely attributable to the increase in accounts receivable primarily associated with sales of Zicam in the fourth quarter ($6.8 million) offset in part by the minority interest in earnings of consolidated affiliates and a provision for sales returns and allowances. Investing activities used $230,000 of cash for the year ended December 31, 1999 compared to $864,000 for the same period in 1998. The 1998 amount reflects expenditures to expand our gum operations. Financing activities provided approximately $8.5 million of cash for the year ended December 31, 1999 compared to $1.7 million in 1998. Approximately $5.5 million of the 1999 amount reflects net proceeds realized from the Citadel financing in June 1999. Details of the Citadel financing are contained in our Current Report on Form 8-K filed on June 9, 1999. Proceeds realized from the exercise of options and warrants contributed approximately $3.7 million versus $2.0 million in 1998. Gum Tech issued 249,867 shares of Common Stock to Citadel Investment Group in 1999 to redeem $2.0 million of Senior Secured Notes and $1.0 million of Series A Preferred Stock and issued an additional 193,447 shares of Common Stock in early 2000 to redeem the remaining $3.0 million of Citadel debt and preferred stock. FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS AND FINANCIAL CONDITION This report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including statements regarding our anticipated growth in business and future results of operations. These forward-looking statements are based on our expectations and are subject to a number of risks and uncertainties, many of which cannot be predicted or quantified and are beyond our control. Future events and actual results could differ materially from those set forth in, contemplated by, or underlying the forward-looking statements. Factors that could cause actual results to differ materially from our expectations include less than anticipated demand for our chewing gum or nasal gel products, such as Zicam, lack of market acceptance for or uncertainties concerning the efficacy of Zicam, fluctuations in seasonal demand for Zicam relative to the cold season, difficulties in increasing production to meet unexpectedly high demand in the short term, a decrease in the level of reorders from existing customers, financial difficulties encountered by 13 one or more of our principal customers, difficulties in obtaining additional capital for marketing, research and development, and other expenses, the possibility of material charges incurred as a result of prior activities, aggressive pricing and marketing efforts by rival gum manufacturers, unavailability of third-party material products at reasonable prices, inventory obsolescence due to shifts in market demand, and material litigation involving patent and contractual claims, product liabilities and consumer issues. These potential risks and uncertainties, together with those mentioned below and elsewhere in this report, could affect our future operating results, financial condition, and the market price of its common stock. Information contained in this report includes "forward-looking statements", which can be identified by the use of forward-looking words such as "believes", "expects", "may", "should", or "anticipates" or by discussions of trends or strategy. We may not achieve the future results discussed in these forward-looking statements. The following matters constitute cautionary statements identifying important factors that relate to the forward-looking statements. WE INCURRED SIGNIFICANT LOSSES IN PREVIOUS YEARS We began operations in February 1991 and have a limited operating history upon which potential investors may evaluate our performance. We reported significant losses for the last four years. Although we earned a profit for the fourth quarter of 1999, we incurred a loss for the year ended December 31, 1999. In addition, despite achieving a profit in the fourth quarter of 1999, our future operations may not be profitable. The likelihood of our success must be considered relative to the problems, difficulties, complications, and delays frequently encountered in connection with the development and operation of a new business, the significant change in strategy in early 1998, and the development and marketing of Zicam, a relatively new product. IF ZICAM DOES NOT GAIN MARKET WIDESPREAD ACCEPTANCE, OUR ANTICIPATED SALES AND RESULTS OF OPERATIONS WILL SUFFER In 1999, Gel Tech LLC, a joint venture in which we hold a 60% interest in profits and capital, launched a new homeopathic cold remedy known as Zicam. Although studies have indicated that Zicam can significantly reduce the duration and severity of the common cold, there is no guarantee that the product will achieve widespread acceptance by the market. If any unanticipated problem arises concerning the efficacy of Zicam or the product fails to achieve widespread market acceptance for any reason, our prospects for our future operating results would be adversely affected. In addition, although initial sales of Zicam were significant, there is no assurance that demand for this product will continue to grow, especially following the peak of the cold season. WE MAY BE UNABLE TO MEET DEMAND FOR OUR NEW PRODUCTS To the extent Zicam or any other new product we introduce achieves widespread market acceptance and generates significant demand, we may be unable to produce and deliver sufficient quantities of the product to meet our customers' demands on a timely basis. If so, we could lose opportunities to sell larger quantities of the product and damage relationships with distributors whose orders could not be timely filled. This problem, if encountered, could be particularly damaging if we are not able to meet customer demand during the cold season, when we expect demand for sales of Zicam to peak. 14 UNANTICIPATED PROBLEMS ASSOCIATED WITH PRODUCT DEVELOPMENT COULD DELAY OR HINDER INTRODUCTION OF NEW PRODUCTS We may experience unanticipated difficulties in developing new products that could delay or prevent the introduction of those products. We may be dependent in the near future upon chewing gum products that are currently being developed. If we are unable to develop new chewing gum products on a timely basis, our business, operating results, and financial condition could be materially adversely affected. OUR RELIANCE UPON A FEW GUM CUSTOMERS MAY NEGATIVELY IMPACT OUR FINANCIAL RESULTS The shift in our chewing gum strategy in early 1998 to a focus on contract manufacturing has made our chewing gum operations dependent for sales and future growth on a few customers. These customers include Herbalife, Breath Asure, Ranir, Heritage Consumer Products and PharmaGreen. While the decision to partner with these firms relieves us of the direct responsibility to market products, we become dependent on the financial resources and marketing capabilities of third parties. Further, we are at risk for their non-payment or late payment for amounts owed to us. While we intend to add to this portfolio of customers to reduce the risk of non-performance by any single customer, we have not yet been successful in that effort. OUR INABILITY TO PROVIDE SCIENTIFIC PROOF FOR PRODUCT CLAIMS MAY ADVERSELY AFFECT OUR SALES The marketing of certain of our chewing gum and nasal gel products, including Zicam, involves claims that these products assist in weight loss, promote dental hygiene, and reduce the duration of the common cold, among others. Under FDA and FTC rules, we are required to obtain scientific data to support any health claims we make concerning our products. Although we have not provided nor been requested to provide any scientific data to the FDA in support of claims regarding our products, we have obtained scientific data for all of our products. There can be no assurance that the scientific data we have obtained in support of our claims will be deemed acceptable to the FDA or FTC, should either agency request any such data in the future. If the FDA or the FTC requests any supporting information, and we are unable to provide support that is acceptable to the FDA or the FTC, either agency could force us to stop making the claims in question or restrict us from selling the affected products. FDA AND OTHER GOVERNMENT REGULATION MAY RESTRICT OUR ABILITY TO SELL OUR PRODUCTS We are subject to various federal, state and local laws affecting our business. Our chewing gum and nasal gel products are subject to regulation by the FDA, including regulations with respect to labeling of products, approval of ingredients in products, claims made regarding the products, and disclosure of product ingredients. If we do not comply with these regulations, the FDA could force us to stop selling the affected products or incur substantial costs in adopting measures to maintain compliance with these regulations. Our advertising claims regarding our products are subject to the jurisdiction of the FTC as well as the FDA. In both cases we are required to obtain scientific data to support any advertising or labeling health claims we make concerning our products, although no pre-clearance or filing is required to be made with either agency. If we are unable to provide the required support for such claims, the FTC may stop us from making such claims or require us to stop selling the related product. 15 WE MAY BE UNABLE TO SUCCESSFULLY EXPAND OUR OPERATIONS We intend to continue expanding our manufacturing and marketing operations. Expansion will place substantial strains on our management and our operational, accounting, and information systems. Successful management of growth will require us to improve our financial controls, operating procedures, and management information systems, and to train, motivate, and manage our employees. In addition, to the extent that actual demand for our products in the future is less than anticipated, we may incur higher than necessary costs in preparing for an anticipated growth in sales that does not materialize or materializes more slowly than expected. Failure to manage growth effectively would have a material adverse effect on the results of our operations and our ability to execute our business strategy. WE MAY BE UNABLE TO PREVENT OTHERS FROM DEVELOPING SIMILAR PRODUCTS We routinely seek trademark and patent protection from the United States Patent Office and from similar agencies in foreign countries for chewing gum brands and have done so for Zicam. There can be no assurance that we will be able to successfully defend any trademarks, trade names or patents against claims from or use by competitors or that trademark, trade name or patent applications will be approved by the USPO or any similar foreign agency. We consider some of our chewing gum formulations and processes to be proprietary in nature and rely upon a combination of non-disclosure agreements, other contractual restrictions and trade secrecy laws to protect such proprietary information. There can be no assurance that these steps will be adequate to prevent misappropriation of our proprietary information or that our competitors will not independently develop chewing gum formulations and processes that are substantially equivalent or superior to our own. THE LARGE NUMBER OF SHARES ELIGIBLE FOR IMMEDIATE AND FUTURE SALES MAY DEPRESS THE PRICE OF OUR STOCK Sales of substantial amounts of common stock in the open market or the availability of a large number of additional shares for sale could adversely affect the market price for the common stock. Substantially all of our outstanding shares of common stock, as well as the shares underlying vested but as yet unexercised warrants and options, have either been registered for public sale or may be sold under Rule 144 promulgated under the Securities Act. Therefore, all of these shares may be immediately sold by the holders. A substantial increase in the volume of trading in our stock may depress the price of our common stock. THE PRICE OF OUR STOCK MAY CONTINUE TO BE VOLATILE The market price of our common stock has been highly volatile and may continue to be volatile in the future. Factors such as our operating results or public announcements may cause the market price of our stock to decline quickly. Market prices for securities of many small capitalization companies have experienced wide fluctuations in response to variations in quarterly operating results, general economic indicators and other factors beyond our control. WE MAY INCUR SIGNIFICANT COSTS RESULTING FROM PRODUCT LIABILITY CLAIMS We are subject to significant liability should use or consumption of our products cause injury, illness or death. Although we carry product liability insurance, there can be no assurance that our insurance will be adequate to protect us against product liability claims or that insurance coverage will continue to be available on reasonable terms. 16 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK None. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The Independent Auditors' Report and Consolidated Financial Statements of Gum Tech, including the Notes to those statements, are set forth on pages F-1 through F-21. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Gum Tech has had no disagreements with its independent accountants in regard to accounting and financial disclosure and has not changed its independent accountants during the two most recent fiscal years. PART III ITEM 10. INFORMATION CONCERNING DIRECTORS, NOMINEES, AND EXECUTIVE OFFICERS The following sets forth certain information with respect to Directors, nominees to the Board of Directors, and executive officers of the Company. Name Age Position With Company and Tenure ---- --- -------------------------------- Gary S. Kehoe 41 President since 1998 and Chief Operating Officer and Director since 1995 W. Brown Russell, III 44 Chairman of the Board of Directors since 1999, Director of Investor Relations and Legal and Director since 1998 William D. Boone 52 Director since 1998 William A. Yuan 39 Director since 1998 William J. Hemelt 46 Secretary, Treasurer, and Chief Financial Officer since 1998 (Principal Financial Officer) Gary S. Kehoe joined Gum Tech in 1995 as Chief Operating Officer and a Director. He was responsible for construction and start-up of our manufacturing facility and research and development of gum products. In February 1998, the Board of Directors elected Mr. Kehoe as our President. Prior to joining Gum Tech, Mr. Kehoe was employed by Planters/LifeSavers, a division of Nabisco Food Group, in various capacities, including Senior Food Technologist, where he was responsible for functional and nutriceutical products in the confectionery division. He developed or co-developed several new technologies, processes, and products involving CareFree, Bubble Yum, Fruit Stripe, and Beech Nut chewing gums and is listed as inventor or co-inventor on 22 U.S. patents filed by Nabisco and Gum Tech. 17 W. Brown Russell, III was elected to the Board of Directors in February 1998 and appointed as Chairman of the Board in August 1999. He joined Gum Tech as a Special Advisor to the President in February 1998 before assuming his current position as Director of Investor Relations and Legal. Before joining Gum Tech, Mr. Russell operated Brown Russell Investment Services, Inc., a private money management firm. From 1987 to 1994, Mr. Russell was the President of Capital Investment Properties, a real estate and property management firm based in Athens, Georgia. During this time, Mr. Russell was also a partner in the law firm of Russell & Russell. Mr. Russell earned a Juris Doctorate and Bachelor of Arts from the University of Georgia. William D. Boone was elected to the Board of Directors in February 1998, and served as a manufacturing consultant to Gum Tech in early 1998. Mr. Boone has 30 years experience in small business management and sales growth, including co-founding and co-managing Trade Printers, Inc., a Phoenix-based wholesale printing manufacturer, which he subsequently sold. William A. Yuan has been a Director since 1998. Mr. Yuan is President and Chief Executive Officer of Reliance Management, LLC. From 1985 until 1996, Mr. Yuan was employed by Merrill Lynch and Salomon Smith Barney in various positions. Mr. Yuan earned a Bachelor of Science in Economics from Cornell University. William J. Hemelt joined us in June 1998 as our Chief Financial Officer, Treasurer, and Secretary. From 1980 to 1997, Mr. Hemelt held a variety of financial positions with Arizona Public Service Company, Arizona's largest utility, including 6 years as Treasurer and 4 years as Controller. Mr. Hemelt earned a Master of Business Administration and a Bachelor of Science in Electrical Engineering from Lehigh University. Bruce A. Jorgenson, M.D., resigned from the Board of Directors effective February 17, 2000. We intend to add at least one additional board member in the future. All Directors terms are on an annual basis. MEETINGS OF THE BOARD OF DIRECTORS During the fiscal year ended December 31, 1999, our Board of Directors held 7 meetings, either in person or by consent resolution. All Directors attended or participated in at least 75% of those meetings and the total number of meetings held by all committees of the Board on which they served. AUDIT COMMITTEE In 1998, our Board of Directors elected Dr. Bruce A. Jorgenson, William Boone, William A. Yuan, and W. Brown Russell to the Audit Committee. The functions of the Audit Committee are to receive reports with respect to loss contingencies, the public disclosure or financial statement notation of which may be legally required; annually review and examine those matters that relate to a financial and performance audit of our employee plans; recommend to our Board of Directors the selection, retention, and termination of our independent accountants; review the professional services, proposed fees and independence of such accountants; and provide for the periodic review and examination of management performance in selected aspects of corporate responsibility. The Audit Committee did not meet in 1999. COMPENSATION COMMITTEE In 1998 our Board of Directors elected Dr. Bruce A. Jorgenson and William Boone to the Compensation Committee. The functions of the Compensation Committee are to review annually the performance of the President and of the other principal officers whose compensation is subject to the review and 18 recommendation by the Compensation Committee to our Board of Directors. Additionally, the Compensation Committee is to review compensation of outside directors for service on our Board of Directors and for service on committees of our Board of Directors, and to review the level and extent of applicable benefits provided by us with respect to automobiles, travel, insurance, health and medical coverage, stock options and other stock plans and benefits. The Compensation Committee held two meetings during fiscal 1999. DIRECTOR COMPENSATION The Company's nonemployee Directors receive reimbursement for out-of-pocket expenses incurred in attending Board of Directors" meetings and have been granted stock options under the Company's 1995 Stock Option Plan. SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE Section 16(a) of the Securities Exchange Act of 1934 (the "Exchange Act") requires Gum Tech's officers and directors, and persons who own more than ten percent of a registered class of Gum Tech's equity securities, to file reports of ownership and changes in ownership with the Securities and Exchange Commission ("SEC"). These officers, directors and shareholders are required by SEC regulation to furnish Gum Tech with copies of all Section 16(a) forms they file. Based solely on its review of the copies of such forms received by it, or written representations from certain reporting persons that no Forms were required for such persons, Gum Tech believes that during the fiscal year ended December 31, 1999, all filing requirements applicable to its officers, directors, and greater than ten percent beneficial owners were complied with except as set forth below. Messrs. Russell, Kehoe, Jorgenson, Boone, and Yuan reported the October 1999 grant of options to each of them on a Form 5 filing in February 2000. ITEM 11. EXECUTIVE COMPENSATION The following table discloses, for the years ended December 31, 1997, 1998, and 1999, certain compensation paid to the Company's Chief Executive Officer, and to each other executive officer whose total compensation in 1999 exceeded $100,000. No other executive officer of the Company at December 31, 1999 earned more than $100,000 in annual compensation during the fiscal year ended December 31, 1999. 19 SUMMARY COMPENSATION TABLE
Long Term Compensation ----------------------- Annual Compensation Awards Payouts ----------------------------------- ----------------------- ------- Restricted Securities Name and Principal Other Annual Stock Underlying LTIP All Other Position Year Salary Bonus Compensation Award(s) Options/SARS Payouts Compensation(1) - -------- ---- -------- -------- ------------ -------- ------------ ------- --------------- Gary S. Kehoe 1999 $132,292 $ 50,000 0 0 80,000 0 $ 3,965 President, Chief 1998 $ 95,000 $ 30,000(2) 0 0 188,000(3) 0 $ 2,847 Operating Officer 1997 $ 84,333 $ 20,000(4) 0 0 88,000(5) 0 $ 880 William J. Hemelt 1999 $100,000 $ 0 0 0 24,000 0 $ 3,000 Chief Financial 1998 $ 58,333 $ 0 0 0 50,000 0 $ 1,750 Officer, Treasurer and Secretary W. Brown Russell 1999 $ 96,667 $ 0 0 0 60,000 0 $ 2,821 Chairman of the Board 1998 $ 44,000 $ 0 0 0 70,000 0 $ 0 and Director of Legal and Investor Relations
(1) Includes matching contributions under our SRA/IRA defined contribution program. (2) Includes $10,000 that was accrued in 1998 but paid in 1999. (3) Represents options originally granted in prior years that were repriced in 1998. (See footnote 5 below). In accordance with SEC rules, these options are reported as options granted during the fiscal year 1998 as a result of the repricing of these options in April 1998. (4) Includes $10,000 that was accrued in 1997 but paid in 1998. (5) Each option was repriced to $5.625 per share in April 1998, equal to the fair market value on the date of repricing. OPTION/SAR GRANTS IN LAST FISCAL YEAR The following table provides information on option grants during the year ended December 31, 1999 to the named executive officers:
Number of Percent of Securities Total Options/ Exercise Underlying Sars Granted Price Grant Date Options/sars to Employees in (Per Expiration Present Name Granted Fiscal Year (1) Share) Date Value(1) ---- ------- --------------- ------ ---- -------- Gary S. Kehoe 70,000(2) 15% $11.7500 08/10/2002 $384,090 10,000(3) 2% $12.5625 10/07/2002 $ 58,680 William J. Hemelt 24,000(4) 5% $11.7500 08/10/2004 $131,688 W. Brown Russell 50,000(5) 11% $11.7500 08/10/2002 $274,350 10,000(3) 2% $12.5625 10/07/2002 $ 58,680
(1) The grant date present values per option share were derived using the Black-Scholes option pricing model in accordance with SEC rules and regulations and are not intended to forecast future appreciation of our stock price. The options granted on August 10, 1999 had a grant date 20 present value of $5.487 per option and the options granted on October 7, 1999 had a grant date present value of $5.868 per option. The Black-Scholes model was used with the following assumptions: volatility of 63.1% based on a historical weekly average; dividend yield of 0%; risk-free interest of 5.90% based on a U.S. Treasury rate of three years; and a three year option life. (2) 30,000 vested upon the completion of the second clinical test of Zicam efficacy, 20,000 vest upon completion of a major dental gum contract, as determined by the Compensation committee of the Board and 20,000 vest upon completion of a major nicotine gum contract, as determined by the Compensation committee of the Board (3) 5,000 vested upon the completion of the second clinical test of Zicam efficacy, 2,500 vest upon completion of a major dental gum contract, as determined by the Compensation commmittee of the Board and 2,500 vest upon completion of a major nicotine gum contract, as determined by the Compensation committee of the Board. (4) 12,000 vested upon the completion of the second clinical test of Zicam efficacy, 4,000 vest on each of August 10, 2000, August 10, 2001 and August 10, 2002. (5) 30,000 vested upon the completion of the second clinical test of Zicam efficacy, 10,000 vest upon completion of a major dental gum contract, as determined by the Compensation committee of the Board and 10,000 vest upon completion of a major nicotine gum contract, as determined by the Compensation committee of the Board. AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND FY-END OPTION/SAR VALUES The following table provides information on the value realized by the exercise of options by the named executive officers during 1999 and the value of the named executive officer's unexercised options at December 31, 1999.
Number of Securities Underlying Unexercised Value of Unexercised Shares Options/sars At In-the-money Options/ Acquired Fiscal Year-end Sars At Fiscal Year-end On Value -------------------------- -------------------------- Name Exercise Realized Exercisable Unexercisable Exercisable Unexercisable ---- -------- -------- ----------- ------------- ----------- ------------- Gary S. Kehoe 100,000 $1,191,250 88,000 80,000 $913,000 $331,875 William J. Hemelt 18,000 $ 218,812 7,000 49,000 $ 73,500 $364,500 W. Brown Russell 10,000 $ 111,250 60,000 60,000 $597,400 $246,875
Gum Tech has entered into employment agreements with Messrs. Kehoe and Hemelt. Mr. Kehoe's agreement, which was originally signed on June 1, 1995, expires on December 31, 2000. Mr. Kehoe's salary has been increased by the Board to an annual rate of $150,000, which is above the level required in the contract to reflect the additional responsibilities Mr. Kehoe has assumed as President of Gum Tech. The contract agreement provides a bonus payment structure that is related to annual sales levels of new gums developed by Mr. Kehoe. Mr. Hemelt's agreement, which expires at the end of May 31, 2000, provides for an annual salary of $100,000. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS The following table sets forth information, as of March 15, 2000, with respect to the number of shares of GumTech's Common Stock beneficially owned by the named executive officers, by individual directors, by all directors and officers as a group, and by persons known by Gum Tech to own more than 5% its outstanding Common Stock. The address of all persons (unless otherwise noted in the footnotes below) is in care of Gum Tech at 246 E. Watkins Street, Phoenix, Arizona 85004. The indicated percentages are based upon the number of shares of Common Stock outstanding as of March 15, 2000, plus, where applicable, the number of shares that the indicated person or group had a right to acquire within 60 days of that date. 21 Percent of Name of Beneficial Number of Common Stock Owner and Address Shares Owned ----------------- ------ ----- Gary S. Kehoe(1) 269,400 3.0% William D. Boone(2) 80,200 0.9% William A. Yuan(3) 20,071 0.2% W. Brown Russell, III(4) 133,500 1.5% William J. Hemelt (5) 40,000 0.5% All directors and 543,171 5.9% officers as a group (5 persons) - ---------- (1) Includes options to purchase 88,000 shares at $5.625 per share, 70,000 shares at $11.75 per share and 10,000 shares at $12.5625 per share. (2) Includes options to purchase 50,000 shares at $5.625 per share, 20,000 shares at $6.88 and 10,000 shares at $12.5625 per share. (3) Includes options to purchase 10,000 shares at $5.81 per share and 10,000 shares at $12.5625 per share. (4) Includes options to purchase 20,000 shares at $6.88 per share, 40,000 shares at $5.625 per share, 50,000 shares at $11.75 per share and 10,000 shares at $12.5625. (5) Includes options to purchase 4,000 shares at $5.50 per share and 12,000 shares at $11.75 per share.. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS NONE. PART IV ITEM 14. EXHIBITS, LIST AND REPORTS ON FORM 8-K EXHIBITS Exhibit No. Title ----------- ----- 3.01 Certificate of Incorporation and Amendments thereto of the Registrant(1) 3.02 Bylaws of the Registrant(1) 10.01 1995 Stock Option Plan(1) 10.02 Amendment to Stock Option Plan(1) 10.03 Employment Contract with Gary S. Kehoe(1) 10.04 Employment Contract with William J. Hemelt(2) 22 10.05 Lease Agreement - Phoenix, Arizona manufacturing facility(1) 10.06 Lease Agreement between Gum Tech and Beardsley & 1-17 L.L.C., for the lease of packaging/warehouse facility(3) 10.07 Form of Convertible Note Dated February 20, 1997(4) 10.09 Registration Rights Agreement(4) 10.10 Installment Loan with Textron Financial Corporation(3) 10.11 Form of Manufacturing Agreement(5) 10.12 Operating Agreement of Gel Tech, L.L.C.(6) 10.13 Securities Purchase Agreement with Citadel Investment Group(7) 10.14 Credit Agreement between Gel Tech LLC and Imperial Bank 23 Consent of Angell & Deering 27 Financial Data Schedule - ---------- (1) Incorporated by reference to the Registrant's Registration Statement on Form SB-2 declared effective by the Commission on April 24, 1996, file number 333-870. (2) Incorporated by reference to the Registrant's Report on Form 10-QSB for the quarter ending September 30, 1998, file number 000-27646. (3) Incorporated by reference to the Registrant's Report on Form 10-KSB for the year ending December 31, 1997, file number 000-27646. (4) Incorporated by reference to the Registrant's Form 8-K filed March 6, 1997. (5) Incorporated by reference to the Registrant's Form 10-KSB filed March 31, 1999. (6) Incorporated by reference to the Registrant's Report on Form 10-QSB for the quarter ending March 31, 1999, file number 000-27646. (7) Incorporated by reference to the Registrant's Form 8-K filed June 9, 1999. REPORTS ON FORM 8-K Gum Tech filed a report on Form 8-K on November 8, 1999 announcing the withdrawal from publication by the American Journal of Infection Control of the manuscript "The effects of direct application of ionic zinc nasal spray gel on the duration of the common cold." 23 SIGNATURES In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized, in Phoenix, Arizona, on March 30, 2000. GUM TECH INTERNATIONAL, INC. By: /s/ Gary S. Kehoe ------------------------------------- Gary S. Kehoe President and Chief Operating Officer Pursuant to the requirements of the Securities Act of 1933, as amended, this Report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dated indicated. Signature Title Date - --------- ----- ---- /s/ W. Brown Russell, III Chairman of the Board of March 30, 2000 - ------------------------- Directors, Director of W. Brown Russell, III Legal and Investor Relations /s/ William D. Boone Director March 30, 2000 - ------------------------- William D. Boone /s/ William J. Hemelt Secretary, Chief Financial March 30, 2000 - ------------------------- Officer (Principal Financial William J. Hemelt Officer), Principal Accounting Officer /s/ William A. Yuan Director March 30, 2000 - ------------------------- William A. Yuan 24 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Financial Statements Page - -------------------- ---- Independent Auditors' Report F-2 Consolidated Balance Sheets as of December 31, 1999 and 1998 F-3 Consolidated Statements of Operations for the years ended December 31, 1999, 1998 and 1997 F-5 Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 1999, 1998 and 1997 F-6 Consolidated Statements of Cash Flows for the years ended December 31, 1999, 1998 and 1997 F-7 Notes To Consolidated Financial Statements F-8 F-1 INDEPENDENT AUDITORS' REPORT To the Board of Directors Gum Tech International, Inc. We have audited the accompanying consolidated balance sheets of Gum Tech International, Inc. and Subsidiary as of December 31, 1999 and 1998 and the related consolidated statements of operations, changes in stockholders' equity and cash flows for the years ended December 31, 1999, 1998 and 1997. 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 generally accepted auditing standards. 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 financial statements referred to above present fairly, in all material respects, the financial position of Gum Tech International, Inc. and Subsidiary as of December 31, 1999 and 1998 and the results of their operations and their cash flows for the years ended December 31, 1999, 1998 and 1997 in conformity with generally accepted accounting principles. Angell & Deering Certified Public Accountants Denver, Colorado February 5, 2000 F-2 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS DECEMBER 31, 1999 AND 1998 ASSETS 1999 1998 ------------ ------------ Current Assets: Cash and cash equivalents $ 5,595,075 $ 517,852 Restricted cash 270,878 20,149 Accounts receivable: Trade, net of allowance for doubtful accounts of $50,482 and $35,000 8,197,180 1,462,639 Employees 56,237 -- Inventories 1,966,819 1,896,161 Prepaid expenses 155,281 60,851 ------------ ------------ Total Current Assets 16,241,470 3,957,652 ------------ ------------ Property and Equipment, at cost: Machinery and equipment 4,455,694 4,272,746 Office furniture and equipment 295,577 238,371 Leasehold improvements 383,854 332,452 ------------ ------------ 5,135,125 4,843,569 Less accumulated depreciation (1,724,276) (1,295,342) ------------ ------------ Net Property and Equipment 3,410,849 3,548,227 ------------ ------------ Other Assets: Deposits 214,936 279,131 Intangible assets, net of accumulated amortization of $548,744 and $156,526 160,659 114,855 ------------ ------------ Total Other Assets 375,595 393,986 ------------ ------------ Total Assets $ 20,027,914 $ 7,899,865 ============ ============ The accompanying notes are an integral part of these consolidated financial statements. F-3 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS DECEMBER 31, 1999 AND 1998 LIABILITIES AND STOCKHOLDERS' EQUITY 1999 1998 ------------ ------------ Current Liabilities: Accounts payable and accrued expenses $ 2,078,358 $ 1,309,067 Accrued interest -- 42,449 Customer deposits 10,500 34,763 Sales returns and allowances 1,202,100 35,000 Current portion of long-term debt 420,043 381,280 ------------ ------------ Total Current Liabilities 3,711,001 1,802,559 ------------ ------------ Long-Term Debt, net of current portion above: Financial institutions and other 2,646,897 2,736,525 Obligations under capital leases 14,105 24,256 Less current portion above (420,043) (381,280) ------------ ------------ Total Long-Term Debt 2,240,959 2,379,501 ------------ ------------ Minority interest in consolidated affiliate 1,374,117 -- ------------ ------------ Commitments and Contingencies -- -- Stockholders' Equity: Preferred stock: no par value, 1,000,000 shares authorized: Series A preferred stock, $1,000 stated value, 2,000 shares authorized, 1,000 shares issued and outstanding 1,000,000 -- Common stock: no par value, 20,000,000 shares authorized, 8,320,705 and 6,857,999 shares issued and outstanding 23,687,579 15,145,037 Additional paid in capital 3,551,766 2,915,152 Accumulated deficit (15,537,508) (14,342,384) ------------ ------------ Total Stockholders' Equity 12,701,837 3,717,805 ------------ ------------ Total Liabilities and Stockholders' Equity $ 20,027,914 $ 7,899,865 ============ ============ The accompanying notes are an integral part of these consolidated financial statements. F-4 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997 ------------ ------------ ------------ Net sales $ 15,500,024 $ 5,272,547 $ 3,776,562 Cost of sales 7,341,362 4,357,010 4,197,777 ------------ ------------ ------------ Gross Profit 8,158,662 915,537 (421,215) Operating expenses 5,705,490 6,164,022 3,881,238 Research and development 664,448 667,067 209,783 ------------ ------------ ------------ Income (Loss) From Operations 1,788,724 (5,915,552) (4,512,236) ------------ ------------ ------------ Other Income (Expense): Interest and other income 123,564 127,947 204,220 Interest expense (1,311,792) (473,811) (1,090,618) ------------ ------------ ------------ Total Other Income (Expense) (1,188,228) (345,864) (886,398) ------------ ------------ ------------ Income (Loss) Before Provision For Income Taxes and Minority Interest 600,496 (6,261,416) (5,398,634) Provision for income taxes -- -- -- Minority interest in earnings of consolidated affiliate 1,374,117 -- -- ------------ ------------ ------------ Net Income (Loss) (773,621) (6,261,416) (5,398,634) Preferred stock dividends 238,466 -- -- ------------ ------------ ------------ Net Income (Loss) Applicable to Common Shareholders $ (1,012,087) $ (6,261,416) $ (5,398,634) ============ ============ ============ Net Income (Loss) Per Share of Common Stock: Basic $ (.14) $ (.97) $ (1.02) Diluted $ (.14) $ (.97) $ (1.02) Weighted Average Number of Common Shares Outstanding: Basic 7,412,959 6,427,815 5,294,099 Diluted 7,412,959 6,427,815 5,294,099
The accompanying notes are an integral part of these consolidated financial statements. F-5 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
Series A Preferred Stock Common Stock Additional --------------------------- --------------------------- Paid In Accumulated Shares Amount Shares Amount Capital Deficit ------------ ------------ ------------ ------------ ------------ ------------ Balance at December 31, 1996 -- $ -- 4,948,740 $ 7,965,060 $ -- $ (2,682,334) Issuance of common stock upon exercise of stock options and warrants (net of costs of $188,678) -- -- 907,720 4,123,090 -- -- Beneficial conversion feature of convertible notes -- -- -- -- 665,790 -- Net loss -- -- -- -- -- (5,398,634) ------------ ------------ ------------ ------------ ------------ ------------ Balance at December 31, 1997 -- -- 5,856,460 12,088,150 665,790 (8,080,968) Issuance of common stock upon exercise of stock options and warrants -- -- 785,962 2,032,897 -- -- Conversion of convertible notes payable into common stock -- -- 215,577 1,023,990 -- -- Compensation from extension and issuance of stock options -- -- -- -- 2,249,362 -- Net loss -- -- -- -- -- (6,261,416) ------------ ------------ ------------ ------------ ------------ ------------ Balance at December 31, 1998 -- -- 6,857,999 15,145,037 2,915,152 (14,342,384) Issuance of common stock upon exercise of stock options and warrants -- -- 890,800 3,672,044 -- -- Conversion of convertible notes payable into common stock -- -- 317,046 1,505,972 -- -- Issuance of Series A preferred stock (net of costs of $519,011) 2,000 2,000,000 -- -- (519,011) -- Issuance of common stock for repayment of senior notes, including prepayment penalty -- -- 163,704 2,200,000 -- -- Issuance of common stock for redemption of Series A preferred stock, including prepayment penalty (1,000) (1,000,000) 86,163 1,100,000 -- -- Issuance of common stock for payment of interest on senior notes -- -- 4,993 64,526 -- -- Compensation from issuance of stock options -- -- -- -- 64,275 -- Issuance of warrants in connection with financing -- -- -- -- 1,091,350 -- Payment of Series A preferred stock dividends -- -- -- -- -- (238,466) Dividend distribution of subsidiary -- -- -- -- -- (183,037) Net loss -- -- -- -- -- (773,621) ------------ ------------ ------------ ------------ ------------ ------------ Balance at December 31, 1999 1,000 $ 1,000,000 8,320,705 $ 23,687,579 $ 3,551,766 $(15,537,508) ============ ============ ============ ============ ============ ============
The accompanying notes are an integral part of these consolidated financial statements. F-6 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997 ----------- ----------- ----------- Cash Flows From Operating Activities: Net income (loss) $ (773,621) $(6,261,416) $(5,398,634) Adjustments to reconcile net income (loss) to net cash (used) by operating activities: Depreciation 430,223 304,277 551,404 Amortization 392,218 108,816 47,710 Amortization of discount on notes payable 387,500 -- -- Provision for bad debts 45,000 34,613 94,500 (Gain) loss on disposal of assets 1,544 (2,699) 10,633 Interest expense from beneficial conversion feature of notes payable -- -- 665,790 Compensation from forgiveness of note receivable -- 114,012 -- Compensation from extension and issuance of stock options 64,275 2,249,362 -- Common stock issued for payment of interest 264,526 -- -- Minority interest in earnings of consolidated affiliate 1,374,117 -- -- Changes in assets and liabilities: Accounts receivable (6,779,541) (415,018) (648,527) Employee receivables (56,237) 61,054 (61,054) Inventories (70,658) (862,779) 333,562 Income tax receivable -- -- 234,440 Prepaid expenses and other (345,159) 92,254 (55,106) Interest receivable -- 60,164 (60,164) Deposits and other -- 7,291 128,602 Accounts payable and accrued expenses 726,842 551,058 470,600 Customer deposits (24,263) 19,763 (50,500) Sales returns and allowances 1,167,100 35,000 -- ----------- ----------- ----------- Net Cash (Used) By Operating Activities (3,196,134) (3,904,248) (3,736,744) ----------- ----------- ----------- Cash Flows From Investing Activities: Capital expenditures (294,389) (990,557) (134,083) Proceeds from disposal of equipment -- 16,122 6,363 Receipt of principal on notes receivable -- 250,000 177,653 Deposits and other 64,195 (139,358) (10,598) ----------- ----------- ----------- Net Cash Provided (Used) By Investing Activities (230,194) (863,793) 39,335 ----------- ----------- ----------- Cash Flows From Financing Activities: Proceeds from borrowing 4,000,000 -- 2,530,000 Principal payments on notes payable (381,307) (343,184) (204,871) Issuance of common stock 3,672,054 2,032,897 4,311,768 Issuance of preferred stock 2,000,000 -- -- Offering costs incurred (155,231) -- (188,678) Debt issuance costs incurred (310,462) (11,733) (259,648) Dividend distribution of subsidiary (183,037) -- -- Dividends paid on preferred stock (138,466) -- -- ----------- ----------- ----------- Net Cash Provided By Financing Activities 8,503,551 1,677,980 6,188,571 ----------- ----------- ----------- Net Increase (Decrease) in Cash and Cash Equivalents 5,077,223 (3,090,061) 2,491,162 Cash and Cash Equivalents at Beginning of Year 517,852 3,607,913 1,116,751 ----------- ----------- ----------- Cash and Cash Equivalents at End of Year $ 5,595,075 $ 517,852 $ 3,607,913 =========== =========== =========== Supplemental Disclosure of Cash Flow Information: Cash paid during the year for: Interest $ 509,997 $ 392,693 $ 306,972 Income taxes 150 150 150 Supplemental Disclosure of Non-cash Investing and Financing Activities: Conversion of account receivable to a note receivable $ -- $ -- $ 225,665 Note payable incurred for purchase of equipment under a capital lease -- -- 1,564,457 Conversion of convertible notes payable into common stock 1,505,972 1,023,990 -- Issuance of warrants in connection with financing 1,091,340 -- -- Issuance of common stock to repay senior notes and redeem preferred stock 3,000,000 -- -- Issuance of common stock for payment of dividends 100,000 -- --
The accompanying notes are an integral part of these consolidated financial statements. F-7 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION Gum Tech International, Inc. (the "Company") was incorporated in Utah on February 4, 1991 to develop, market and distribute specialty chewing gum products for branded and private label customers, as well as products marketed under the Company's brand. The Company currently targets four market segments: oral care, smoking cessation, dietary supplement, and over-the-counter (OTC) drug. The Company also is developing, marketing and selling homeopathic remedies utilizing a nasal gel technology through a majority owned subsidiary. PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of the Company and its majority owned subsidiary, Gel Tech, L.L.C. All significant intercompany accounts and transactions have been eliminated. INVENTORIES Inventories are stated at the lower of cost or market. Cost is determined using the first-in, first-out pricing method. PROPERTY AND EQUIPMENT Depreciation of the primary asset classifications is calculated based on the following estimated useful lives using the straight-line method. Classification Useful Life in Years -------------- -------------------- Machinery and equipment 5-30 Office furniture and equipment 5 Leasehold improvements 10 Depreciation of property and equipment charged to operations is $430,223, $304,277 and $551,404 for the years ended December 31, 1999, 1998 and 1997, respectively. INTANGIBLE ASSETS Debt issuance costs are being amortized using the straight-line method over the term of the notes. REVENUE RECOGNITION The Company recognizes revenue from product sales upon shipment to the customer, net of an allowance for sales returns. STOCK-BASED COMPENSATION The Company adopted Statement of Financial Accounting Standard ("SFAS") No. 123, "Accounting for Stock-Based Compensation". The Company will continue to measure compensation expense for its stock-based employee compensation plans using the intrinsic value method prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees". See Note 7 for pro forma disclosures of net income and earnings per share as if the fair value-based method prescribed by SFAS No. 123 had been applied in measuring compensation expense. F-8 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) LONG-LIVED ASSETS In accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of", the Company reviews for the impairment of long-lived assets and certain identifiable intangibles, whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. An impairment loss would be recognized when the estimated future cash flows is less than the carrying amount of the assets. No impairment losses have been identified by the Company. INCOME TAXES Deferred income taxes are provided for temporary differences between the financial reporting and tax basis of assets and liabilities using enacted tax laws and rates for the years when the differences are expected to reverse. ADVERTISING The Company advertises primarily through television and print media. The Company's policy is to expense advertising costs, including production costs, as incurred. Advertising expense was $1,343,492, $421,363 and $1,140,386 for the years ended December 31, 1999, 1998 and 1997, respectively. BARTER CREDITS The Company records sales under barter transactions at the carrying value of the inventory after reducing the inventory to its net realizable value for any impairment. At the time barter credits are utilized by the Company for advertising, packaging, travel expenses and other purchases an expense is recognized based on the carrying value of the barter credits plus cash paid. The Company recorded the sales under its barter transactions in 1996 and 1997 at a zero value and, therefore, when the barter credits are used by the Company it will recognize an expense only for the cash expended for the items purchased. NET INCOME (LOSS) PER SHARE OF COMMON STOCK The Company adopted SFAS No. 128, "Earnings Per Share", which specifies the method of computation, presentation and disclosure for earnings per share. SFAS No. 128 requires the presentation of two earnings per share amounts, basic and diluted. Basic earnings per share is calculated using the average number of common shares outstanding. Diluted earnings per share is computed on the basis of the average number of common shares outstanding plus the dilutive effect of outstanding stock options using the "treasury stock" method. The basic and diluted earnings per share are the same since the Company had a net loss in 1999, 1998 and 1997 and the inclusion of stock options and other incremental shares would be antidilutive. Consequently, options, warrants and other incremental shares to purchase 1,540,168, 1,554,968 and 2,502,680 shares of common stock at December 31, 1999, 1998 and 1997, respectively were excluded from the computation of diluted earnings per share. F-9 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) CASH AND CASH EQUIVALENTS For purposes of the statements of cash flows, the Company considers all highly liquid investments with a maturity of three months or less at the date of purchase to be cash equivalents. ESTIMATES The preparation of the Company's financial statements in conformity with generally accepted accounting principles requires the Company's 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 amount of revenues and expenses during the reporting period. Actual results could differ from those estimates. RECLASSIFICATIONS Certain prior period amounts have been reclassified to conform with the current period presentation. 2. RESTRICTED CASH Cash of $270,878 and $20,149 at December 31, 1999 and 1998, respectively, was held as collateral by a bank for letters of credit issued to the lessor of the Company's manufacturing and warehouse facilities and to a lender. 3. INVENTORIES Inventories consists of the following: 1999 1998 ---------- ---------- Raw materials and packaging $1,140,713 $1,216,070 Work in process 541,886 731,686 Finished goods 284,220 178,405 Less reserve for obsolescence -- (230,000) ---------- ---------- Total $1,966,819 $1,896,161 ========== ========== 4. LONG-TERM DEBT Long-term debt consists of the following: 1999 1998 ---------- ---------- FINANCIAL INSTITUTIONS AND OTHER 9.73% installment note due in 2001 with monthly principal and interest payments of $39,550, collateralized by machinery and equipment and a $250,000 letter of credit. $ 859,397 $1,230,525 11% subordinated convertible notes with interest payable quarterly until January 1, 2000 at which time the principal and interest is payable in twenty four equal monthly installments through January 1, 2002. The notes are convertible into common stock of the Company at $4.75 per share. -- 1,506,000 F-10 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 4. LONG-TERM DEBT (CONTINUED) OBLIGATIONS UNDER CAPITAL LEASES 9.4% installment notes due in 2001 with monthly principal and interest payments of $1,000, collateralized by equipment. $ 14,105 $ 24,256 SENIOR NOTES 8% senior notes due in 2001 with interest payable quarterly. One half of the notes must be repaid within one year with a 10% prepayment penalty, collateralized by substantially all assets of the Company and the notes may be repaid in shares of the Company's common stock. Any repayments of the notes must be accompanied by a redemption of the Series A preferred stock on a prorata basis of two thirds notes and one third preferred stock (Note 6). The notes are subject to financial covenants regarding net revenue, EBITDA, and cash balances with all covenants calculated on the Company's operations excluding its majority owned subsidiary. The Company was in default on the EBITDA covenant at December 31, 1999. The Company repaid the entire amount of the notes in January and February 2000 through the issuance of common stock. 2,000,000 -- Less debt discount (212,500) -- ---------- ---------- Net Senior Notes 1,787,500 -- ---------- ---------- Total Long-Term Debt 2,661,002 2,760,781 Less current portion of long-term debt (420,043) (381,280) ---------- ---------- Long-Term Debt $2,240,959 $2,379,501 ========== ========== Installments due on debt principal, including the capital leases, at December 31, 1999 are as follows: Year Ending December 31, ------------ 2000 $ 420,043 2001 2,453,459 ---------- Total $2,873,502 ========== F-11 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 5. INCOME TAXES The components of the provision for income taxes are as follows: 1999 1998 1997 ---- ---- ---- Current: Federal $ -- $ -- $ -- State -- -- -- ---- ---- ---- Total -- -- -- ---- ---- ---- Deferred: Federal -- -- -- State -- -- -- --- ---- ---- Total -- -- -- ---- ---- ---- Total Provision For Income Taxes $ -- $ -- -- ==== ==== ==== The provision (benefit) for income taxes reconciles to the amount computed by applying the federal statutory rate to income before the provision (benefit) for income taxes as follows: 1999 1998 1997 ---- ---- ---- Federal statutory rate (34)% (34)% (34)% State income taxes, net of federal benefits (5) (5) (5) Valuation allowance 39 39 39 ---- ---- ---- Total --% --% --% ==== ==== ==== The following is a reconciliation of the provision for income taxes to income before provision for income taxes computed at the federal statutory rate of 34%.
1999 1998 1997 ----------- ----------- ----------- Income taxes at the federal statutory rate $ (263,031) $(2,128,881) $(1,835,536) State income taxes, net of federal benefits (38,681) (330,603) (294,204) Nondeductible expenses 3,836 8,864 20,969 Valuation allowance 297,876 2,450,620 2,108,771 ----------- ----------- ----------- Total $ -- $ -- $ -- =========== =========== ===========
Significant components of deferred income taxes as of December 31, 1999 and 1998 are as follows: Net operating loss carryforward $10,521,400 $ 8,745,000 Reserve for bad debts 10,700 14,700 Reserve for obsolete inventory -- 96,600 ----------- ----------- Total deferred tax asset 10,532,100 8,856,300 ----------- ----------- Depreciation (496,400) (373,300) Stock option compensation (3,577,600) (2,338,000) Other (5,700) -- ----------- ----------- F-12 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 5. INCOME TAXES (CONTINUED) Total deferred tax liability (4,079,700) (2,711,300) Less valuation allowance (6,452,400) (6,145,000) ----------- ----------- Net Deferred Tax Asset $ -- $ -- =========== =========== The Company has assessed its past earnings history and trends, sales backlog, budgeted sales, and expiration dates of carryforwards and has determined that it is more likely than not that no deferred tax assets will be realized. The valuation allowance of $6,452,400 is maintained on deferred tax assets which the Company has not determined to be more likely than not realizable at this time. The net change in the valuation allowance for deferred tax assets was an increase of $307,400. The Company will continue to review this valuation on a quarterly basis and make adjustments as appropriate. At December 31, 1999, the Company had federal and state net operating loss carryforwards of approximately $24,900,000 and $25,600,000, respectively. Such carryforwards expire in the years 2011 through 2019 and 2001 through 2004 for federal and state purposes, respectively. 6. PREFERRED STOCK The authorized preferred stock of the Company consists of 1,000,000 shares, no par value. The preferred stock may be issued in series from time to time with such designation, rights, preferences and limitations as the Board of Directors of the Company may determine by resolution. The rights, preferences and limitations of separate series of preferred stock may differ with respect to such matters as may be determined by the Board of Directors, including without limitation, the rate of dividends, method and nature of payment of dividends, terms of redemption, amounts payable on liquidation, sinking fund provisions (if any), conversion rights (if any), and voting rights. Unless the nature of a particular transaction and applicable statutes require approval, the Board of Directors has the authority to issue these shares without shareholder approval. In June 1999, the Company designated a new class of preferred stock "Series A Preferred Stock" and the number of shares constituting such series is 2,000 shares with no par value. The new series was authorized in connection with a Securities Purchase Agreement for the sale of $4,000,000 of senior notes (Note 4) and $2,000,000 of Series A preferred stock. Each preferred share shall bear dividends at a rate of 14% per year, which shall be cumulative, and are payable on a quarterly basis. Upon the second anniversary of the issuance date (June 2, 2001) each preferred share will automatically convert into shares of common stock by dividing the stated value of the preferred shares ($1,000) by 80% of the average of the closing bid price of the Company's common stock for the 20 days preceding such date. Until all of the preferred shares have been converted into common stock or redeemed, the Company may not declare or pay any cash dividends on its common stock without the written consent of at least two thirds of the holders of the preferred shares. One half of the preferred shares must be redeemed within one year with a 10% prepayment penalty. Any redemptions of the preferred shares must be accompanied by a repayment of the Company's senior notes on a prorata basis of one third preferred stock and two thirds senior notes. Any redemptions of the preferred stock prior to June 2, 2001 are based on 95% of the average of the closing bid price of the Company's common stock for the 20 days prior to the date of redemption. F-13 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 6. PREFERRED STOCK (CONTINUED) The company may redeem the preferred stock in cash, solely at its option. The Company redeemed all of the outstanding preferred shares in January and February 2000 through the issuance of common stock. 7. STOCK OPTIONS AND WARRANTS STOCK OPTION PLAN In March 1995, the Company adopted a stock option plan (the "Plan") which provides for the grant of both incentive stock options and non-qualified options. A total of 2,000,000 shares of common stock have been reserved for issuance under the Plan. Options under the Company's plan are issuable only to eligible officers, directors, key employees and consultants of the Company. The Plan is administered by a committee selected by the Board of Directors, which determines those individuals who shall receive options, the time period during which the options may be exercised, the number of shares of common stock that may be purchased under each option, and the option price. Unless sooner terminated, the Plan shall remain in effect until January 1, 2005. The per share exercise price of the common stock may not be less than the fair market value of the common stock on the date the option is granted. The aggregate fair market value (determined as of the date the option is granted) of the common stock that any employee may purchase in any calendar year pursuant to the exercise of incentive stock options may not exceed $100,000. No person who owns, directly or indirectly, at the time of the granting of an incentive stock option to him, more than 10% of the total combined voting power of all classes of stock of the Company shall be eligible to receive any incentive stock options under the Plan unless the option price is at least 110% of the fair market value of the common stock subject to the option, determined on the date of grant. All options granted under the Plan provide for the payment of the exercise price in cash or, with the prior written consent of the Company, by delivery to the Company of shares of common stock already owned by the optionee having a fair market value equal to the exercise price of the options being exercised, or by a combination of such methods of payment. The following table contains information on the stock options under the Company's Plan for the years ended December 31, 1997, 1998 and 1999. The outstanding agreements expire from June 2000 to October 2004. Number of Weighted Average Shares Exercise Price ---------- ------ Options outstanding at December 31, 1996 1,318,000 $ 4.00 Granted 565,000 9.81 Exercised (184,000) 1.72 Cancelled (15,000) 6.38 ---------- ------ Options outstanding at December 31, 1997 1,684,000 6.18 Granted 912,000 5.79 Exercised (600,250) 2.78 Cancelled (1,298,750) 7.65 ---------- ------ F-14 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7. STOCK OPTIONS AND WARRANTS (CONTINUED) STOCK OPTION PLAN (CONTINUED) Options outstanding at December 31, 1998 697,000 5.86 Granted 315,000 11.90 Exercised (333,500) 5.62 Cancelled (14,000) 5.63 ---------- ------ Options outstanding at December 31, 1999 664,500 $ 8.85 ========== ====== On April 24, 1998, the Board of Directors approved a repricing of substantially all outstanding employee stock options granted under the Plan with an exercise price of greater than $5.625 per share to $5.625 per share. The Board of Directors would not typically consider reducing the exercise price of previously granted options. However, these options were repriced due to the occurrence of certain events beyond the reasonable control of the employees of the Company which significantly reduced the incentive these options were intended to create. The fair market value of the common stock was $5.625 on the date of the repricing. Options to purchase approximately 588,000 shares were affected by this repricing. NON-QUALIFIED STOCK OPTIONS The Company has granted non-qualified stock options to consultants, distributors and other individuals. The outstanding agreements expire from June 2000 to January 2004. The following table contains information on all of the Company's non-qualified stock options for the years ended December 31, 1997, 1998 and 1999. Number of Weighted Average Shares Exercise Price ---------- ------ Options outstanding at December 31, 1996 360,000 $ 1.80 Granted 100,000 4.75 Exercised (180,000) 1.80 Cancelled -- -- ---------- ------ Options outstanding at December 31, 1997 280,000 2.85 Granted 25,000 11.44 Exercised (180,000) 1.80 Cancelled -- -- ---------- ------ Options outstanding at December 31, 1998 125,000 6.09 Granted 215,000 9.63 Exercised (100,000) 4.75 Cancelled -- -- ---------- ------ Options outstanding at December 31, 1999 240,000 $ 9.82 ========== ====== PROFORMA DISCLOSURES The Company adopted SFAS No. 123 during the year ended December 31, 1996. In accordance with the provisions of SFAS No. 123, the Company applies APB Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations in accounting for its plans and does not recognize compensation expense for its stock-based F-15 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7. STOCK OPTIONS AND WARRANTS (CONTINUED) PROFORMA DISCLOSURES (CONTINUED) compensation plans other than for options granted to non-employees. If the Company had elected to recognize compensation expense based upon the fair value at the grant date for awards under these plans consistent with the methodology prescribed by SFAS No. 123, the Company's net income and earnings per share would be reduced to the following pro forma amounts: 1999 1998 1997 ----------- ----------- ----------- Net income (loss) applicable to common shareholders: As reported $(1,012,087) $(6,261,416) $(5,398,634) Pro forma $(1,654,447) $(7,299,820) $(5,881,867) Net income (loss) per share of common stock: As reported $ (.14) $ (.97) $ (1.02) Pro forma $ (.22) $ (1.14) $ (1.11) These pro forma amounts may not be representative of future disclosures since the estimated fair value of stock options is amortized to expense over the vesting period and additional options may be granted in future years. The fair value for these options was estimated at the date of grant using the Black-Scholes option pricing model with the following assumptions for the years ended December 31, 1999, 1998 and 1997. 1999 1998 1997 ---- ---- ---- Risk-free interest rate 5.90% 5.45% 5.88% Expected life 3 years 2 years 2 years Expected volatility 63.1% 61.82% 63.51% Expected dividend yield 0% 0% 0% The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in subjective input assumptions can materially affect the fair value estimates, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock-based compensation plans. The weighted average fair value price of options granted was $5.56, $1.56 and $3.82 in 1999, 1998 and 1997, respectively. The following table summarizes information about stock-based compensation plans outstanding at December 31, 1999: F-16 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7. STOCK OPTIONS AND WARRANTS (CONTINUED) Options Outstanding and Exercisable by Price Range as of December 31, 1999: Options Outstanding Options Exercisable -------------------------------- ------------------- Weighted Average Weighted Weighted Range of Remaining Average Average Exercise Number Contractual Exercise Number Exercise Prices Outstanding Life-Years Price Exercisable Price -------------- ------- ---- ------ -------- ------ $ 5.50 - 6.88 329,500 1.02 $ 5.78 329,500 $ 5.82 $11.44 - 12.56 335,000 3.67 $11.88 143,000 $11.44 -------------- ------- ---- ------ -------- ------ $ 5.50 - 12.56 664,500 2.36 $ 8.85 472,500 $ 6.00 ============== ======= ==== ====== ======== ====== COMPENSATION EXPENSE The Company recorded compensation expense of $64,275, $2,249,362 and $-0- for the years ended December 31, 1999, 1998 and 1997, respectively for the value of certain options granted to non-employees of the Company and for the extension of options previously granted to an Officer and Director of the Company. The valuation of the options and warrants granted to employees is based on the difference between the exercise price and the market value of the stock on the measurement date. The valuation of the options granted to non-employees is estimated using the Black-Scholes option pricing model. WARRANTS 1995 BRIDGE LOAN In 1995, the Company borrowed $1,550,000 from a group of four lenders ("1995 Bridge Loan"). As additional consideration for the 1995 Bridge Loan, the Company issued an aggregate of 465,000 common stock purchase warrants to the lenders. Each warrant is exercisable to purchase one share of the Company's common stock at $2.00 per share in perpetuity. In 1997, 75,000 warrants were exercised and 390,000 warrants were exercised in 1999. UNDERWRITER'S WARRANTS In connection with the Company's Initial Public Offering in 1996 the Company issued the Underwriter warrants to purchase up to 40,000 units of the Company's securities for $24.75 per unit. Each warrant is exercisable to purchase three shares of common stock and one redeemable common stock purchase warrant which is exercisable to purchase one share of common stock at $7.50 per share at anytime until April 24, 2001. The Underwriter's warrant is exercisable at anytime until April 24, 2001. In 1999, 1998 and 1997, 16,825, 1,428 and 2,830, respectively, of the Underwriter's warrants were exercised and 18,917 are outstanding as of December 31, 1999. F-17 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7. STOCK OPTIONS AND WARRANTS (CONTINUED) MARKETING AND DEVELOPMENT OPTIONS In 1998, the Company agreed to issue 200,000 stock options to an individual in consideration for a joint venture opportunity to develop and market various gum products. The options are exercisable at $9.00 per share at anytime until October 30, 2000 and all 200,000 options are outstanding at December 31, 1999. FINANCING WARRANTS In connection with the Company's Securities Purchase Agreement for the sale of senior notes and Series A preferred stock the Company issued warrants to the lenders. The Company issued a total of 300,000 common stock purchase warrants. Each warrant is exercisable to purchase one share of the Company's common stock at $12.44 per share at anytime until June 1, 2002. All of the warrants are outstanding at December 31, 1999. The Company also issued a total of 60,000 common stock purchase warrants as a finders fee in connection with the financing. Each warrant is exercisable to purchase one share of the Company's common stock, 30,000 at $11.70 per share through June 1, 2002 and 30,000 at $15.00 per share through June 1, 2004. All of the warrants are outstanding at December 31, 1999. 8. COMMITMENTS AND CONTINGENCIES LEASES The Company leases its office and packaging facilities, manufacturing and warehouse facilities and certain equipment under long-term leasing arrangements. The Company's manufacturing and warehouse facilities lease contains two three-year renewal options. In addition, the Company's office and packaging facilities contains a five year renewal option. The following is a schedule of future minimum lease payments at December 31, 1999 under the Company's capital leases (together with the present value of minimum lease payments) and operating leases that have initial or remaining noncancellable lease terms in excess of one year: Year Ending Capital December 31, Leases Facilities Total ------------ ------- ---------- ---------- 2000 $12,004 $ 277,950 $ 289,954 2001 3,001 287,310 290,311 2002 -- 303,426 303,426 2003 -- 252,383 252,383 2004 -- 145,188 145,188 Thereafter -- 133,089 133,089 ------- ---------- ---------- Total Minimum Lease Payments 15,005 $1,399,346 $1,414,351 ========== ========== Less amount representing interest 900 ------- Present Value of Net Minimum Lease Payments $14,105 ======= Rental expense charged to operations was $323,173, $193,152 and $187,826 for the years ended December 31, 1999, 1998 and 1997, respectively. F-18 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 8. Commitments and Contingencies (Continued) Leased equipment under capital leases as of December 31, 1999 and 1998 is as follows: 1999 1998 -------- -------- Equipment $ 47,727 $ 47,727 Less accumulated depreciation (35,795) (26,250) -------- -------- Net Property and Equipment Under Capital Leases $ 11,932 $ 21,477 ======== ======== MINORITY INTEREST The Company has an option to purchase the 40% minority interest in Gel Tech at the Company's discretion at any time after January 27, 2001 or the date on which cumulative sales of Gel Tech's products have exceeded $50,000,000. If the Company exercises its option, the Company shall issue shares of the Company's common stock in exchange for the minority interest in Gel Tech. The fair market value of the shares of the Company's common stock to be issued shall be equal to the fair market value of the minority interest in Gel Tech at the time the Company exercises its option. 9. RELATED PARTY TRANSACTIONS In 1998, two former officers and directors of the Company repaid notes they owed to the Company of $250,000 plus $48,770 of accrued interest. In addition, the Company wrote off two notes receivable in the amount of $145,017 which included $24,344 of accrued interest in connection with the termination of two former officers of the Company. 10. EMPLOYEE BENEFIT PLAN Effective September 1, 1997, the Company adopted a Simple Retirement Account Plan for employees who are not covered by any collective bargaining agreement. The Company shall make a matching contribution for each employee in an amount equal to each employees Salary Reduction Contributions for the Plan year of up to 3% of the employees compensation for the Plan year. The Company made matching contributions of $28,250, $33,353 and $20,059 for the years ended December 31, 1999, 1998 and 1997, respectively. Each employee shall be fully vested at all times in his contribution and the Company's matching contributions. 11. CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of temporary cash investments and accounts receivable. The Company places its cash equivalents and short term investments with high credit quality financial institutions and limits its credit exposure with any one financial institution. The Company's cash in its banks exceeds the federally insured limits. The Company provides credit in the normal course of business to many of the nation's top drug stores, mass merchandisers and health food chains and major private label companies. The Company's accounts receivable are due from customers located throughout the United States and various foreign countries. The Company performs periodic credit evaluations of its customers' financial condition and generally requires no collateral. The Company obtains letters of credit from many of its foreign customers to limit its exposure to credit risk on its accounts receivable. The Company maintains reserves for potential credit losses, and such losses have not exceeded management's expectations. Sales to major customers, which comprised 10% or more of net sales, for the years ended December 31, 1999, 1998 and 1997 were as follows: 1999 1998 1997 ---- ---- ---- Customer A * 23.8% * Customer B * 38.3% 15.0% Customer C 10.1% * 10.2% Customer D * * 15.0% * Less than 10% F-19 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 12. FAIR VALUE OF FINANCIAL INSTRUMENTS Disclosures about Fair Value of Financial Instruments for the Company's financial instruments are presented in the table below. These calculations are subjective in nature and involve uncertainties and significant matters of judgment and do not include income tax considerations. Therefore, the results cannot be determined with precision and cannot be substantiated by comparison to independent market values and may not be realized in actual sale or settlement of the instruments. There may be inherent weaknesses in any calculation technique, and changes in the underlying assumptions used could significantly affect the results. The following table presents a summary of the Company's financial instruments as of December 31, 1999 and 1998: 1999 1998 ---------------------- ---------------------- Carrying Estimated Carrying Estimated Amount Fair Value Amount Fair Value ---------- ---------- ---------- ---------- Financial Assets: Cash and cash equivalents $5,595,075 $5,595,075 $ 517,852 $ 517,852 Restricted cash 270,878 270,878 20,149 20,149 Financial Liabilities: Long-term debt 2,661,002 2,661,002 2,760,781 2,760,781 The carrying amounts for cash and cash equivalents, receivables, accounts payable and accrued expenses approximate fair value because of the short maturities of these instruments. The fair value of long-term debt, including the current portion, approximates fair value because of the market rate of interest on the long-term debt and the interest rate implicit in the obligations under the capital leases. 13. SEGMENT INFORMATION Segment information has been prepared in accordance with SFAS No. 131, "Disclosure about Segments of an Enterprise and Related Information." The Company's operating segments are organized on the basis of products and include gum products and nasal gel cold remedies. The gum products include gum products for private label customers as well as products marketed under the Company's brand. The nasal gel cold remedies currently consists of a single product, Zicam(TM). There are no significant intersegment transactions. The table below contains information utilized by management to evaluate its operating segments. F-20 GUM TECH INTERNATIONAL, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 13. SEGMENT INFORMATION (Continued)
1999 ------------------------------------------ Gum Products Zicam Consolidated ------------ ------------ ------------ Net sales $ 5,910,221 $ 9,589,803 $ 15,500,024 Income (loss) before provision for income taxes and minority interest (2,834,797) 3,435,293 600,496 Interest income 73,136 50,428 123,564 Interest expense (1,311,792) -- (1,311,792) Depreciation 425,484 4,739 430,223 Total assets 10,209,095 9,818,819 20,027,914
The 1997 and 1998 operations consisted of one operating segment, gum products. Sales and operations of Zicam did not commence until January 1999. 14. JOINT VENTURE AGREEMENT The Company entered into a letter of intent with Swedish Match AB ("SM") to form a joint venture. The joint venture will be organized for the purpose of developing, manufacturing, marketing and distributing nicotine products The Board of Directors of the joint venture will consist of four members: two members designated by SM, one of which will act as chairman, and two members designated by the Company. SM will make a cash commitment of $10,000,000 to the joint venture of which $3,500,000 will be funded at the closing of the formation of the joint venture and the remainder will be funded on an as needed basis and in exchange SM will receive a 51% interest in the joint venture. The Company will contribute intellectual property relating to all of its gum products containing nicotine (except chewing gum products containing leaf tobacco) to the joint venture and will receive a 49% interest in the joint venture. 15. SUBSEQUENT EVENTS FINANCING ARRANGEMENT In January 2000, the Company's majority owned subsidiary entered into a financing agreement (the "Agreement") with a Bank for a $1,000,000 line of credit with interest at 3% above the prime rate. Advances under the line of credit are limited to 50% of the eligible accounts receivable plus cash on deposit with the Bank. The loan is collateralized by accounts receivable, inventory, property and equipment and intangible assets. The loan also contains various financial covenants regarding liquidity percentages and the Company's majority owned subsidiary must maintain a profit on a quarterly basis. F-21 EX-10.14 2 CREDIT AGREEMENT ================================================================================ CREDIT AGREEMENT by and between GEL TECH, L.L.C., an Arizona limited liability company and IMPERIAL BANK, a California banking corporation Dated as of January 11, 2000 ================================================================================ TABLE OF CONTENTS Page ---- RECITALS ................................................................... 1 ARTICLE 1 DEFINITION OF TERMS ......................................... 2 1.1 Definitions ................................................. 2 1.2 References .................................................. 8 1.3 Accounting Terms ............................................ 8 ARTICLE 2 THE RLC ..................................................... 9 2.1 RLC Commitment .............................................. 9 2.2 Revolving Line of Credit .................................... 9 2.3 RLC Payments ................................................ 9 2.4 Excess Balance Payment ...................................... 10 2.5 Conditions .................................................. 10 2.6 Other RLC Advances by Lender ................................ 10 2.7 Assignment .................................................. 10 ARTICLE 3 PAYMENTS AND FEES PROVISIONS ................................ 12 3.1 Payments .................................................... 12 3.2 (a) RLC Non-Use Fee ............................................. 12 (b) RLC Fee ..................................................... 13 3.3 Computations ................................................ 13 3.4 Maintenance of Accounts ..................................... 13 ARTICLE 4 SECURITY .................................................... 14 4.1 Security .................................................... 14 4.2 Security Documents .......................................... 14 ARTICLE 5 CONDITIONS PRECEDENT ........................................ 15 5.1 Initial or Any Subsequent Advance ........................... 15 5.2 No Event of Default ......................................... 16 5.3 No Material Adverse Effect .................................. 16 5.4 Representations and Warranties .............................. 16 ARTICLE 6 REPRESENTATIONS AND WARRANTIES .............................. 17 6.1 Recitals .................................................... 17 6.2 Organization and Good Standing .............................. 17 6.3 Authorization and Power ..................................... 17 6.4 Security Documents .......................................... 17 6.5 No Conflicts or Consents .................................... 17 6.6 No Litigation ............................................... 17 -i- 6.7 Financial Condition ......................................... 18 6.8 Taxes ....................................................... 18 6.9 No Stock Purchase ........................................... 18 6.10 Advances .................................................... 18 6.11 Enforceable Obligations ..................................... 18 6.12 No Default .................................................. 18 6.13 Significant Debt Agreements ................................. 18 6.14 ERISA ....................................................... 19 6.15 Compliance with Law ......................................... 19 6.16 Solvent ..................................................... 19 6.17 Investment Borrower Act ..................................... 19 6.18 Title ....................................................... 19 6.19 Survival of Representations, Etc. ........................... 19 6.20 Environmental Matters ....................................... 19 6.21 Licenses, Tradenames ........................................ 19 6.22 Year 2000 Compliance ........................................ 20 ARTICLE 7 AFFIRMATIVE COVENANTS ....................................... 21 7.1 Financial Statements, Reports and Documents ................. 21 7.2 Maintenance of Existence and Rights; Conduct of Business; Management ...................................... 22 7.3 Operations and Properties ................................... 22 7.4 Authorizations and Approvals ................................ 22 7.5 Compliance with Law ......................................... 22 7.6 Payment of Taxes and Other Indebtedness ..................... 22 7.7 Compliance with Significant Debt Agreements and Other Agreements .......................................... 22 7.8 Compliance with Credit Documents ............................ 22 7.9 Notice of Default ........................................... 23 7.10 Other Notices ............................................... 23 7.11 Books and Records; Access; Audits ........................... 23 7.12 ERISA Compliance ............................................ 23 7.13 Further Assurances .......................................... 23 7.14 Insurance ................................................... 24 7.15 Year 2000 Compliance ........................................ 24 7.16 Deposit Accounts ............................................ 25 ARTICLE 8 NEGATIVE COVENANTS .......................................... 26 8.1 Existence ................................................... 26 8.2 Amendments to Organizational Documents ...................... 26 8.3 Margin Stock ................................................ 26 8.4 Distributions ............................................... 26 8.5 Liens ....................................................... 26 8.6 Transfer Collateral ......................................... 26 8.7 Merger; Sale of Assets ...................................... 26 -ii- 8.8 Indebtedness ................................................ 26 8.9 Financial Covenants ......................................... 27 ARTICLE 9 EVENTS OF DEFAULT ........................................... 28 9.1 Events of Default ........................................... 28 9.2 Remedies Upon Event of Default .............................. 30 9.3 Performance by Lender ....................................... 31 ARTICLE 10 MISCELLANEOUS ............................................... 32 10.1 Modification ................................................ 32 10.2 Waiver ...................................................... 32 10.3 Payment of Expenses ......................................... 32 10.4 Notices ..................................................... 32 10.5 Governing Law; Jurisdiction, Venue; Waiver of Jury Trial .... 33 10.6 Invalid Provisions .......................................... 33 10.7 Binding Effect .............................................. 34 10.8 Entirety .................................................... 34 10.9 Headings .................................................... 34 10.10 Survival .................................................... 34 10.11 No Third Party Beneficiary .................................. 34 10.12 Time ........................................................ 34 10.13 Reference Provision ......................................... 34 10.14 Schedules and Exhibits Incorporated ......................... 36 10.15 Counterparts ................................................ 36 10.16 Participations .............................................. 36 EXHIBIT "A" Form of Advance Notice EXHIBIT "B" Form of Compliance Certificate EXHIBIT "C" Form of Borrowing Base Certificate EXHIBIT "D" Form of Waiver/Release of Lien Rights -iii- CREDIT AGREEMENT BY THIS CREDIT AGREEMENT (together with any amendments or modifications, the "Credit Agreement"), entered into as of this 11th day of January, 2000 by and between GEL TECH, L.L.C., an Arizona limited liability company ("Borrower"), and IMPERIAL BANK, a California banking corporation (the "Lender"), in consideration of the mutual promises herein contained and for other valuable consideration, the parties hereto do hereby agree as follows: RECITALS A. Borrower has requested that Lender establish the following financial accommodations: (1) A revolving line of credit facility (the "RLC") in the principal amount of ONE MILLION AND NO/100 DOLLARS ($1,000,000.00) for the purpose of funding Borrower's short-term working capital. B. As a condition for extending such financial accommodations, Lender has required that Borrower enter into this Credit Agreement, establishing the terms and conditions thereof. -1 - ARTICLE 1 DEFINITION OF TERMS 1.1. Definitions. For the purposes of this Credit Agreement, unless the context otherwise requires, the following terms shall have the respective meanings assigned to them in this Article 1 or in the Section hereof referred to below: "Advance" means an RLC Advance. "Affiliate" of any Person means any Person which, directly or indirectly, Controls or is Controlled by such Person. "Authorized Manager" means one or more managers of Borrower duly authorized (and so certified to Lender by the member of Borrower pursuant to a borrowing authorization from time to time satisfactory to Lender in the exercise of Lender's reasonable discretion), acting alone, to request Advances under the provisions of this Credit Agreement and execute and deliver documents, instruments, agreements, reports, statements and certificates in connection herewith. "Banking Day" means a day of the year on which banks are not required or authorized to close in Inglewood, California and/or Phoenix, Arizona. "Borrower": See the Preamble hereto. "Borrowing Base" means the sum of (i) the Eligible Accounts Amount plus (ii) the Eligible Deposit Amount. "Borrowing Base Certificate" means a certificate substantially in the form attached hereto as Exhibit C. "Closing Date" means the date of delivery of this Credit Agreement. "Code" means the Internal Revenue Code of 1986, as amended. "Collateral" means all property subject to the Security Documents. "Control" when used with respect to any Person means the power, directly or indirectly, to direct the management policies of such Person, whether through the ownership of voting securities, by contract or otherwise; and the terms "controlling" and "controlled" have meanings correlative to the foregoing. "Controlled Group" means, severally and collectively, the members of the group controlling, controlled by and/or in common control of Borrower, within the meaning of Section 4001(b) of ERISA. -2- "Credit Agreement": See the Preamble hereto. "Credit Documents" means this Credit Agreement, the Note (including any renewals, extensions and refundings thereof), the Security Documents, the Triparty Agreement and any written agreements, certificates or documents (and with respect to this Credit Agreement and such other written agreements and documents, any amendments or supplements thereto or modifications thereof) executed or delivered pursuant to the terms of this Credit Agreement. "Default Rate" means at any time five percent (5%) per annum over the then applicable interest rate. "Dollars" and the sign "$" mean lawful currency of the United States of America. "Eligible Accounts" means those accounts receivable of Borrower, except Eligible Accounts shall not include any of the following: (a) Account balances over ninety (90) calendar days from invoice date. (b) Accounts with respect to which the account debtor is an officer, director, shareholder, employee, subsidiary or affiliate of Borrower. (c) Accounts with respect to which 25% or more of the account debtor's total accounts or obligations outstanding to Borrower are more than 90 calendar days from invoice date. (d) As to accounts representing more than the Maximum Concentration Percentage of Borrower's total accounts receivable, outstanding at any time the balance in excess of Maximum Concentration Percentage is not eligible, where the "Maximum Concentration Percentage" means 40% as to Borrower's accounts with Walgreens, Kmart, McKesson Drug and Costco, and 20% as to all other accounts of Borrower. (e) Accounts with respect to international transactions unless insured by an insurance company acceptable to Lender in its sole discretion or covered by letters of credit issued or confirmed by a bank acceptable to Lender or unless otherwise acceptable to Lender, in its sole and absolute discretion. (f) Credit balances greater than ninety (90) calendar days from invoice date. -3- (g) Accounts where the account debtor is a seller to Borrower, whereby a potential offset (contra) exists, to the extent of the offset. (h) Consignment or guaranteed sales. (i) Bill and hold accounts. (j) Contracts receivable. (k) Progress billings. "Eligible Accounts Amount" means an amount equal to fifty percent (50.0%) of the Eligible Accounts. "Eligible Deposit Amount" means an amount equal to one hundred percent (100.0%) of all cash of Borrower on deposit with Lender plus all funds invested by Borrower with Lender. "ERISA" means the Employee Retirement Income Security Act of 1974, as amended, together with all final and permanent regulations issued pursuant thereto. References herein to sections and subsections of ERISA are deemed to refer to any successor or substitute provisions therefor. "Event of Default": See Section 9.1 hereof. "Exchange Act" means the Securities Exchange Act of 1934. "Financial Covenants": See Section 8.9 hereof. "GAAP" means those generally accepted accounting principles and practices which are recognized as such by the American Institute of Certified Public Accountants acting through its Accounting Principles Board or by the Financial Accounting Standards Board or through other appropriate boards or committees thereof and which are consistently applied for all periods after the date hereof so as to properly reflect the financial condition, and the results of operations and changes in the financial position, of Borrower, including without limitation accounting rules promulgated pursuant to Regulations SX and SK, except that any accounting principle or practice required to be changed by the said Accounting Principles Board or Financial Accounting Standards Board (or other appropriate board or committee of the said Boards) in order to continue as a generally accepted accounting principle or practice may be so changed. "Governmental Authority" means any government (or any political subdivision or jurisdiction thereof), court, bureau, agency or other governmental authority having jurisdiction over Borrower or any of its business, operations or properties. -4- "Indebtedness" of a Person means each of the following (without duplication): (a) obligations of that Person to any other Person for payment of borrowed money, (b) capital lease obligations, (c) notes and drafts drawn or accepted by that Person payable to any other Person, whether or not representing obligations for borrowed money (but without duplication of indebtedness for borrowed money), (d) any obligation for the purchase price of property the payment of which is deferred for more than one year or evidenced by a note or equivalent instrument, (e) guarantees of Indebtedness of third parties, and (f) a recourse or nonrecourse payment obligation of any other Person that is secured by a Lien on any property of the first Person, whether or not assumed by the first Person, up to the fair market value (from time to time) of such property (absent manifest evidence to the contrary, the fair market value of such property shall be the amount determined under GAAP for financial reporting purposes). "IP Security Agreement": See Section 4.1(b) hereof. "Lender": See the Preamble hereto. "Lien" means any lien, mortgage, security interest, tax lien, pledge, encumbrance, conditional sale or title retention arrangement, or any other interest in property designed to secure the repayment of Indebtedness whether arising by agreement or under any statute or law, or otherwise. "Liquidity Percentage" means at any time Borrower's Eligible Deposit Amount as a percentage of the RLC Balance. "Loan" or "Loans" means the RLC. "Material Adverse Effect" means any circumstance or event which (i) has any material adverse effect upon the validity or enforceability of any Credit Document, (ii) materially impairs the ability of Borrower to fulfill its obligations under the Credit Documents, or (iii) causes an Event of Default or any event which, with notice or lapse of time or both, would become an Event of Default. "Maturity Date" means the RLC Maturity Date. "Maximum RLC Loan Amount": See Section 2.1 hereof. "Net Income" means, for any period, the net income of Borrower for such period, determined in accordance with GAAP. "Note" or "Notes" means the RLC Note. "Obligation" means all present and future indebtedness, obligations and liabilities of Borrower to Lender, and all renewals and extensions thereof, or any part thereof, arising pursuant to this Credit Agreement or represented by the Note, including without limitation the Loan and all interest accruing -5- thereon, and attorneys' fees incurred in the enforcement or collection thereof, regardless of whether such indebtedness, obligations and liabilities are direct, indirect, fixed, contingent, joint, several or joint and several; together with all indebtedness, obligations and liabilities of Borrower evidenced or arising pursuant to any of the other Credit Documents, and all renewals and extensions thereof, or part thereof. "Payment Date" means the first day of each month, provided that if any such day is not a Banking Day, then such Payment Date shall be the next successive Banking Day. "PBGC" means the Pension Benefit Guaranty Corporation, and any successor to all or substantially all of the Pension Benefit Guaranty Corporation's functions under ERISA. "Permitted Liens" means: (a) Liens in Lender's favor. (b) Liens for taxes not delinquent. (c) Liens resulting from purchase money financing as to the personal property so financed and any sales proceeds therefrom. "Person" includes an individual, a corporation, a joint venture, a partnership, a trust, a limited liability company, an unincorporated organization or a government or any agency or political subdivision thereof. "Plan" means an employee defined benefit plan or other plan maintained by Borrower for employees of Borrower and covered by Title IV of ERISA, or subject to the minimum funding standards under Section 412 of the Code. "Prime Rate" means the interest rate per annum publicly announced by Lender, or its successors, as its "prime rate" as in effect from time to time. Borrower acknowledges that the Prime Rate is not necessarily the best or lowest rate offered by Lender and Lender may lend to its customers at rates that are at, above or below its Prime Rate. "Quarterly End Date" means each March 31, June 30, September 30 and December 31. "Regulation U" means Regulation U promulgated by the Board of Governors of the Federal Reserve System, 12 C.F.R. Part 221, or any other regulation hereafter promulgated by said Board to replace the prior Regulation U and having substantially the same function. "Reportable Event" means any "reportable event" as described in Section 4043(b) of ERISA with respect to which the thirty (30) day notice requirement has not been waived by the PBGC. -6- "RLC": See Recital A hereof. "RLC Advance" means a disbursement of the proceeds of the RLC. "RLC Balance" means the aggregate outstanding principal amount of all RLC Advances. "RLC Commitment" means One Million And No/100 Dollars ($1,000,000.00). "RLC Fee": See Section 3.2(b) hereof. "RLC Maturity Date" means January 10, 2001. "RLC Non-Use Fee": See Section 3.2(a) hereof. "RLC Note" means that Revolving Promissory Note of even date herewith in the amount of the RLC Commitment, executed by Borrower and delivered pursuant to the terms of this Credit Agreement, together with any renewals, extensions, modifications or replacements thereof. "Security Agreement": See Section 4.1(a) hereof. "Security Documents": See Section 4.2 hereof. "Significant Debt Agreement" means all documents, instruments and agreements executed by Borrower, evidencing, securing or ensuring any Indebtedness of Borrower or any guaranty in excess of $100,000.00 in outstanding principal (or principal equivalent) amount. "Subordinated Debt" means Indebtedness of Borrower subordinated to the payment of the Obligation pursuant to written agreements acceptable to Lender. "Subsidiary" means any corporation of which more than 50% of the outstanding shares of capital stock having general voting power under ordinary circumstances to elect a majority of the board of directors of such corporation, irrespective of whether or not at the time stock of any other class or classes shall have or might have voting power by reason of the happening of any contingency, is at the time directly or indirectly owned by the Borrower, by the Borrower and one or more other Subsidiaries, or by one or more other Subsidiaries. "Triparty Agreement": See Section 5.1(k) hereof. "Variable Rate" means the rate per annum equal to the sum of three percent (3.0%) and the Prime Rate per annum as in effect from time to time. The Variable Rate will change on each day that the "Prime Rate" changes. -7- "Variable Rate Advance" means an Advance that bears interest at the Variable Rate. 1.2 References. Capitalized terms shall be equally applicable to both the singular and the plural forms of the terms therein defined. References to "Credit Agreement," "this Agreement," "herein," "hereof," "hereunder," or other like words mean this Credit Agreement as amended, supplemented, restated or otherwise modified and in effect from time to time. 1.3 Accounting Terms. Except as expressly provided to the contrary herein, all accounting terms shall be interpret ed and all accounting determinations shall be made in accordance with GAAP, except as otherwise specifically provi ded for herein. To the extent any change in GAAP affects any computation or determination required to be mad e pursuant to this Credit Agreement, such computation or determination shall be made as if such change in GAAP had not occurred unless Borrower and Lender agree in writing on an adjustment to such computation or determination t o account for such change in GAAP. -8- ARTICLE 2 THE RLC 2.1 RLC Commitment. Subject to the conditions herein set forth, Lender agrees to make the RLC available to or for the benefit of Borrower, and Borrower agrees to draw upon the RLC, in the manner and upon the terms and conditions herein expressed, amounts that shall not exceed the lesser of the following (the "Maximum RLC Loan Amount"): (a) The RLC Commitment. (b) The Borrowing Base. 2.2 Revolving Line of Credit. (a) Subject to the terms and conditions set forth in this Credit Agreement, the RLC shall be a revolving line of credit, against which RLC Advances may be made to Borrower, repaid by Borrower and new RLC Advances made to Borrower, as Borrower may request, provided that (i) no RLC Advance shall be made if an Event of Default shall be continuing, (ii) no RLC Advance shall be made that would cause the outstanding principal balance of the RLC to exceed the Maximum RLC Loan Amount, and (iii) no RLC Advance shall be made on or after the RLC Maturity Date. (b) The RLC shall be evidenced by the RLC Note. 2.3 RLC Payments. The RLC shall bear interest and be payable to Lender upon the following terms and conditions: (a) Interest shall accrue on the unpaid principal of an RLC Advance at the Variable Rate. (b) All interest shall be computed on the basis of a 360-day year and accrue on a daily basis for the actual number of days elapsed. All accrued and unpaid interest through the end of the preceding month shall be due and payable on each Payment Date. (c) The entire unpaid principal balance, all accrued and unpaid interest, and all other amounts payable under the RLC Note shall be due and payable in full on the RLC Maturity Date. (d) Each request for an RLC Advance shall be substantially in the form attached hereto as Exhibit "A" from an Authorized Officer and -9- shall, in addition to complying with the other requirements in this Credit Agreement, specify the date and amount of the requested RLC Advance. (e) If any payment of interest and/or principal is not received by Lender within ten (10) days of when such payment is due, then in addition to the remedies conferred upon Lender under the Credit Documents, a late charge of five percent (5%) of the amount of the installment due and unpaid will be added to the delinquent amount to compensate Lender for the expense of handling the delinquency for any payment past due in excess of ten (10) days, regardless of any notice and cure period. (f) Upon the occurrence of an Event of Default and after maturity, including maturity upon acceleration, the unpaid principal balance, all accrued and unpaid interest and all other amounts payable hereunder shall bear interest at the Default Rate. 2.4 Excess Balance Payment. There shall be due and payable from Borrower to Lender, and Borrower shall repay to Lender, within five (5) days of written demand from Lender, from time to time, any amount by which the outstanding principal balance of the RLC exceeds the Maximum RLC Loan Amount. 2.5 Conditions. Lender shall have no obligation to make any RLC Advance unless and until all of the conditions and requirements of this Credit Agreement are fully satisfied. However, Lender in its sole and absolute discretion may elect to make one or more RLC Advances prior to full satisfaction of one or more such conditions and/or requirements. Notwithstanding that such an RLC Advance or RLC Advances are made, such unsatisfied conditions and/or requirements shall not be waived or released thereby. Borrower shall be and continue to be obligated to fully satisfy such conditions and requirements, and Lender, at any time, in Lender's sole and absolute discretion, may stop making RLC Advances until all conditions and requirements are fully satisfied. 2.6 Other RLC Advances by Lender. Lender, after giving fifteen (15) days prior written notice to Borrower to allow for corrective action, from time to time, may make RLC Advances in any amount in payment of accrued and unpaid (i) insurance premiums, taxes, assessments, liens or encumbrances existing against property encumbered by the Security Documents, (ii) any charges and expenses that are the obligation of Borrower under this Credit Agreement or any Security Document, and (iii) any charges or matters necessary to preserve the property encumbered by the Security Documents or to cure any still existing Event of Default. 2.7 Assignment. Borrower shall have no right to any RLC Advance other than to have the same disbursed by Lender in accordance with the disbursement provisions contained in this Credit Agreement. Any assignment or transfer, voluntary or involuntary, of this Credit Agreement or any right hereunder shall not be binding upon or in any way affect Lender without its written consent; Lender may make RLC Advances under the disbursement provisions herein, notwithstanding any such assignment or transfer. -10- ARTICLE PAYMENTS AND FEES PROVISIONS 3.1 Payments. (a) All payments and prepayments by the Borrower of principal of and interest on the Note and all fees, expenses and any other Obligation payable to Lender in connection with the Loans shall be nonrefundable and made in Dollars or immediately available funds to Lender not later than 2:00 p.m., (Phoenix, Arizona local time) on the dates called for under this Credit Agreement, at the office of Lender in Phoenix, Arizona. Funds received after such hour shall be deemed to have been received by Lender on the next Banking Day. (b) Unless otherwise required by applicable law, payments will be applied first to accrued, unpaid interest, then to principal, and any remaining amount to any unpaid collection costs, late charges and other charges; provided, however, upon delinquency or other default, Lender reserve the right to apply payments among principal, interest, late charges, collection costs and other charges at its discretion. (c) Interest shall be due and payable on the Loans on each Payment Date and on the Maturity Date. (d) Whenever any payment to be made hereunder shall be stated to be due on a day which is not a Banking Day, such payment shall be made on the next succeeding Banking Day, and such extension of time shall in such case be included in the computation of interest, commission or fee, as the case may be. (e) Borrower authorizes Lender to collect all interest, fees, costs, and/or expenses due under this Credit Agreement by charging Borrower's demand deposit account number 97005486 with Lender, or any other demand deposit account maintained by Borrower with Lender, for the full amount thereof. Should there be insufficient funds in any such demand deposit account to pay all such sums when due, the full amount of such deficiency shall be immediately due and payable by Borrower. 3.2 (a) RLC Non-Use Fee: Borrower agrees to pay Lender a quarterly fee (the "RLC Non-Use Fee") in an annualized amount equal to one-half percent (0.5%) of the average daily undrawn balance of the RLC Commitment during the prior calendar quarterly period. The RLC Non-Use Fee shall initially accrue from the Closing Date and shall be due and payable in arrears within three (3) Banking Days after written notice of such amount due by Lender to Borrower and shall be -11- non-refundable. The first such payment shall be due on March 31, 2000 and thereafter on each Quarterly End Date. (b) RLC Fee: Borrower agrees to pay to Lender on the Closing Date a fee (the "RLC Fee") in an amount equal to one percent (1.0%) of the RLC Commitment. Lender agrees to apply the RLC Fee to any origination fee that may be charged by Lender on any future increase in the RLC Commitment so long as such increase is requested by Borrower within 180 days of the Closing Date. 3.3 Computations. All fees and interest on the Note shall be computed on the basis of a year of 360-days/year and accrue on a daily basis for the actual number of days elapsed. 3.4 Maintenance of Accounts. Lender shall maintain, in accordance with its usual practice, an account or accounts evidencing the indebtedness of the Borrower and the amounts payable and paid from time to time hereunder. In any legal action or proceeding in respect of this Credit Agreement, the entries made in the ordinary course of business in such account or accounts shall be evidence of the existence and amounts of the obligations of the Borrower therein recorded. The failure to record any such amount shall not, however, limit or otherwise affect the obligations of the Borrower hereunder to repay all amounts owed hereunder, together with all interest accrued thereon as provided in the Note. -12- ARTICLE SECURITY 4.1 Security. So long as the Loan is outstanding, Borrower shall cause the Loan and Borrower's obligations under this Credit Agreement to be secured at all times by the following: (a) a valid and effective security agreement (the "Security Agreement"), duly executed and delivered by or on behalf of Borrower, granting Lender a valid and enforceable security interest in all of its personal property as described therein, subject to no prior Liens except for Permitted Liens; and (b) by a valid and effective intellectual property security agreement (the "IP Security Agreement") duly executed and delivered by or on behalf of Borrower, granting Lender a valid and enforceable security interest in all of its intellectual property described therein, subject to no prior Liens except for Permitted Liens. 4.2 Security Documents. All of the documents required by this Article 4 shall be in form satisfactory to Lender and Lender's counsel, and, together with any Financing Statements for filing and/or recording, and any other items required by Lender to fully perfect and effectuate the liens and security interests of Lender contemplated by the Security Agreement, and this Credit Agreement, may heretofore or hereinafter be referred to as the "Security Documents." -13- ARTICLE CONDITIONS PRECEDENT The obligation of Lender to make any Loan and to make each and any Advance hereunder is subject to the full prior satisfaction at each such time of each of the following conditions precedent: 5.1 Initial or Any Subsequent Advance. Prior to its making the initial Advance or any subsequent Advance, Lender shall have received the following each in form and substance satisfactory to Lender: (a) This Credit Agreement. This Credit Agreement, duly executed and delivered to Lender by Borrower. (b) The RLC Note. The RLC Note, duly executed, drawn to the order of Lender and otherwise as provided in Article 2 hereof. (c) Organizational Documents. A copy of the current organization documents of Borrower, including all amendments thereto, certified as current and complete by the appropriate authority of the state of Borrower's formation, together with evidence of its good standing in the state of formation and in every other state in which it is doing business or the conduct of its business requires such standing for the enforcement of material contracts. (d) Secretary Certificate. A certificate of the secretary of Borrower, signed by the duly appointed secretary thereof and issued as of the Closing Date, certifying that (i) attached thereto is a true and complete copy of its organizational documents in effect on the date of passage of the authorizations described immediately below and at all subsequent times to and including the date of the certificate, (ii) attached thereto is a true and complete copy of any of its resolutions or authorizations authorizing the Loan, the execution, delivery, and performance of this Credit Agreement, the Note, the Credit Documents, and all advances of credit hereunder, and that such resolutions have not been modified, rescinded, or amended and are in full force and effect, (iii) no change has been made to its charter documents other than as reflected in the certified copies submitted in connection with the delivery of this Credit Agreement or as approved in writing by Lender, and (iv) set forth therein and appropriately identified are the names, current official titles, and signatures of its officers authorized to sign this Credit Agreement and other documents to be delivered hereunder and/or to act as Authorized Manager hereunder. (e) Security Agreement. The Security Agreement, duly executed and delivered to Lender by Borrower. -14- (f) IP Security Agreement. The IP Security Agreement, duly executed and delivered to Lender by Borrower and, if required by Lender, filed with the US Patent Office. (g) Compliance Certificate. A Compliance Certificate substantially in the form of Exhibit "B" attached hereto, indicating that Borrower is in compliance with the Financial Covenants as of September 30, 1999. (h) Fees and Costs. Payment of the RLC Fee and costs of the Lender. (i) Financing Statements. Financing Statements, duly executed and delivered to Lender by Borrower. (j) Accounts Receivable. A listing and aging of the accounts receivable of Borrower as of September 30, 1999. (k) Triparty Agreement. A Triparty Agreement, duly executed and delivered to Lender by Borrower and Gum Tech International, Inc. (the "Triparty Agreement"). (l) Borrower's Financial Statements. Borrower's September 30, 1999 financial statements. (m) Landlord Waivers. Lien waivers substantially in the form of Exhibit "D" attached hereto, executed by the landlord of each leased premises where collateral is located, if any. (n) Additional Information. Such other information and documents as may reasonably be required by Lender or Lender's counsel. 5.2 No Event of Default. No Event of Default known to Borrower shall have occurred and be continuing, or result from Lender's making of any Loan. 5.3 No Material Adverse Effect. Since the date of the most recent financial statements provided to Lender by Borrower, no change shall have occurred in the business or financial condition of Borrower that could have a Material Adverse Effect. 5.4 Representations and Warranties. The representations and warranties contained in Article 6 hereof shall be true and correct in all material respects, with the same force and effect as though made on and as of the Closing Dat e (other than those of such representations which by their express terms speak to a date prior to that date, whic h representations shall, in all material respects, be true and correct as of such respective date). -15- ARTICLE 6 REPRESENTATIONS AND WARRANTIES To induce Lender to make the Loan, Borrower represents and warrants to Lender that: 6.1 Recitals. The recitals and statements of intent appearing in this Credit Agreement are true and correct. 6.2 Organization and Good Standing. It is duly organized, validly existing and in good standing in all states and/or countries in which the nature of its business and property makes such qualifications necessary or appropriate. It has the legal power and authority to own its properties and assets and to transact the business in which it is engaged and is or will be qualified in those states and/or countries wherein the nature of its proposed business and property will make such qualifications necessary or appropriate in the future. 6.3 Authorization and Power. It has the power and requisite authority to execute, deliver and perform this Credit Agreement, the Note and the other Credit Documents to be executed by it; it is duly authorized to, and has taken all action, corporate or otherwise, necessary to authorize it to, execute, deliver and perform this Credit Agreement, the Note and such other Credit Documents and is and will continue to be duly authorized to perform this Credit Agreement, the Note and such other Credit Documents. 6.4 Security Documents. The liens, security interests and assignments created by the Security Documents will, when granted, be valid, effective and enforceable liens, security interests and assignments, except to the extent (if any) otherwise agreed in writing by Lender. 6.5 No Conflicts or Consents. Neither the execution and delivery of this Credit Agreement, the Note or the other Credit Documents to which it is a party, nor the consummation of any of the transactions herein or therein contemplated, nor compliance with the terms and provisions hereof or with the terms and provisions thereof, (a) will materially contravene or conflict with: (i) any provision of law, statute or regulation to which it is subject, (ii) any judgment, license, order or permit applicable to it, (iii) any indenture, credit agreement, mortgage, deed of trust, or other agreement or instrument to which it is a party or by which it may be bound, or to which it may be subject, or (b) will violate any provision of its organizational documents. No consent, approval, authorization or order of any court or Governmental Authority or other Person is required in connection with the execution and delivery by it of the Credit Documents or to consummate the transactions contemplated hereby or thereby, or if required, such consent, approval, authorization or order shall have been obtained. 6.6 No Litigation. Except for those matters that have been previously disclosed to Lender in writing, there are no actions, suits or legal, equitable, arbitration or administrative proceedings pending, or to its actual knowledge overtly threatened, against Borrower that would, if adversely determined, have a Material Adverse Effect. -16- 6.7 Financial Condition. It has delivered to Lender copies of the Borrower's most recent financial statements. Such financial statements, in all material respects, fairly and accurately present the financial position of Borrower as of such date, have been prepared in accordance with GAAP and neither contain any untrue statement of a material fact nor fail to state a material fact required in order to make such financial statement not misleading. Since the date thereof, Borrower has not discovered any obligations, liabilities or indebtedness (including contingent and indirect liabilities and obligations or unusual forward or long-term commitments) which in the aggregate are material and adverse to the financial position or business of Borrower that should have been but were not reflected in such financial statements. No changes having a Material Adverse Effect have occurred in the financial condition or business of Borrower since the date of such financial statements. 6.8 Taxes. It has filed or caused to be filed all returns and reports which are required to be filed by any jurisdiction, and has paid or made provision for the payment of all taxes, assessments, fees or other governmental charges imposed upon its properties, income or franchises, as to which the failure to file or pay would have a Material Adverse Effect, except such assessments or taxes, if any, which are being contested in good faith by appropriate proceedings. 6.9 No Stock Purchase. No part of the proceeds of any financial accommodation made by Lender in connection with this Credit Agreement will be used to purchase or carry "margin stock," as that term is defined in Regulation U, or to extend credit to others for the purpose of purchasing or carrying such margin stock. 6.10 Advances. Each request for an Advance or for the extension of any financial accommodation by Lender whatsoever shall constitute an affirmation that the representations and warranties contained herein are, true and correct as of the time of such request. All representations and warranties made herein shall survive the execution of this Credit Agreement, all advances of proceeds of the Loans and the execution and delivery of all other documents and instruments in connection with the Loans and/or this Credit Agreement, so long as Lender has any commitment to lend hereunder and until the Loans have been paid in full and all of Borrower's obligations under this Credit Agreement, the Note and all Security Documents have been fully discharged. 6.11 Enforceable Obligations. This Credit Agreement, the Note and the other Credit Documents are the legal, valid and binding obligations of Borrower, enforceable against Borrower in accordance with their respective terms, except as limited by bankruptcy, insolvency or other laws or equitable principles of general application relating to the enforcement of creditors' rights. 6.12 No Default. No event or condition has occurred and is continuing that constitutes an Event of Default. 6.13 Significant Debt Agreements. It is not in default in any material respect under any Significant Debt Agreement. -17- 6.14 ERISA. (a) No Reportable Event has occurred and is continuing with respect to any Plan; (b) PBGC has not instituted proceedings to terminate any Plan; (c) neither the Borrower, any member of the Controlled Group, nor any duly-appointed administrator of a Plan (i) has incurred any liability to PBGC with respect to any Plan other than for premiums not yet due or payable or (ii) has instituted or intends to institute proceedings to terminate any Plan under Section 4041 or 4041A of ERISA; and (d) each Plan of Borrower has been maintained and funded in all material respects in accordance with its terms and in all material respects in accordance with all provisions of ERISA applicable thereto. Neither the Borrower nor any of its Subsidiaries participates in, or is required to make contributions to, any Multi-employer Plan (as that term is defined in Section 3(37) of ERISA). 6.15 Compliance with Law. It is in substantial compliance with all laws, rules, regulations, orders, writs, injunctions and decrees that are applicable to it, or its properties, noncompliance with which would have a Material Adverse Effect. 6.16 Solvent. It (both before and after giving effect to the Loans contemplated hereby) is solvent, has assets having a fair value in excess of the amount required to pay its probable liabilities on its existing debts as they become absolute and matured, and has, and will have, access to adequate capital for the conduct of its business and the ability to pay its debts from time to time incurred in connection therewith as such debts mature. 6.17 Investment Borrower Act. It is not, and is not directly or indirectly controlled by, or acting on behalf of, any person which is, an "Investment Borrower" within the meaning of the Investment Borrower Act of 1940, as amended. 6.18 Title. It has good and marketable title to the Collateral. 6.19 Survival of Representations, Etc. All representations and warranties by Borrower herein shall survive the making of the Loan and the execution and delivery of the Note; any investigation at any time made by or on behalf of Lender shall not diminish Lender's right to rely on the representations and warranties herein. 6.20 Environmental Matters. Except as previously disclosed to Lender in writing, it, to the best of its knowledge after due investigation, is in compliance in all material respects with all applicable environmental, health and safety statutes and regulations and Borrower does not have any material contingent liability in connection with any improper treatment, disposal or release into the environment of any hazardous or toxic waste or substance. 6.21 Licenses, Tradenames. It, as of the date hereof, possesses all necessary trademarks, tradenames, copyrights, patents, patent rights, and licenses to conduct its business as now operated, without any known conflict with valid trademarks, tradenames, copyright patents and license rights of others. -18- 6.22 Year 2000 Compliance. Borrower and its Subsidiaries, as applicable, have reviewed the areas within their opera tions and business which could be adversely affected by, and have developed or are developing a program to address on a timely basis, the Year 2000 Problem and have made related appropriate inquiry of material suppliers and vend ors, and based on such review and program, the Year 2000 Problem will not have a Material Adverse Effect upo n their financial condition, operations or business as now conducted. "Year 2000 Problem" means the possibility th at any computer applications or equipment used by Borrower may be unable to recognize and properly perform d ate sensitive functions involving certain dates prior to and any dates on or after December 31, 1999. -19- ARTICLE 7 AFFIRMATIVE COVENANTS Until payment in full of the Loans and the complete performance of the Obligation, Borrower agrees that: 7.1 Financial Statements, Reports and Documents. It shall deliver, or cause to be delivered, to Lender each of the following: (a) Annual Statements of Borrower. As soon as available and in any event within ninety (90) days after the close of each fiscal year of Borrower, audited financial statements of Borrower, including its balance sheet as of the close of such fiscal year and statements of income of Borrower for such fiscal year, in each case setting forth in comparative form the figures for the preceding fiscal year, all in reasonable detail and accompanied by an unqualified opinion thereon of independent public accountants of recognized national standing selected by Borrower and acceptable to Lender, to the effect that such financial statements have been prepared in accordance with GAAP. (b) Monthly Statements of Borrower. As soon as available, and in any event within twenty (20) days after the end of each month (except for that at the close of the fiscal year), copies of the balance sheet of Borrower as of the end of such month, and statement of income of Borrower for that month and for the portion of the fiscal year ending with such month, all in reasonable detail and fairly stated, certified by Borrower and prepared by Borrower in accordance with GAAP. (c) Compliance Certificate of Borrower. At the end of each weekly period until Borrower's Net Income is positive for at least two consecutive fiscal quarters, and thereafter within twenty (20) days after the end of each month, a certificate signed by the Authorized Manager of the Borrower, substantially in the form of Exhibit "B" attached hereto certifying that after a review of the activities of Borrower during such period, Borrower has observed, performed and fulfilled each and every obligation and covenant contained herein and no Event of Default exists under any of the same or, if any Event of Default shall have occurred, specifying the nature and status thereof, and stating that all financial statements of Borrower delivered to Lender during the respective period pursuant to Sections 7.1(a) and 7.1(b) hereof, to his/her knowledge, fairly present in all material respect the financial position of the Borrower and the results of its operations at the dates and for the periods indicated, and have been prepared in accordance with GAAP, together with a calculation of the Financial Covenants. (d) Borrowing Base Certificate. At the end of each weekly period until Borrower's Net Income is positive for at least two consecutive fiscal quarters, and thereafter within twenty (20) days after the end of each month, a Borrowing Base Certificate substantially in the form attached hereto as Exhibit "C". -20- (e) Other Information. Such other information concerning the business, properties or financial condition of Borrower as Lender shall reasonably request. 7.2 Maintenance of Existence and Rights; Conduct of Business; Management. It will preserve and maintain its existence and all of its rights, privileges, licenses, permits, franchises and other rights necessary or desirable in the normal conduct of its business, conduct its business in an orderly and efficient manner consistent with good business practices and maintain professional management of its business. 7.3 Operations and Properties. It will keep in good working order and condition, ordinary wear and tear excepted, all of its assets and properties which are necessary to the conduct of its business. 7.4 Authorizations and Approvals. It will maintain, at its own expense, all such governmental licenses, authorizations, consents, permits and approvals as may be required to enable it to comply with its obligations hereunder and under the other Credit Documents and to operate its businesses as presently or hereafter duly conducted. 7.5 Compliance with Law. It will comply with all applicable laws, rules, regulations, and all final, nonappealable orders of any Governmental Authority applicable to it or any of its property, business operations or transactions, including without limitation, any environmental laws applicable to it, a breach of which could result in a Material Adverse Effect. 7.6 Payment of Taxes and Other Indebtedness. It will pay and discharge (i) all income taxes and payroll taxes, (ii) all taxes, assessments, fees and other governmental charges imposed upon it or upon its income or profits, or upon any property belonging to it, before delinquent, which become due and payable, (iii) all lawful claims (including claims for labor, materials and supplies), which, if unpaid, might become a Lien upon any of its property, and (iv) all of its Indebtedness as it becomes due and payable, except as prohibited hereunder; provided, however, that it shall not be required to pay any such tax, assessment, charge, levy, claims or Indebtedness if and so long as the amount, applicability or validity thereof shall currently be contested in good faith by appropriate actions and appropriate accruals and reserves therefor have been established in accordance with GAAP. 7.7 Compliance with Significant Debt Agreements and Other Agreements. It will comply in all material respects with (i) all Significant Debt Agreements, and (ii) all agreements and contracts to which it is a party, a breach of which could result in a Material Adverse Effect. 7.8 Compliance with Credit Documents. It will comply with any and all covenants and provisions of this Credit Agreement, the Note and all other Credit Documents. -21- 7.9 Notice of Default. It will furnish to Lender immediately upon becoming actually aware of the existence of any event or condition that constitutes an Event of Default, a written notice specifying the nature and period of existence thereof and the action which it is taking or proposes to take with respect thereto. 7.10 Other Notices. It will promptly notify Lender of (a) any Material Adverse Effect, (b) any waiver, release or default under any Significant Debt Agreement, (c) any claim not covered by insurance against Borrower or any of Borrower's properties, and (d) the commencement of, and any material determination in, any litigation with any third party or any proceeding before any Governmental Authority affecting it, except litigation or proceedings which, if adversely determined, would not have a Material Adverse Effect. 7.11 Books and Records; Access; Audits. Upon three (3) Banking Days notice from Lender, it will give any authorized representative of Lender access during normal business hours to, and permit such representative to examine, copy or make excerpts from, any and all books, records and documents in its possession of and relating to the Loans, and to inspect any of its properties. It will maintain complete and accurate books and records of its transactions in accordance with good accounting practices. In addition, so long as no Event of Default has occurred and is continuing, it will give any authorized representative of Lender access during normal business hours to conduct a minimum of one (1) collateral audit per year and the costs of such audit shall be for the account of the Borrower. 7.12 ERISA Compliance. With respect to its Plans, it shall (a) at all times comply with the minimum funding standards set forth in Section 302 of ERISA and Section 412 of the Code or shall have duly obtained a formal waiver of such compliance from the proper authority; (b) at Lender's request, within thirty (30) days after the filing thereof, furnish to Lender copies of each annual report/return (Form 5500 Series), as well as all schedules and attachments required to be filed with the Department of Labor and/or the Internal Revenue Service pursuant to ERISA, in connection with each of its Plans for each year of the plan; (c) notify Lender within a reasonable time of any fact, including, but not limited to, any Reportable Event arising in connection with any of its Plans, which constitutes grounds for termination thereof by the PBGC or for the appointment by the appropriate United States District Court of a trustee to administer such Plan, together with a statement, if requested by Lender, as to the reason therefor and the action, if any, proposed to be taken with respect thereto; and (d) furnish to Lender within a reasonable time, upon Lender's request, such additional information concerning any of its Plans as may be reasonably requested. 7.13 Further Assurances. It will make, execute or endorse, and acknowledge and deliver or file or cause the same to be done, all such notices, certifications and additional agreements, undertakings or other assurances, and take any and all such other action, as Lender may, from time to time, deem reasonably necessary or proper to fully evidence the Loan. -22- 7.14 Insurance. It shall maintain in full force and effect at all times all insurance coverages required under the terms of this Credit Agreement and/or the Security Documents to which it is a party. In addition, it shall maintain in full force and effect at all times: (a) Policies of all risk coverage insurance covering all tangible personalty in which Lender has been granted or obtained a security interest to secure the Obligation, in coverage amounts not less than, from time to time, the fair market value thereof. (b) Policies of insurance evidencing personal liability and property damage liability coverages in amounts not less than $1,000,000.00 (combined single limit for bodily injury and property damage), and an umbrella excess liability coverage in an amount not less than $2,000,000.00 shall be in effect with respect to Borrower. (c) Policies of workers' compensation insurance in amounts and with coverages as legally required. Without limitation of the foregoing, it shall at all times maintain insurance coverages in scope and amount not less than, and not less extensive than, the scope and amount of insurance coverages customary in the trades or businesses in which it is from time to time engaged. All of the aforesaid insurance coverages shall be issued by insurers reasonably acceptable to Lender. Copies of all policies of insurance evidencing such coverages in effect from time to time and showing Lender as an additional insured and loss payee shall be delivered to Lender within fifteen (15) days of the Closing Date and upon reasonable notice upon issuance of new policies thereafter. From time to time, promptly upon Lender's request, it shall provide evidence satisfactory to Lender (i) that required coverage in required amounts is in effect, and (ii) that Lender is shown as an additional insured and loss payee with respect to all such coverages, as Lender's interest may appear, by standard (non-attribution) loss payable endorsement, additional insured endorsement, insurer's certificate or other means acceptable to Lender in its reasonable discretion. At Lender's option, it shall deliver to Lender certified copies of all such policies of insurance in effect from time to time, to be retained by Lender so long as Lender shall have any commitment to lend hereunder and/or any portion of the Obligation shall be outstanding or unsatisfied. All such insurance policies shall provide for at least thirty (30) days prior written notice of the cancellation or modification thereof to Lender. 7.15 Year 2000 Compliance. It will perform all acts reasonably necessary to ensure that (a) Borrower and any business in which Borrower holds a substantial interest, and (b) all customers, suppliers and vendors that are material to Borrower's business, become Year 2000 Compliant in a timely manner. Such acts shall include, without limitation, performing a comprehensive review and assessment of all Borrower's systems and adopting a detailed plan, with itemized budget, for the remediation, monitoring and testing of such systems. As used in this paragraph, "Year 2000 Compliant" shall mean, in regard to any entity, that all software, hardware, firmware, equipment, goods or systems utilized by or material to the business operations or financial condition of such entity, will properly perform date sensitive functions before, during and after the year 2000. Borrower shall, immediately upon request, provide to Bank such certifications or other evidence of Borrower's compliance with the terms of this paragraph as Bank may from time to time require. 7.16 Deposit Accounts. It shall maintain its principal depository accounts with Lender. -23- ARTICLE 8 NEGATIVE COVENANTS Until payment in full of the Loans and the performance of the Obligation, Borrower shall not, without receiving the prior express written consent of Lender: 8.1 Existence. Dissolve or liquidate, or merge or consolidate with or into any other entity, or turn over the management or operation of its property, assets or business to any other Person or make any substantial change in the character of its business. 8.2 Amendments to Organizational Documents. Amend its organizational documents if the result thereof could result in the occurrence directly or indirectly of a Material Adverse Effect. 8.3 Margin Stock. Use any proceeds of the Loans, or any proceeds of any other or future financial accommodation from Lender for the purpose, whether immediate, incidental or ultimate, of purchasing or carrying any "margin stock" as that term is defined in Regulation U or to reduce or retire any indebtedness undertaken for such purposes within the meaning of said Regulation U, and will not use such proceeds in a manner that would involve Borrower in a violation of Regulation U or of any other Regulation of the Board of Governors of the Federal Reserve System, nor use such proceeds for any purpose not permitted by Section 7 of the Exchange Act, or any of the rules or regulations respecting the extensions of credit promulgated thereunder. 8.4 Distributions. Declare or pay any dividends or make any distributions of any kind other than distributions necessary to satisfy the tax liabilities of the members of Borrower arising from the operations of Borrower. 8.5 Liens. On and after the date hereof, create, issue, assume or suffer to exist Liens upon the Collateral, except Permitted Liens. 8.6 Transfer Collateral. Assign, transfer or convey any of its right, title and interest in the Collateral. 8.7 Merger; Sale of Assets. (i) Sell, lease, transfer or dispose of substantially all of the Collateral to another entity; or (ii) consolidate with or merge into another entity, or permit any transfer of the ownership of the Collateral, permit any other entity to merge into Borrower or consolidate with it, or permit any transfer of the ownership or power to control Borrower. 8.8 Indebtedness. Incur in excess of $100,000 in the aggregate for any fiscal year, without receiving the prior express written consent of Lender, which consent shall not be unreasonably withheld. -24- 8.9 Financial Covenants. Permit: (a) Its Liquidity Percentage to be less than thirty percent (30%) as of the end of each weekly period until Borrower's Net Income is positive for at least two consecutive fiscal quarters and thereafter as of the end of each monthly period. (b) Beginning with that fiscal quarter ending March 31, 2000, its Net Income to be less than $0 (i.e. net loss) in any quarter. -25- ARTICLE 9 EVENTS OF DEFAULT 9.1 Events of Default. An "Event of Default" shall exist if any one or more of the following events (herein collectively called "Events of Default") shall occur and be continuing: (a) Borrower shall fail to pay any principal of, or interest on, the Note when the same shall become due or payable and such failure continues for ten (10) Banking Days after notice thereof to Borrower. (b) Any failure or neglect to perform or observe any of the covenants, conditions, provisions or agreements of Borrower contained herein, or in any of the other Credit Documents (other than a failure or neglect described in one or more of the other provisions of this Section 9.1) and such failure or neglect either cannot be remedied or, if it can be remedied, it continues unremedied for a period of thirty (30) days after written notice thereof to Borrower. (c) Any warranty, representation or statement contained in this Credit Agreement or any of the other Credit Documents, or which is contained in any certificate or statement furnished or made to Lender pursuant hereto or in connection herewith or with the Loans, shall be or shall prove to have been false when made or furnished. (d) The occurrence of any material "event of default" or "default" by Borrower under any Credit Document, or any agreement, now or hereafter existing, to which Lender or an Affiliate of Lender, and Borrower or an Affiliate of Borrower are a party. (e) Borrower shall (i) fail to pay any Indebtedness of Borrower (other than the Note) due under any Significant Debt Agreement, or any interest or premium thereon, when due (whether by scheduled maturity, required prepayment, acceleration, demand, or otherwise) or within any applicable grace period, (ii) fail to perform or observe any term, covenant, or condition on its part to be performed or observed under any agreement or instrument relating to such Indebtedness, within any applicable grace period when required to be performed or observed, if the effect of such failure to perform or observe is to accelerate the maturity of such Indebtedness, or any such Indebtedness shall be declared to be due and payable, or required to be prepaid (other than by a regularly scheduled prepayment), prior to the stated maturity thereof, or (iii) allow the occurrence of any material event of default with respect to such Indebtedness. (f) Any one or more of the Credit Documents shall have been determined to be invalid or unenforceable against Borrower executing the same in accordance -26- with the respective terms thereof, or shall in any way be terminated or become or be declared ineffective or inoperative, so as to deny Lender the substantial benefits contemplated by such Credit Document or Credit Documents. (g) Borrower or Guarantor shall (i) apply for or consent to the appointment of a receiver, trustee, custodian, intervenor or liquidator of itself or of all or a substantial part of its assets, (ii) file a voluntary petition in bankruptcy or admit in writing that it is unable to pay its debts as they become due, (iii) make a general assignment for the benefit of creditors, (iv) file a petition or answer seeking reorganization of an arrangement with creditors or to take advantage of any bankruptcy or insolvency laws, (v) file an answer admitting the material allegations of, or consent to, or default in answering, a petition filed against it in any bankruptcy, reorganization or insolvency proceeding, or (vi) take corporate action for the purpose of effecting any of the foregoing (h) An involuntary petition or complaint shall be filed against Borrower or Guarantor, seeking bankruptcy or reorganization of Borrower or Guarantor, or the appointment of a receiver, custodian, trustee, intervenor or liquidator of Borrower or Guarantor, or all or substantially all of its assets, and such petition or complaint shall not have been dismissed within sixty (60) days of the filing thereof; or an order, order for relief, judgment or decree shall be entered by any court of competent jurisdiction or other competent authority approving a petition or complaint seeking reorganization of Borrower or Guarantor, appointing a receiver, custodian, trustee, intervenor or liquidator of Borrower or Guarantor, or all or substantially all of its assets, and such order, judgment or decree shall continue unstayed and in effect for a period of sixty (60) days. (i) Any final judgment(s) (excluding those the enforcement of which is suspended pending appeal) for the payment of money in excess of the sum of $250,000 in the aggregate (other than any judgment covered by insurance where coverage has been acknowledged by the insurer) shall be rendered against Borrower, and such judgment or judgments shall not be satisfied, settled, bonded or discharged at least ten (10) days prior to the date on which any of its assets could be lawfully sold to satisfy such judgment. (j) Either (i) proceedings shall have been instituted to terminate, or a notice of termination shall have been filed with respect to, any Plans (other than a Multi-Employer Pension Plan as that term is defined in Section 4001(a)(3) of ERISA) by Borrower, any member of the Controlled Group, PBGC or any representative of any thereof, or any such Plan shall be terminated, in each case under Section 4041 or 4042 of ERISA, and such termination shall give rise to a liability of the Borrower or the Controlled Group to the PBGC or the Plan under ERISA having an effect in excess of $100,000 or (ii) a Reportable Event, the occurrence of which would cause the imposition of a lien in excess of $100,000 under Section 4062 of ERISA, shall have occurred with respect to any -27- Plan (other than a Multi-Employer Pension Plan as that term is defined in Section 4001(a)(3) of ERISA) and be continuing for a period of sixty (60) days. (k) Any of the following events shall occur with respect to any Multi- Employer Pension Plan (as that term is defined in Section 4001(a)(3) of ERISA) to which Borrower contributes or contributed on behalf of its employees and Lender determines in good faith that the aggregate liability likely to be incurred by Borrower, as a result of any of the events specified in Subsections (i), (ii) and (iii) below, will have an effect in excess of $100,000; (i) Borrower incurs a withdrawal liability under Section 4201 of ERISA; (ii) any such plan is "in reorganization" as that term is defined in Section 4241 of ERISA; or (iii) any such Plan is terminated under Section 4041A of ERISA. (l) The occurrence of a change in the ownership structure without the written consent of Lender, which will not be unreasonably withheld. (m) The dissolution, liquidation, sale, transfer, lease or other disposal of all or substantially all of the assets or business of Borrower. (n) Any failure to observe any of the Financial Covenants. (o) A substantial change of the Borrower's executive management group as determined by Lender in its reasonable discretion without the written consent of Lender which consent shall not be unreasonably withheld. (p) The occurrence of any adverse change in the, business, operations, assets or financial condition of Borrower, taken as a whole, that Lender in its reasonable discretion deems material, or if Lender in good faith shall believe that the prospect of payment or performance of the Loans is impaired. 9.2 Remedies Upon Event of Default. If an Event of Default shall have occurred and be continuing, then Lender may, at its sole option, exercise any one or more of the following rights and remedies, and any other remedies provided in any of the Credit Documents, as Lender in its sole discretion may deem necessary or appropriate, all of which remedies shall be deemed cumulative, and not alternative: (i) Cease making Advances or extensions of financial accommodations in any form to or for the benefit of Borrower, (ii) Declare the principal of, and all interest then accrued on, the Note and any other liabilities hereunder to be forthwith due and payable, whereupon the same shall become immediately due and payable without presentment, demand, protest, notice of default, notice of acceleration or of intention to accelerate or other notice of any kind all of which Borrower hereby expressly waives, anything contained herein or in the Note to the contrary notwithstanding, (iii) Reduce any claim to judgment, and/or (iv) Without notice of default or demand, pursue and enforce any of Lender' rights and remedies under the Credit Documents, or otherwise provided under or pursuant to any applicable law or agreement; provided, however, that if any Event of Default specified in Sections 9.1(g) and 9.1(h) shall occur, the principal of, and all interest on, the Note and other liabilities hereunder shall thereupon become due and payable concurrently therewith, without any further action by Lender and without presentment, demand, protest, notice of default, notice of acceleration or of intention to accelerate or other notice of any kind, all of which Borrower hereby expressly waives. Upon the occurrence and during the continuance of any Event of Default, Lender is hereby authorized at any time and from time to time, with five (5) days notice to Borrower, to setoff and apply any and all moneys, securities or other property of Borrower and the proceeds therefrom, now or hereafter held or received by or in transit to Lender or its agents, from or for the account of Borrower, whether for safe keeping, custody, pledge, transmission, collection or otherwise, and also upon any and all deposits (general or special) and credits of Borrower, and any and all claims of Borrower against Lender at any time existing. Lender agrees promptly to notify Borrower prior to and after any such setoff and application, provided that the failure to give such notice shall not affect the validity of such setoff and application. The rights of Lender under this Section 9.2 are in addition to other rights and remedies (including, without limitation, other rights of setoff) which Lender may have. 9.3 Performance by Lender. Should Borrower fail to perform any covenant, duty or agreement with respect to the pay ment of taxes, obtaining licenses or permits, or any other requirement contained herein or in any of the Credit Documents within the period provided herein, if any, for correction of such failure, Lender may, with five (5) days prior notice, at its option, perform or attempt to perform such covenant, duty or agreement on behalf of Borrower . In such event, Borrower shall, at the request of Lender, promptly pay any amount expended by Lender in such per formance or attempted performance to Lender at its office in Inglewood, California, together with interest ther eon at the Default Rate, from the date of such expenditure until paid. Notwithstanding the foregoing, it is e xpressly understood that Lender does not assume any liability or responsibility for the performance of any duties of Borrower hereunder or under any of the Credit Documents or other control over the management and aff airs of Borrower. -28- ARTICLE 10 MISCELLANEOUS 10.1 Modification. All modifications, consents, amendments or waivers of any provision of any Credit Document, or consent to any departure by Borrower therefrom, shall be effective only if the same shall be in writing and accepted by Lender. 10.2 Waiver. No failure to exercise, and no delay in exercising, on the part of Lender, any right hereunder shall operate as a waiver thereof, nor shall any single or partial exercise thereof preclude any other further exercise thereof or the exercise of any other right. The rights of Lender hereunder and under the Credit Documents shall be in addition to all other rights provided by law. No modification or waiver of any provision of this Credit Agreement, the Note or any Credit Documents, nor consent to departure therefrom, shall be effective unless in writing and no such consent or waiver shall extend beyond the particular case and purpose involved. No notice or demand given in any case shall constitute a waiver of the right to take other action in the same, similar or other instances without such notice or demand. 10.3 Payment of Expenses. Borrower shall pay all costs and expenses of Lender (including, without limitation, the attorneys' fees of Lender's legal counsel) incurred by Lender in connection with the documentation of the Loans, and the preservation and enforcement of Lender's rights under this Credit Agreement, the Note, and/or the other Credit Documents; provided, however, that notwithstanding the aforesaid, with respect to any legal action between the parties hereto that is pursued to judgment the prevailing party only shall be reimbursed by the other party for all costs and expenses (including, without limitation, reasonable attorneys' fees and costs) incurred in connection with the preservation and enforcement of its rights under this Credit Agreement, the Note and/or other Credit Documents. In addition, Borrower shall pay all costs and expenses of Lender in connection with the negotiation, preparation, execution and delivery of any and all amendments, modifications and supplements of or to this Credit Agreement, the Note or any other Credit Document. Borrower shall receive a written estimate of all legal fees and related legal costs and will have an opportunity to review all such estimates prior to its approval, which shall not be unreasonably withheld. 10.4 Notices. Except for telephonic notices permitted herein, any notices or other communications required or permitted to be given by this Credit Agreement or any other documents and instruments referred to herein must be (i) given in writing and personally delivered or mailed by prepaid certified or registered mail or sent by overnight delivery service, or (ii) made by telefacsimile delivered or transmitted, to the party to whom such notice or communication is directed, to the address of such party as follows: Borrower: GEL TECH, INC. 246 East Watkins Street Phoenix, Arizona 85004 Attention: William J. Hemelt Telecopier: (602) 420-9949 Lender: Imperial Bank 9920 South La Cienega Boulevard Suite 636 Inglewood, California 90301 Attention: Lending Services Telecopier: (310) 417-5695 With a copy to: Imperial Bank 400 East Van Buren Suite 900 Phoenix, Arizona 85004 Attention: Edmund Ozorio Telecopier: (602) 261-7881 Any notice to be personally delivered may be delivered to the principal offices (determined as of the date of such delivery) of the party to whom such notice is directed. Any such notice or other communication shall be deemed to have been given (whether actually received or not) on the day it is personally delivered as aforesaid; or, if mailed, on the third day after it is mailed as aforesaid; or, if transmitted by telefacsimile, on the day that such notice is transmitted as aforesaid. Any party may change its address for purposes of this Credit Agreement by giving notice of such change to the other parties pursuant to this Section 10.4. 10.5 Governing Law; Jurisdiction, Venue; Waiver of Jury Trial. The Credit Documents shall be governed by and construed in accordance with the substantive laws (other than conflict laws) of the State of California, except to the extent Lender has greater rights or remedies under Federal law, whether as a national bank or otherwise, in which case such choice of California law shall not be deemed to deprive Lender of any such rights and remedies as may be available under Federal law. Subject to the provisions of Section 10.13 hereof, each party consents to the personal jurisdiction and venue of the state courts located in Los Angeles, State of California in connection with any controversy related to this Agreement, waives any argument that venue in any such forum is not convenient and agrees that any litigation initiated by any of them in connection with this Agreement shall be venued in the Superior Court of Los Angeles County, California. The parties waive any right to trial by jury in any action or proceeding based on or pertaining to this Agreement or any of the Credit Documents. 10.6 Invalid Provisions. If any provision of any Credit Document is held to be illegal, invalid or unenforceable under present or future laws during the term of this Credit Agreement, such provision shall be fully severable; such Credit Document shall be construed and enforced as if such illegal, invalid or unenforceable provision had never comprised a part of such Credit Document; and the remaining provisions of such Credit Document shall remain in full force and effect and shall not be affected by the illegal, invalid or unenforceable provision or by its severance from such Credit Document. Furthermore, in lieu of each such illegal, invalid or unenforceable provision there shall be added as part of such Credit Document a provision mutually agreeable to Borrower and Lender as similar in terms to such illegal, invalid or unenforceable provision as may be possible and be legal, valid and enforceable. 10.7 Binding Effect. The Credit Documents shall be binding upon and inure to the benefit of Borrower and Lender and their respective successors, assigns and legal representatives; provided, however, that Borrower may not, without the prior written consent of Lender, assign any rights, powers, duties or obligations thereunder. 10.8 Entirety. The Credit Documents embody the entire agreement between the parties and supersede all prior agreements and understandings, if any, relating to the subject matter hereof and thereof. 10.9 Headings. Section headings are for convenience of reference only and shall in no way affect the interpretation of this Credit Agreement. 10.10 Survival. All representations and warranties made by Borrower herein shall survive delivery of the Note and the making of the Loans. 10.11 No Third Party Beneficiary. The parties do not intend the benefits of this Credit Agreement to inure to any third party, nor shall this Credit Agreement be construed to make or render Lender liable to any materialman, supplier, contractor, subcontractor, purchaser or lessee of any property owned by Borrower, or for debts or claims accruing to any such persons against Borrower. Notwithstanding anything contained herein or in the Note, or in any other Credit Document, or any conduct or course of conduct by any or all of the parties hereto, before or after signing this Credit Agreement or any of the other Credit Documents, neither this Credit Agreement nor any other Credit Document shall be construed as creating any right, claim or cause of action against Lender, or any of its officers, directors, agents or employees, in favor of any materialman, supplier, contractor, subcontractor, purchaser or lessee of any property owned by Borrower, nor to any other person or entity other than Borrower. 10.12 Time. Time is of the essence hereof. 10.13 Reference Provision. (a) Each controversy, dispute or claim ("Claim") between the parties arising out of or relating to this Agreement and/or any of the Credit Documents, which is not settled in writing within ten days after the "Claim Date" (defined as the date on which a party gives written notice to all other parties that a controversy, dispute or claim exists), will be settled by a reference proceeding in Los Angeles, California, in accordance with the provisions of Section 638 et seq. of the California Code of Civil Procedure, or their successor section ("CCP"), which shall constitute the exclusive remedy for the settlement of any Claim, including whether such Claim is subject to the reference proceeding and the parties waive their rights to initiate any legal proceedings against each other in any court or jurisdiction other than the Superior Court of Los Angeles -29- (the "Court"). The referee shall be a retired Judge selected by mutual agreement of the parties, and if they cannot so agree with in thirty days (30) after the Claim Date, the referee shall be selected by the Presiding Judge of the Court. The referee shall be appointed to sit as a temporary judge, as authorized by law. The referee shall (a) be requested to set the matter for hearing within sixty (60) days after the Claim Date and (b) try any and all issues of law or fact and report a statement of decision upon them, if possible, within ninety (90) days of the Claim Date. Any decision rendered by the referee will be final, binding and conclusive and judgment shall be entered pursuant to CCP 644 in the Court. All discovery permitted by this Agreement shall be completed no later than fifteen (15) days before the first hearing date established by the referee. The referee may extend such period in the event of a party's refusal to provide requested discovery for any reason whatsoever, including, without limitation, legal objections raised to such discovery or unavailability of a witness due to absence or illness. No party shall be entitled to "priority" in conducing discovery. Depositions may be taken by either party upon seven (7) days written notice, and, request for production of inspection of documents shall be responded to within ten (10) days after service. All disputes relating to discovery which cannot be resolved by the parties shall be submitted to the referee whose decision shall be final and binding upon the parties. (b) The referee shall be required to determine all issues in accordance with existing case law and the statutory laws of the State of California. The rules of evidence applicable to proceedings at law in the State of California will be applicable to the reference proceeding. The referee shall be empowered to enter equitable as well as legal relief, to provide all temporary and/or provisional remedies and to enter equitable orders that will be binding upon the parties. The referee shall issue a single judgment at the close of the reference proceeding which shall dispose of all of the claims of the parties that are the subject to the reference. The parties hereto expressly reserve the right to contest or appeal from the final judgment or any appealable order or appealable judgment entered by the referee. The parties expressly reserve the right to findings of fact, conclusions of law, a written statement of decision, and the right to move for a new trial or a different judgment, which new trial, if granted, is also to be a reference proceeding under this provision. (c) No provision of Paragraphs (a) or (b) of this Section 10.13, however, shall limit the right of Lender to bring action for possession of any -30- collateral in any jurisdiction, wherever located, in accordance with the provisions of the Security Documents. 10.14 Schedules and Exhibits Incorporated. All schedules and exhibits attached hereto, if any, are hereby incorporated into this Credit Agreement by each reference thereto as if fully set forth at each such reference. 10.15 Counterparts. This Credit Agreement may be executed in multiple counterparts, each of which, when so executed, shall be deemed an original but all such counterparts shall constitute but one and the same agreement. 10.16 Participations. Lender, at any time, shall have the right to sell, assign, transfer, negotiate or grant participation interests in the Loans and in any documents and instruments executed in connection herewith. Borrower hereby acknowledges and agrees that any such disposition shall give rise to a direct obligation of Borrower to each such assignee or participant. Lender is authorized to furnish to any participant or prospective participant any information or document that Lender may have or obtain regarding the Loans, Borrower or any guarantor of the Loans. IN WITNESS WHEREOF, the undersigned have executed this Credit Agreement as of the day and year first above written. GEL TECH, L.L.C., an Arizona limited liability company By: ------------------------------------------ Name: ------------------------------------------ Title: ------------------------------------------ IMPERIAL BANK, a California banking corporation By: ------------------------------------------ Name: ------------------------------------------ Title: ------------------------------------------ EXHIBIT "A" FORM OF ADVANCE NOTICE Imperial Bank One Arizona Center 400 East Van Buren, Suite 900 Phoenix, Arizona 85004 Attention: Edmund Ozorio Telecopier: (602) 261-7881 Date:_____________ Time:______________ Dear Edmund: The undersigned, Gel Tech, L.L.C., an Arizona limited liability company ("Borrower"), refers to the Credit Agreement dated as of January 11, 2000 (as it may hereafter be amended, modified, extended or restated from time to time, the "Credit Agreement"), between Borrower and Imperial Bank, a California banking corporation. Capitalized terms used herein and not otherwise defined herein shall have the meanings assigned to such terms in the Credit Agreement. The Borrower hereby gives notice that it requests an Advance pursuant to the Credit Agreement and sets forth below the terms of such requested Advance: A. Date of Advance ____________________ B. Principal Amount of Advance ____________________ Sincerely, GEL TECH, L.L.C., an Arizona limited liability company By: ------------------------------------------ Name: ------------------------------------------ Title: ------------------------------------------ EXHIBIT "B" COMPLIANCE CERTIFICATE FOR PERIOD ENDING ------------------ ("REPORTING PERIOD") Imperial Bank 400 East Van Buren, Suite 900 Phoenix, Arizona 85004 Attention: Edmund Ozorio Telecopier: (602) 261-7881 Date: _____________ Dear Ladies and Gentlemen: This Compliance Certificate refers to the Credit Agreement dated as of January 11, 2000 (as it may hereafter be amended, modified, extended or restated from time to time, the "Credit Agreement"), between Gel Tech, L.L.C., an Arizona limited liability company (the "Borrower") and Imperial Bank, a California banking corporation. Capitalized terms used and not otherwise defined herein shall have the meanings assigned to such terms in the Credit Agreement. Pursuant to Section 7.1 of the Credit Agreement, the undersigned, hereby certifies that: 1. To the best of the undersigned's knowledge, after a review of the activities of Borrower during the Reporting Period, Borrower has observed, performed and fulfilled each and every obligation and covenant contained in the Credit Agreement and no "Event of Default" thereunder exists [or if so, specifying the nature and extent thereof and any corrective actions taken or to be taken]. 2. All financial statements of Borrower delivered to Lender during the Reporting Period, if any, to the undersigned's knowledge, fairly present in all material respect the financial position of the Borrower and the results of its operations at the dates and for the periods indicated and have been prepared in accordance with GAAP. 3. As of the last day of the Reporting Period, the computations below were true and correct: Section 8.9 - FINANCIAL COVENANTS: (a) LIQUIDITY PERCENTAGE Numerator: Cash on deposit with Lender $ plus: Funds invested with Lender $ equals: Eligible Deposit Amount A$ Denominator: RLC Balance B$ A divided by B equals A/B__________% Minimum 30.0% (b) NET INCOME (FISCAL QUARTER STARTING 3/31/00) (in thousands) Actual $ ------------ ------------ ------------ ------------ Minimum $ 0 ------------ GEL TECH, L.L.C., an Arizona limited liability company By: ------------------------------------------ Name: ------------------------------------------ Title: ------------------------------------------ EXHIBIT "C" BORROWING BASE CERTIFICATES EXHIBIT "D" When recorded, return to: Streich Lang, P.A. Renaissance One Two North Central Avenue Phoenix, Arizona 85004-2391 Attention: Henry A. Perras, Esq. WAIVER/RELEASE OF LIEN RIGHTS To induce IMPERIAL BANK, a California banking corporation, whose address is 400 East Van Buren, Suite 900, Phoenix, Arizona 85004 (hereinafter called "Lender"), to grant and/or continue financial accommodations to GEL TECH, L.L.C., an Arizona limited liability company, whose address is 246 East Watkins Street, Phoenix, Arizona 85004 (hereinafter called "Debtor"), the undersigned covenants and agrees as follows: 1. Debtor has executed a Security Agreement dated January 11, 2000 (hereinafter called the "Security Agreement"), granting to Lender a security interest in that property of Debtor described in the Security Agreement and on Schedule "A" attached hereto and made a part hereof (hereinafter called the "Collateral"). The Collateral includes, but is not limited to, fixtures, equipment, machinery, furniture and furnishings that are now or hereafter may be installed, placed or located on the real property described on Schedule "B" attached hereto (hereinafter called the "Real Property"), which is owned by the undersigned or in which the undersigned has or claims a lien or interest. 2. The undersigned hereby consents to the Security Agreement and to all liens, security interests and rights of Lender in the Collateral arising from the Security Agreement and waives and releases all rights of levy for rent and all liens, security interests, claims, rights and demands of every kind against the Collateral. 3. The undersigned hereby grants permission to Lender, its officers, agents and employees, to enter, at any time, the Real Property or any other premises where the Collateral may be found and to remove the Collateral, provided that Lender shall promptly reimburse the undersigned for the cost of repairing any physical injury done to the Real Property as a result of the removal of the Collateral. 4. The Collateral shall at all times be personal property, shall not constitute fixtures or be part of the Real Property and shall not be subject to distraint or execution by the undersigned or to any claim of the undersigned. 5. The undersigned shall notify any purchaser of the Real Property, and any subsequent mortgagee or other encumbrance holder or claimant, of the existence of this Waiver/Release Agreement, which shall be binding upon the executors, administrators, successors, assigns and transferees of the undersigned and shall inure to the benefit of the successors and assigns of Lender. 6. In the event of any default under its lease or agreement with Debtor, then prior to: (i) terminating its lease or agreement with Debtor, (ii) incurring any attorneys' fees, or (iii) incurring any other expenses which it would, but for this provision, charge Debtor, the undersigned shall notify Lender in writing at the above address of such default and allow Lender 30 days after receipt of such notice to remedy any such default on behalf of Debtor; provided, however, that if the default cannot reasonably be remedied within that 30-day period, the undersigned shall not terminate its lease or agreement with Debtor or incur any attorneys' fees or other expenses so long as Lender shall commence to remedy the default within that 30-day period and thereafter diligently prosecute the remedy to completion. IN WITNESS WHEREOF, the undersigned has executed this Agreement this ____ day of ____________________. ----------------------------------- ----------------------------------- By: ------------------------------------------ Name: ------------------------------------------ Title: ------------------------------------------ Address: ----------------------------------- ----------------------------------- STATE OF ____________________ ) ) ss. County of ___________________ ) The foregoing instrument was acknowledged before me this _____ day of __________________________, by __________________________________________, the ____________________________ of ______________________________________________ _______________________, on behalf of said ________________. IN WITNESS WHEREOF, I hereunto set my hand and official seal. ------------------------------------------ Notary Public My commission expires: - ---------------------- SCHEDULE "A" COLLATERAL DESCRIPTION All of the property described below in, to or under which Debtor now has or hereafter acquires any right, title or interest, whether present, future or contingent, and in Debtor's expectancy to acquire such property (all of the property described on this schedule is herein called the "Collateral"): (a) All accounts, general intangibles, instruments, documents and chattel paper (including all accounts receivable, notes, drafts, lease agreements and security agreements), and all goods, if any, represented thereby, whether now existing or hereafter acquired or created from time to time in the course of Debtor's business; (b) All inventory now owned or hereafter acquired, including all goods held for sale or lease in Debtor's business, as now or hereafter conducted, and all materials, work in process and finished goods used or to be consumed in Debtor's business (whether or not the inventory is represented by warehouse receipts or bills of lading or has been or may be placed in transit or delivered to a public warehouse); (c) All equipment now owned or hereafter acquired, including all furniture, fixtures, furnishings, vehicles (whether titled or non-titled), machinery, materials and supplies, wherever located, including but not limited to such items described on the collateral schedule (if any) attached hereto and by this reference made a part hereof, together with all parts, accessories, attachments, additions thereto or replacements therefor; (d) All instruments, documents and chattel paper now held by or hereafter delivered to Secured Party, together with all property rights and security interests evidenced thereby, all increases thereof (including, without limitation, stock dividends), all profits therefrom and all transformations thereof, including but not limited to such items described on the collateral schedule (if any) attached hereto and by this reference made a part hereof (all hereinafter called the "Specific Collateral-in-Possession"); (e) All tax refund claims, all policies or certificates of insurance covering any of the Collateral, all contracts, agreements or rights of indemnification, guaranty or surety relating to any of the Collateral, and all claims, awards, loss payments, proceeds and premium refunds that may become payable with respect to any such policies, certificates, contracts, agreements or rights; (f) All ledger cards, invoices, delivery receipts, worksheets, books of accounts, statements, correspondence, customer lists, files, journals, ledgers and records in any form, written or otherwise, related to any of the Collateral; (g) Tradenames, trademarks, trademark applications, copyrights, copyright applications, service marks and the entire goodwill of or associated with the business now or hereafter conducted by the Debtor; (h) All claims for loss or damage to or in connection with any of the Collateral, all other claims in any form for the payment of money, including tort claims, and all rights with respect to such claims and all proceeds thereof; (i) All accessions to any of the Collateral; and (j) All products and proceeds of the Collateral, in any form, including all proceeds received, due or to become due from any sale, exchange or other disposition of any of the Collateral, whether such proceeds are cash or noncash in nature or are represented by checks, drafts, notes or other instruments for the payment of money. All "Collateral Schedules," if any, attached hereto are hereby incorporated into this collateral description as if set forth here and at each reference thereto. SCHEDULE "B" REAL PROPERTY EX-23 3 CONSENT OF ANGELL & DEERING INDEPENDENT AUDITORS' CONSENT To the Board of Directors of GumTech International, Inc. We consent to the incorporation by reference in the following Registration Statements of Gum Tech International, Inc. and any amendments thereto (1) No. 333-06199 on Form S-8; (2) No. 333-34019 on Form S-8; (3) No. 333-28821 on Form S-3; (4) No. 333-38555 on Form S-3; (5) No. 333-82253 on Form S-3; (6) No. 333-91679 on Form S-3 and (7) No. 333-30194 on Form S-3 of our report dated February 5, 2000, relating to the consolidated balance sheet of Gum Tech International, Inc. as of December 31, 1999 and 1998 and the related consolidated statements of operations, cash flows and changes in stockholders' equity for the years ended December 31, 1999, 1998 and 1997, which report appears or is incorporated by reference in the December 31, 1999 Annual Report on Form 10-K of Gum Tech International, Inc. /s/ Angell & Deering Denver, Colorado March 29, 2000 EX-27 4 FINANCIAL DATA SCHEDULE
5 12-MOS DEC-31-1999 DEC-31-1999 5,595,075 0 8,247,662 50,482 1,966,819 16,241,470 5,135,125 1,724,276 20,027,914 3,711,001 2,240,959 0 1,000,000 23,687,579 (11,985,742) 20,027,914 15,500,024 15,500,024 7,341,362 6,369,938 0 45,000 1,311,792 600,496 0 0 0 0 0 (773,621) (0.14) (0.14)
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