SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-KSB/A
ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2004
Commission File No. 000-23016
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MEDIFAST, INC.
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DELAWARE 13-3714405
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Incorporation State Tax Identification number
11445 CRONHILL DRIVE, OWINGS MILLS, MD 21117
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Principal Office Address
Phone (410) 581-8042
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, PAR VALUE $.001 PER SHARE
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Check whether the Registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12
months, and (2) has been subject to such filing requirements for the past 90
days.
Yes _X_ No ___
Check if disclosure of delinquent filers pursuant to Item 405 of Regulation S-B
is not contained herein, and will not be contained, to the best of registrant's
knowledge, in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-KSB or any amendment to this Form 10-KSB.
[ ]
The issuer's revenues for the fiscal year ended December 31, 2004 were
$27,340,000
Aggregate market value of voting stock held by non-affiliates of registrant
(deemed by registrant for this purpose to be neither a director nor a person
known to registrant to beneficially own, exclusive of shares subject to
outstanding options, less than 5% of the outstanding shares of registrant's
Common Stock) computed by reference to the closing sales price as reported on
the American Stock Exchange on December 31, 2004: $3.52.
Number of shares outstanding of registrant's Common Stock, as of December 31,
2004: 11,001,070 shares
Documents incorporated by reference: None
Transitional Small Business Disclosure Format (check one)
Yes ___ No _X_
EXPLANATORY NOTE
This Form 10-KSB/A is being filed for the purpose of adding to or clarifying
disclosures to our Controls and Procedures, Significant Accounting Policies, and
footnotes previously included in our Form 10-KSB for the fiscal year-ended
December 31, 2004. The addition to our Controls and Procedures includes a report
on management's internal control over financial reporting required by Item
308(c) of Regulation SB. With respect to our Significant Accounting Policies, we
have added greater detail about our revenue recognition policy. The Trademark
footnote has been revised to clarify and supplement disclosures that might be
useful to the readers of our financial statements. In addition, we have added
updated certifications at Exhibits 31.1, 31.2 & 32.1 to conform to Item
601(b)(31) and (32) of Regulation SB.
Except as described above we have not amended or modified the financial
information or other disclosures on Form 10-KSB as originally filed. This Form
10-KSB/A does not reflect events occurring after the filing of the original Form
10-KSB, nor does it modify or update the disclosures therein in any way other
than as required to reflect the amendments described above and set forth below.
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PART I
ITEM 1. BUSINESS.
SUMMARY
Medifast, Inc. (the "Company", or "Medifast") is a Delaware
corporation, incorporated in 1980. The Company's operations are primarily
conducted through five of its wholly owned subsidiaries, Jason Pharmaceuticals,
Inc. ("Jason"), Take Shape for Life, Inc. ("TSFL"), Jason Enterprises, Inc.,
Jason Properties, LLC and Seven Crondall, LLC. The Company is engaged in the
production, distribution, and sale of weight management and disease management
products and other consumable health and diet products. Medifast, Inc.'s product
lines include weight and disease management, meal replacement and sports
nutrition products manufactured in a modern, FDA approved facility in Owings
Mills, Maryland.
MARKETS
Over the past 20 years the obesity rates in the United States have
increases dramatically. The Centers for Disease Control (CDC) estimate that 64%
of the U.S. adult population is overweight or obese. The amount of overweight
adolescents and children ages 6-19 years have more than tripled since 1980.
Currently, the CDC estimates that over 30% of adolescents and children are
overweight.
The CDC estimates that in the U.S. the associated costs with overweight
and obesity reached $117 billion in 2000. The most common health problems
associated with obesity are type II diabetes, coronary heart disease,
hypertension and stroke, depression and certain forms of cancer. It's also
estimated that poor nutrition and physical inactivity account for more than
300,000 premature deaths per year in the U.S.
A 2003 market research study concluded consumers spend about $39
billion per year trying to lose weight or prevent weight gain. This includes
consumer spending on diet foods, medically supervised and commercial weight loss
programs, diet books, appetite suppressants, fitness clubs, diet sodas, and
videos and cassettes.
DISTRIBUTION CHANNELS
THE MEDIFAST LIFESTYLES PROGRAM- The Medifast Lifestyles Program is a medically
supported network of health care professionals who support patients on the
Medifast program. Patients order products directly from Medifast's website or
toll-free number. The Lifestyles medical practitioner ensures that each patient
receives personalized attention throughout the weight loss program. Management
estimates that more than 15,000 physicians nationwide have prescribed Medifast
as a treatment for their overweight patients since 1980, and an estimated 1
million patients have used its' products to lose and maintain their weight.
The Company maintains an in-house Lifestyles support program for
customers who have a Medifast physician, who does not have the time to provide
counseling support. These in-house qualified medical practitioners coordinate
supervision of the Medifast program with the patient's primary care physician.
Customers have access to qualified medical practitioners for program support and
advice by calling a toll free telephone help line or by e-mail. The in-house
medical and marketing staff have developed extensive program support materials
on Medifast products and programs, which are placed free of charge in customer
orders, in addition to being available on the Company's website.
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TAKE SHAPE FOR LIFE(TM) - The Take Shape for Life program is a comprehensive,
medically supervised health network designed to assist in long-term weight loss,
health management, or nutritional supplementation. The program features Medifast
weight and disease management products, along with a team of personal and
professional Health Advisors, to support the individual through their weight and
or health management program.
Program entrants are encouraged to consult with their primary care
physician and a Take Shape for Life Health Advisor to determine the Medifast
program that is right for them. Physician directed Health Advisors are
supported, educated and qualified by The Health Institute, a training group
staffed by Medifast professionals. Health Advisors obtain Medifast qualification
based upon testing of their knowledge on Medifast products and programs.
The Company has developed a Tasting program, which is similar to a
home-based Party Plan model for introducing new customers to the Medifast
products and program. Physician directed Health Advisors recruit program
entrants and provide them with program information, Medifast product samples and
the opportunity to order products.
MEDIFAST PHYSICIANS AND CLINICS - Many Medifast physicians have chosen to
implement the Medifast program within their practice. These physicians carry an
inventory of Medifast products and resell them to patients. They also provide
appropriate testing, medical support and evaluations for patients on the
program. Physicians can also direct their patients to order directly from
Medifast, if they do not have space to stock inventory.
HI-ENERGY WEIGHT CONTROL CENTERS - In 2003, the Company acquired Hi-Energy
Weight Control Centers, a national company specializing in weight management
programs, with weight loss centers in over 50 locations. During 2004 the number
of Hi-Energy Weight Control Centers grew to over 100 nationally. Hi-Energy
Weight Control Centers offer a competitive marketing edge through a regional
advertising program, exclusive territories and marketing support. The Company
continues to seek out qualified licensees to add to its growing number of weight
control clinics nationwide. Additionally, the Company is operating 11
corporately owned clinics that serve as models to attract qualified licensees.
CONSUMERS CHOICE SYSTEM(TM) - Founded in March 1996, and acquired by Medifast in
2003, CCS is a retail distribution company focusing on high quality, innovative
products for women. CCS products, under the Woman's Wellbeing brand include
supplements addressing menopause relief, coronary health and joint health.
Products under the UTI brand address the detection, relief and prevention of
urinary tract and bladder infections. CCS products are currently distributed in
retail outlets nationwide. The Company is currently launching Medifast's
"Maintain," a pharmacist-directed Diabetic line of products. The CCS business is
supported by a website and toll-free customer service line where customers can
inquire about product information and retail availability.
THE MEDIFAST(R) BRAND
Medifast is a medically supervised weight management program, which
specializes in multidisciplinary patient education programs using the highest
quality meal replacement supplements. In recent years Medifast's core products
and programs have continued to expand over a wellness spectrum to include
disease management products. Medifast offers products specially formulated for
Diabetics as well as products for women's health, joint health and coronary
health.
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In 2003, Medifast began a two-year study with The Johns Hopkins
Bloomberg School of Public Health to evaluate the efficacy of its Medifast Plus
for Diabetics compared to basic nutrition recommendations by the American
Diabetes Association (ADA). Preliminary results showed that participants using
Medifast Plus for Diabetics lost twice as much weight as those following the
ADA's guidelines. Additionally, two-thirds of those on the Medifast program lost
at least 5% of their weight, which is a standard measure of the Food and Drug
Administration's (FDA) threshold to indicate clinically significant weight loss,
versus one-quarter of those on the ADA diet. In addition to weight loss, the
initial study results indicate that Medifast participants sustained an average
9% decrease in blood fasting glucose and an average 19% decrease in insulin
levels. The final study results are expected to be released in 2005.
Many Medifast Plus for Diabetics products have earned the coveted Seal
of Approval from the Glycemic Research Institute. The line, designated as Low
Glycemic, does not overly stimulate blood glucose and insulin and does not
stimulate fat-storing enzymes. Products included in the Medifast Plus for
Diabetics line consist of three delicious patented shakes, home style chili,
apple cinnamon, French vanilla berry oatmeal, maple and brown sugar oatmeal,
creamy chicken soup, creamy broccoli soup, chicken noodle soup, minestrone soup
and two snack bars.
The Company expanded the product line of its cutting edge adolescent
weight management program, Fit!(TM) in 2003. The line, which formerly consisted
of only one ready-to-drink and two chocolate bars, now consists of three
delicious powdered shakes, vanilla berry oatmeal, chicken noodle soup, hot cocoa
with marshmallows, chocolate pudding, 3 power-packed bars and one
ready-to-drink.
Medifast has commissioned another study at Johns Hopkins that began in
2004 to evaluate the effectiveness of Medifast Fit! meal replacements in a
weight loss program for overweight children. The study aims to prove that the
Medifast program will generate greater initial weight loss, greater reductions
in body fat and greater improvements in overall health than a standard reference
diet. The study will also evaluate the weight loss outcomes in a joint
parent-child approach versus children dieting without parental support.
Most Medifast(R) products qualify to make the FDA's heart healthy
claim, "May Reduce the Risk of Heart Disease." In order to make this claim, a
product must contain at least 6.25 grams of soy protein per serving and be low
in fat, saturated fat, and cholesterol. Unlike popular fad diets and herbal
supplements, Medifast(R) products are a safe, nutritionally balanced choice,
offering gender specific formulas containing high protein and low carbohydrates,
a soy protein source rather than animal protein source, and vitamin and mineral
fortification. It is very difficult to meet the minimum recommended nutritional
requirements on a low-calorie diet, but a dieter can easily meet these
requirements using the nutrient dense Medifast(R) brand of meal replacement food
supplements.
Medically supervised, low calorie diets are continuing to gain
popularity, as consumers search for a safe and effective solution that provides
balanced nutrition, quick weight loss and valuable behavior modification
education. In addition, consumers are becoming more aware of chronic diseases
such as diabetes and coronary health.
COMPETITION
There are many different kinds of diet products and programs within the
weight loss industry. These include a wide variety of commercial weight loss
programs, pharmaceutical products, weight loss books, self-help diets, dietary
supplements, appetite suppressants and meal replacement shakes and bars.
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The Company has proven it can compete in this competitive market
because its products have been clinically tested and proven at Johns Hopkins
University and have been safely and effectively used by customers for over 20
years. Medifast has been on the cutting edge of product development with soy
based nutritional and weight management products since 1989. These products are
formulated with high-quality, low-calorie, low-fat ingredients that provide
alternatives to fad diets or medicinal weight loss remedies.
PRODUCTS
The Company offers a variety of weight and disease management products
under the Medifast(R) brand and for select private label customers. The
Medifast(R) line includes Medifast(R) 55, Medifast(R) 70, Medifast(R) Plus for
Appetite Suppression, Medifast(R) Plus for Diabetics, Medifast(R) Plus for Joint
Health, Medifast(R) Plus for Women's Health, Medifast(R) Plus for Coronary
Health, Medifast(R) Fit!, Medifast(R) Take ShapeTM, Medifast(R) Supplement Bars,
Medifast(R) Creamy Soups, Medifast(R) Minestrone Soup, Medifast(R) Hot Cocoa,
Medifast(R) Oatmeals, Medifast(R) Pro Teas, Medifast(R) Chicken Noodle Soup,
Medifast(R) Fast Soups, Medifast(R) Homestyle Chili and Medifast(R) Multigrain
Crackers.
Medifast nutritional products are formulated with high-quality,
low-calorie, low-fat ingredients. Many Medifast products are soy based and
contain 24 vitamins and minerals, as well as other nutrients essential for good
health. The Company uses DuPont Protein Technologies' Supro(R) brand soy
protein, which is a high-quality complete protein derived from soybeans.
The Consumers Choice Systems subsidiary sells products under the
private label Woman's Wellbeing. These products include Menopause Relief Pills,
Personal Cream Lubricant, a UTI Home Screening Test Stick, UTI Cleansing Wipes,
UTI Cranberry-Plus-Blueberry, Women's Wellbeing Meal Replacements and
all-natural weight loss pills.
Medifast(R) brand awareness continues to expand through product
development, line extensions, and the Company's emphasis on quality customer
service, technical support and publications developed by the Company's marketing
staff. Medifast(R) products have been proven to be effective for weight and
disease management in clinical studies conducted by the U.S. government and
Johns Hopkins University. The Company has continued to develop its sales and
marketing operations with qualified management and innovative programs. The
Company's facility in Owings Mills, MD manufactures powders and supplement bars
and subcontracts the production of its Ready-to-Drink products.
NEW PRODUCTS
The Company expanded the Medifast product line with twenty-three new
products in 2004. Medifast introduced Medifast(R) Cappuccino, Medifast(R) Chai
Latte, Medifast(R) Hot Cocoa with Marshmallows, Medifast(R) Maple and Brown
Sugar Oatmeal, Medifast(R) Banana Cream Pudding, Medifast(R) Chicken and Wild
Rice Soup, Medifast(R) Cranberry Mango Fruit Drink, Medifast(R) Tropical Fruit
Punch Drink and Medifast(R) Garden Vegetable Crackers. Medifast also introduced
a line of salad dressings and three new meal replacement bars. Last, the Company
introduced a line called Essential 1 Meals that includes grilled chicken
breasts, grilled beef patties, tuna salad and chicken salad.
Consumers Choice Systems reformulated its existing Menopause Relief
capsules, adding a new type of soy and developing the product into an extended
time-release formula, branded as Menopause Relief 24. Menopause Relief 24 is the
only time release formula for relieving the symptoms of menopause in the market
today. The Company also introduced two new all natural weight loss pills in 2004
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under the private label Woman's Wellbeing called Active Trim and Always Trim.
These two new diet formulas are all-natural capsules that help burn fat, boost
energy and suppress appetite.
MARKETING
The Company continued to build and leverage its core Medifast brand
through multiple marketing strategies to its target audiences. Print
advertising, television, and radio were all used to target new customers by
stressing Medifast's quick, easy and safe approach to weight management. Also,
direct mail has been utilized to encourage and support existing customers.
Online advertising began to be used in 2004 and it included keyword
search, banner ads, affiliate programs, and targeted direct email campaigns. The
online advertising has been supported by Medifast's well designed, user-friendly
website, which provides a wealth of information and customer support for easy
ordering functionality.
The Company has expanded its public relations efforts in order to gain
exposure in the media to promote greater consumer awareness of the Medifast
brand. Mr. Dick Vitale, the famous basketball commentator, continues to be the
Company's spokesperson, particularly supporting the Company's Take Shape for
Life programs and its Diabetic products and programs.
SALES
The Company's Sales division handles three primary areas:
Physician and Clinic Sales-- The sales team is responsible for prospecting
larger medical accounts, clinics, hospitals, and HMOs. During 2004, the sales
team attended a number of medical professional trade shows, which expanded
Medifast's penetration of the clinical business segment.
Hi-Energy Weight Control Centers-- During 2004 Hi-Energy provided ongoing
support to its licensees as well as to the Company's 11 corporately owned
centers which opened at the end of 2004. This support included marketing
materials, ads, on-site trainings, fitness programs, nutritional programs and
clinical operation materials and forms. Employees attended professional trade
shows, prospected new licensees, and partnered with area physicians to provide
Hi-Energy programs and services to local hospitals and private practices.
Take Shape for Life-- Provides a sales force of Health Advisors who support
patients and their primary care physicians with a defined support program.
MANUFACTURING
Jason Pharmaceuticals, Inc., the Company's wholly owned manufacturing
subsidiary, produces over 95% of the Medifast products in a state-of-the-art
food and pharmaceutical-grade facility in Owings Mills, Maryland. Management
purchased the plant in July 2002 for $3.4 million. The Company purchased
additional lines for the internal production of its growing nutritional meal
replacement bar product line in 2003.
The manufacturing facility has the capacity for significant increases
to its production output with minimal capital expenditures. It is presently
operating on a single shift. Adding an additional shift, along with diminutive
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machinery expenses would enable the Company to produce enough products to
generate over $200 million in sales.
Manufacturing processes, product labeling, quality control and
equipment are subject to regulations and inspections mandated by the Food & Drug
Administration (FDA), the Maryland State Department of Health and Hygiene, and
the Baltimore County Department of Health. The plant strictly adheres to all GMP
practices and has maintained its status as an "OU" (Orthodox Union)
Kosher-approved facility since 1982.
FINANCING AND STRATEGIC ALTERNATIVES
Management desires to develop strategic marketing relationships with
other third parties having existing relationships with the medical professional
community, specifically to reach the diabetic population in the United States
and to secure international distribution in Europe and Asia.
GOVERNMENTAL REGULATION HISTORY
The formulation, processing, packaging, labeling and advertising of the
Company's products are subject to regulation by several federal agencies, but
principally by the Food and Drug Administration (the "FDA"). The Company must
comply with the standards, labeling and packaging requirements imposed by the
FDA for the marketing and sale of medical foods, vitamins, and nutritional
products. Applicable regulations prevent the Company from representing in its
literature and labeling that its products produce or create medicinal effects or
possess drug-related characteristics. The FDA could, in certain circumstances,
require the reformulation of certain products to meet new standards, require the
recall or discontinuation of certain products not capable of reformulation, or
require additional record keeping, expanded documentation of the properties of
certain products, expanded or different labeling, and scientific substantiation.
If the FDA believes the products are unapproved drugs or food additives, the FDA
may initiate similar enforcement proceedings. Any or all such requirements could
adversely affect the Company's operations and its financial condition.
The FDA also requires "medical food" labeling to list the name and
quantity of each ingredient and identify the product as a "weight
management/modified fasting or fasting supplement" in the labeling.
To the extent that sales of vitamins, diet, or nutritional supplements
may constitute improper trade practices or endanger the safety of consumers, the
operations of the Company may also be subject to the regulations and enforcement
powers of the Federal Trade Commission ("FTC"), and the Consumer Product Safety
Commission. The Company's activities are also regulated by various agencies of
the states and localities in which the Company's products are sold. The
Company's products are manufactured and packaged in accordance with customers'
specifications and sold under their private labels both domestically and in
foreign countries through independent distribution channels.
PRODUCT LIABILITY AND INSURANCE
The Company, like other producers and distributors of ingested
products, faces an inherent risk of exposure to product liability claims in the
event that, among other things, the use of its products results in injury. The
Company maintains insurance against product liability claims with respect to the
products it manufactures. With respect to the retail and direct marketing
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distribution of products produced by others, the Company's principal form of
insurance consists of arrangements with each of its suppliers of those products
to name the Company as beneficiary on each of such vendor's product liability
insurance policies. The Company does not buy products from suppliers who do not
maintain such coverage.
EMPLOYEES
At December 31, 2004, the Company employed 130 full-time and contracted
employees, of whom 46 were engaged in manufacturing, warehouse management, and
shipping, and 84 in marketing, administrative, call center and corporate support
functions. None of the employees are subject to a collective bargaining
agreement with the Company.
ITEM 2. DESCRIPTION OF PROPERTY
The Company owns a 49,000 square-foot facility in Owings Mills,
Maryland, which contains its Corporate Headquarters and manufacturing plant. In
2003, the Company purchased a state-of-the-art 119,000 square-foot distribution
facility in Ridgely, Maryland. The facility gives the Company the ability to
distribute over $200 million of Medifast product sales per year. In 2004, the
Company purchased a 3,000 square foot conference and training facility in Ocean
City, Maryland. The facility will be used to conduct corporate training
meetings, Board of Director Meetings and employee morale and wellness programs.
The Company has 11 leases for its corporately owned Hi-Energy Weight Control
clinics throughout Florida, Arkansas, Mississippi and Texas. The leases range in
terms from one to five years.
ITEM 3. LEGAL PROCEEDINGS.
On December 16, 2003, John Donavin, on behalf of the General Public, filed suit,
against Jason Pharmaceuticals, Inc. in the Superior Court of the State of
California, City and County of San Francisco. The suit alleges that Medifast
bars contain Vitamin D3 or Vitamin D in violation of Federal laws and
regulations, and asks for equitable relief and damages. The Company's General
counsel believes that the Company's formulation used in its "meal replacement"
bars for over 20 years has been and is in conformity with current and past FDA
regulations. The Company believes that the plaintiff's claim lacks merit and may
even be considered frivolous. The suit has been stayed upon appeal to the FDA to
clarify its regulations. The Company believes recent legislation restricting the
ability of plaintiff's lawyers from filing local class action suits should favor
the Company's legal position in this case.
A former counsel continues to claim that he transferred his personal Medifast
stock to a third party organization in 2000, in an attempt to keep these assets
out of his bankrupt estate and therefore outside the jurisdiction of the
Bankruptcy Court. The Company contests, and will vigorously defend, all such
claims made by him. The Trustee in Bankruptcy for his bankruptcy estate has
determined that he has no authority to transfer these shares, and has concluded
that the attempted transfer was therefore invalid. The trustee has demanded that
he produce the shares, and plans to file a petition with the Bankruptcy Court
requesting that the Court order him to do so. These assets will be made a part
of the bankrupt estate and will be used to pay creditors.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Medifast Annual Shareholder Meeting was held on September 3, 2004
at Sunrise Distributing, the Company's distribution headquarters. The
shareholders voted Bradley T. MacDonald (98%) and Rev. Donald F. Reilly, O.S.A.*
(98%) as Class I Directors that will hold office until 2007, Scott Zion* (98%)
and Michael C. MacDonald (98%) as Class II Directors, and Mary T. Travis* (98%),
Michael J. McDevitt (98%), and Rev. Joseph Calderone, O.S.A.* (98%) as Class III
Directors. Class II and III Directors will hold office until the next Annual
Shareholders Meeting at which time their respective class term expires and their
respective successors will be duly elected and qualified. Additionally, the
shareholders approved the appointment of Bagell, Josephs & Company, LLC, an
independent member of the BDO Seidman Alliance, as the Company's independent
auditors for the fiscal year ending December 31, 2004.
Additionally the Board of Directors elected Mr. Bradley T. MacDonald as
Chairman of the Board and CEO and Mr. Conrad Sump, Esq. as Secretary of the
Corporation.
* Independent Director
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
(a) The Company's Common Stock has been quoted under the symbol MED
since December 20, 2002. The old symbol, MDFT, had been traded since February 5,
2001. The common stock is traded on the American Stock Exchange. The following
is a list of the low and high closing prices by fiscal quarters for 2004 and
2003:
2004
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Low High
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Quarter ended March 31, 2004 ............... 8.60 14.05
Quarter ended June 30, 2004 ................ 4.78 9.33
Quarter ended September 30, 2004 ........... 3.05 5.09
Quarter ended December 31, 2004 ............ 3.20 5.24
2003
----------------
Low High
---- ------
Quarter ended March 31, 2003 ............... 3.79 6.10
Quarter ended June 30, 2003 ................ 4.80 14.95
Quarter ended September 30, 2003 ........... 11.15 17.21
Quarter ended December 31, 2003 ............ 11.60 18.49
(b) The quotations reflect inter-dealer prices, without retail mark-up,
markdown or commissions and may not represent actual transactions.
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(c) There were 6,366 record holders of the Company's Common Stock, as
of December 31, 2004. The Company had 6 preferred holders of the Company's stock
as of December 31, 2004.
(d) No dividends on common stock were declared by the Company during
2004 or 2003.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
FORWARD LOOKING STATEMENTS
This document contains forward-looking statements which may involve
known and unknown risks, uncertainties and other factors that may cause
Medifast, Inc. actual results and performance in future periods to be materially
different from any future results or performance suggested by these statements.
Medifast, Inc. cautions investors not to place undue reliance on forward-looking
statements, which speak only to management's expectations on this date.
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2004 COMPARISON WITH 2003
OPERATING
Consolidated net sales for 2004 were $27,340,000 as compared to 2003
sales of $25,379,000, an increase of $1,961,000, or 8%. A major reason for the
revenue increase for the Company is attributed to the continued success from the
Take Shape for Life division, national advertising, the Hi-Energy acquisition
and the redesigned website. The Take Shape for Life division added a Take Shape
for Life replicating website option for Health Advisors, an Internet
distribution program for their customers, as well as the new Tasting Party
Program. These have proven to be effective at generating revenues and recruiting
Health Advisors into the Take Shape for Life Network. The national advertising
campaign included print, TV, radio, direct mail and web marketing. The Company
increased its Internet sales in 2004 as compared to 2003, by redesigning its
website and increasing its web marketing. The redesigned website created an easy
to use shopping cart and a more user-friendly interface. The acquisition of
Hi-Energy Weight Control Centers contributed to revenues throughout 2004.
Cost of sales decreased from $6,825,000 in 2003 compared to $6,746,000
in 2004, a decrease of $79,000. The decrease is attributed to decreases in costs
through economies of scale.
Gross margins increased to 75% in 2004 from 73% in 2003. This was
largely due to greater economies of scale as a result of the acquisition of the
Company's 119,000 square foot distribution facility thereby creating higher
margins of the Medifast(R) products through purchasing capabilities. The
increase is also attributed to the increased margin of Medifast(R) direct and
Internet sales directly to patients via the Lifestyles and Take Shape for Life
programs. Selling, general and administrative (SG&A) expenses of $17,590,000 for
2004 were $2,634,000 more than the $14,956,000 in 2003, due to increased
advertising expenses to include television advertising, celebrity endorsements,
expenses involved with starting and operating new corporately owned Hi-Energy
Weight Control Clinic locations, the expansion of the Take Shape for Life
commissioned sales organization, and overall corporate infrastructure
improvements. The Company experienced income from operations for the year 2004
of $3,004,000. This compares with income from operations of $3,598,000 in 2003,
a decrease of 17%.
In 2004, the Company realized a tax expense of $1,159,000, as compared
to a tax expense of $1,148,000 in 2003 as a result of the elimination of the
deferred tax asset and the net operating loss for income tax purposes. Interest
expense increased to $245,000 in 2004, as compared to $154,000 in 2003. This
increase was due to a complete year of additional debt, which was acquired in
2003.
A preferred stock dividend in the amount of $18,000 was expensed to
shareholders in 2004.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 2005, the Company had net working capital of
$7,465,000, a decrease of $1,933,000 from the $9,398,000 net working capital
balance at December 31, 2003. Cash and investment securities at December 31,
2004 were $3,238,000. On November 7, 2003 Medifast, Inc.'s wholly owned
subsidiary Jason Pharmaceuticals, Inc. increased its Secured Line of Credit from
$1,000,000 to $5,000,000 from Mercantile Safe-Deposit and Trust of Baltimore,
Maryland. The line of credit is at LIBOR plus two percent. The increased line
may be used to finance equipment, inventory, and receivables of Medifast, Inc.
The Company currently has no off-balance sheet arrangements.
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In the year ended December 31, 2004, the Company generated a negative
cash flow of $2,332,000 from operations, primarily attributable to purchases of
inventory and the pay down of accounts payable and accrued expenses.
In the year ended December 31, 2004, net cash used in investing
activities was $3,940,000, which primarily consisted of the purchase of
intangible assets, purchase of property and equipment, and the purchase of a
building.
In the year ended December 31, 2004, net cash used in financing
activities was $304,000, representing the principal repayments of long-term
debt.
In pursuing its business strategy, the Company may require additional
cash for operating and investing activities. The Company expects future cash
requirements, if any, to be funded from operating cash flow and cash flow from
financing activities.
There are no current plans or discussions in process relating to any
material acquisition that is probable in the foreseeable future
On June 11, 2003 Jason Enterprises, Inc. acquired the assets of
Consumers Choice Systems, Inc., a Delaware Corporation. The Company obtained all
the assets of the business that support their retail and international business
including the distribution rights in 18,000 retail food and drug stores. Jason
Enterprises, Inc. acquired the assets for 76,120 shares of Medifast, Inc.
restricted common stock and 50,000 five-year warrants at a purchase price of
$10.00 per share. The transaction will be accounted for as an asset purchase
transaction. The Company is expecting to record limited and selected liabilities
that amount to approximately $1.35 million.
On July 24, 2003 the Company announced an agreement with Amazon.com.
Through the agreement the Consumer Choice Systems, Women's Wellbeing branded
products will be offered on Amazon.com's website in the women's health section.
On July 25, 2003, the Company announced that it had sold an aggregate
of 550,000 shares of common stock and warrants to purchase 82,500 shares of
common stock (the "PIPE Shares") to Mainfield Enterprises, Inc. and Portside
Growth & Opportunity Fund. The shares of common stock were sold for a cash
consideration of $12.40 per share, or a total of $6,820,000, and the warrants,
exercisable for a period of five years from the date of issuance, at an exercise
price equal to one hundred fifteen percent (115%) of the five-day volume
weighted average price (the "PIPE Transaction"), all pursuant to the terms of
that certain Securities Purchase Agreement by and between the Company and
Mainfield Enterprises, Inc. and Portside Growth & Opportunity Fund dated as of
July 24, 2003 (the "Securities Purchase Agreement").
On September 12, 2003 Medifast, Inc.'s wholly owned subsidiary Seven
Crondall, LLC purchased a 119,825 sq. foot distribution facility located at 601
Sunrise Ave., Ridgely, Maryland 21660 from New Roads, Inc. for $2,200,000. The
Company financed $1,760,000 through Merrill Lynch Capital at the 30 day LIBOR
interest rate plus 220 basis points over seven years.
On November 7, 2003 Medifast, Inc.'s wholly owned subsidiary Jason
Properties, LLC purchased the assets of Hi-Energy Weight Control Centers,
located in Gulf Breeze, Florida. The acquisition includes equipment, inventory,
trademarks, and licenses for fifty Hi-Energy clinics. The clinics are located
primarily in the southeastern region of the United States. The assets were
purchased for $1,500,000 in cash, which included selected liabilities, capital
expenditures, costs of assets and miscellaneous fees.
13
SEASONALITY
The Company's weight management/diet control is subject to seasonality.
Traditionally the holiday season in November/December of each year are
considered poor sales for diet control products and services. January and
February generally show increases in sales.
INFLATION
To date, inflation has not had a material effect on the Company's
business.
INFORMATION SYSTEMS INFRASTRUCTURE
Throughout 2004 the Company significantly enhanced the capacity and the
functionality of its IT infrastructure. The enhancements include a more robust
email system and upgraded network operating system. The Company also added
additional servers, as well as a higher capacity network switch. A Virtual
Private Network was implemented between the remote office sites. The Company
continued its upgrades and service enhancements to its Navision (ERP) system to
more effectively and efficiently manage inventory and sales growth.
ITEM 7. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures
The term "disclosure controls and procedures" is defined in Rules 13a-15(e) and
15d-15(e) of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"). This term refers to the controls and procedures of a company that are
designed to ensure that information required to be disclosed by a company in the
reports that it files under the Exchange Act is recorded, processed, summarized,
and reported within the required time periods. Our Chief Executive Officer and
our President have evaluated the effectiveness of our disclosure controls and
procedures as of the end of the period covered by this annual report. They have
concluded that, as of that date, our disclosure controls and procedures were
effective at ensuring that required information will be disclosed on a timely
basis in our reports filed under the Exchange Act.
(b) Changes in Internal Control over Financial Reporting
No change in our internal control over financial reporting (as defined in Rules
13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the period
covered by this report that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
CODE OF ETHICS
In September 2002, the Company implemented a Code of Ethics by which
directors, officers and employees commit and undertake to personal and corporate
growth, dedicate themselves to excellence, integrity and responsiveness to the
marketplace, and work together to enhance the value of the Company for the
shareholders, vendors, and customers.
14
TRADING POLICY
In March 2003, the Company implemented a Trading Policy whereby if a
director, officer or employee has material non-public information relating to
the Company, neither that person nor any related person may buy or sell
securities of the Company or engage in any other action to take advantage of, or
pass on to others, that information. Additionally, insiders may purchase or sell
MED securities if such purchase or sale is made within 30 days after an earnings
or special announcement to include the 10-KSB, 10-QSB and 8-K in order to insure
that investors have available the same information necessary to make investment
decisions as insiders.
ITEM 8. FINANCIAL STATEMENTS.
See pages F-1 through F-20.
ITEM 9. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURES.
There were no disagreements with the Company's independent auditors,
regarding accounting and financial disclosures for the fiscal year ending
December 31, 2004.
15
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT.
(a) The following are the Board of Directors:
Date First
Name Age Position Became Director
---- --- -------- --------------
Bradley T. MacDonald .. 57 Chairman of the Board, 1996
Chief Executive Officer
and Director
Donald F. Reilly ...... 57 Director 1998
Michael C. MacDonald .. 51 Director 1998
Scott Zion............. 54 Director 1999
Michael J. McDevitt.... 56 Director 2002
Mary T. Travis......... 54 Director 2002
Joseph D. Calderone.... 56 Director 2003
BRADLEY T. MACDONALD became Chairman of the Board and Chief Executive
Officer of Medifast, Inc. on January 28, 1998. Prior to joining the Company, he
was appointed as Program Director of the U.S. Olympic Coin Program of the
Atlanta Centennial Olympic Games. Mr. MacDonald was previously employed by the
Company as its Chief Executive Officer from September 1996 to August 1997. From
1991 through 1994, Colonel MacDonald returned to active duty to be Deputy
Director and Chief Financial Officer of the Retail, Food, Hospitality and
Recreation Businesses for the United States Marine Corps. Prior thereto, Mr.
MacDonald served as Chief Operating Officer of the Bonneau Sunglass Company,
President of Pennsylvania Optical Co., Chairman and CEO of MacDonald and
Associates, which had major financial interests in a retail drug, consumer
candy, and pilot sunglass companies. Mr. MacDonald was national president of the
Marine Corps Reserve Officers Association and retired from the United States
Marine Corps Reserve as a Colonel in 1997, after 27 years of service. He has
been appointed to the Defense Advisory Board for Employer Support of the Guard
and Reserve (ESGR). Mr. MacDonald serves on the Board of Directors of the
Wireless Accessories Group (OTCBB: WIRX). He is also on the Board of Directors
of the Marine Corps Reserve Toys for Tots Foundation and is a Foundation Trustee
of the Marine Reserve Association.
REVEREND DONALD FRANCIS REILLY, O.S.A., a Director, holds a Doctorate
in Ministry (Counseling) from New York Theological and an M.A. from Washington
Theological Union as well as a B.A. from Villanova University. Reverend Don
Reilly was ordained a priest in 1974. His assignments included Associate Pastor,
pastor at St. Denis, Havertown, Pennsylvania, Professor at Villanova University,
Personnel Director of the Augustinian Province of St. Thomas of Villanova,
Provincial Counselor, Founder of SILOAM Ministries where he ministers and
16
counsels HIV/AIDS patients and caregivers. He is currently on the Board of
Directors of Villanova University, is President of the board of "Bird Nest" in
Philadelphia, Pennsylvania and is Board Member of Prayer Power. Fr. Reilly was
recently elected Provincial of the Augustinian Order at Villanova, PA. He
oversees more than 300 Augustinian Friars and their service to the Church,
teaching at universities and high schools, ministering to parishes, serving as
chaplain in the Armed Forces and hospitals, ministering to AIDS victims, and
serving missions in Japan and South America.
MICHAEL C. MACDONALD, a Director, is a corporate officer and President
of Global Accounts and Marketing Operations, for the Xerox Corporation. Mr.
MacDonald's former positions at Xerox Corporation include executive positions in
the sales and marketing areas. He is currently on the Board of Trustees of
Rutgers University and a Director of the Jimmy V Foundation. Mr. MacDonald is
the brother of Bradley T. MacDonald, the CEO of the Company.
SCOTT ZION, is a Director and also Assistant Secretary for Medifast,
Inc. He received a Bachelor of Arts Degree from Denison University, Granville,
Ohio. Mr. Zion is currently a principal in Resources Development, Inc. a health
care consulting company in Napa, California. Prior to forming Resources
Development, he was Senior Vice President of Sales and Marketing for Santen,
Inc. an ophthalmic pharmaceutical company. Before Santen, he was Senior Vice
President and General Manager for Akorn, Inc., an ophthalmic manufacturing and
distribution company. Pilkington Barnes Hind, a worldwide contact lens company,
as Head of North American Sales and Marketing, also employed him. Prior to that,
he spent 20 years with the Mead Johnson Nutritional Division of Bristol Myers
Squibb in various positions of increasing responsibility in sales management. He
has extensive experience in nutritional products particularly in the areas of
sales and marketing.
MICHAEL J. MCDEVITT, a Director, is a retired FBI Special Agent with
over 29 years of government service with the United States Marine Corps and the
FBI. He had attained Senior Executive status within the FBI's Investigative
Technology Branch and is currently employed within the private sector as a
physical security specialist.
MARY T. TRAVIS, a Director, is currently employed with Sunset Mortgage
Company, L.P. in Pennsylvania as the Senior Vice President of wholesale
operations and was formerly the Vice President of operations for the Financial
Mortgage Corporation. Mrs. Travis is an expert in mortgage banking with over 36
years of diversified experience. She is an approved instructor of the Mortgage
Bankers Association Accredited School of Mortgage Banking. Mrs. Travis was also
formally a delegate and 2nd Vice president of the Mortgage Bankers Association
of Greater Philadelphia and the Board of Governors of the State of Pennsylvania.
She is the key financial executive on the Company's Audit Committee providing
oversight of the Company's external auditors.
REVEREND JOSEPH D. CALDERONE, O.S.A., a Director, is the Associate
Director of Campus Ministry at Villanova University. He formerly spent over
eight years with the Loyola University Medical Center as the hospital Chaplain
and taught multiple courses including Introduction to the Practice of Medicine
and Business Ethics. Rev. Calderone is currently a Captain in the US Navy
Reserves and serves as the Wing Chaplain for the 4th Marine Aircraft Wing.
17
ITEM 11. EXECUTIVE COMPENSATION.
The following table sets forth information as to the compensation of
the Chief Executive Officer of the Company and each other executive officer that
received compensation in excess of $100,000 for 2004, 2003, and 2002.
Annual Compensation
Value of Common/
Salary Bonus Preferred Stock Issued Option Other Annual
Name Year ($) ($) in Lieu of Cash Awards Compensation
---- ---- --- --- --------------- ------ ------------
Bradley T. MacDonald 2004 225,000 0 0 0 0
Chairman of the Board 2003 225,000 112,000 0 0 0
& CEO 2002 145,000 75,000 0 100,000(1) 0
---------
(1) The Board of Directors reinstated 100,000 options at $1.50 per share
granted in 1997 and not exercised. Mr. MacDonald exercised those options in
December 2002 per the Board's direction.
Annual Compensation
Value of Common/
Salary Bonus Preferred Stock Issued Option Other Annual
Name Year ($) ($) in Lieu of Cash Awards Compensation
---- ---- --- --- --------------- ------ ------------
Leo V. Williams, III 2004 118,000 0 0 10,000 0
Executive Vice President
18
STOCK OPTIONS
The Company's 1993 Employee Stock Option Plan (the "Plan"), as amended
in July 1995, December 1997, June 2002, and again in July 2003 authorizes the
issuance of options for 1,250,000 shares of Common Stock. The Plan authorizes
the Board of Directors or the Compensation Committee appointed by the Board to
grant incentive stock options and non-incentive stock options to officers, key
employees, directors, and independent consultants, with directors who are not
employees and consultants eligible only to receive non-incentive stock options.
Employee stock options are vested over 2 years.
* The following tables set forth pertinent information as of December
31, 2004 with respect to options granted under the Plan since its inception to
the persons set forth under the Summary Compensation Table, all current
executive officers as a group and all current Directors who are not executive
officers as a group of the Company. In addition, a chart listing option holders,
grants made in FY 2004, and a list of aggregated options and the value of these
options, is provided.
ALL CURRENT ALL CURRENT
BRADLEY T. EXECUTIVE INDEPENDENT
MACDONALD (1) AS A GROUP AS A GROUP
------------- ---------- ------------
Options granted......................... 215,000 75,000 110,000
Average exercise price.................. $ 0.86 $ 1.98 $ 1.07
Options exercised....................... 215,000 49,999 100,000
Average exercise price.................. $ 0.86 $ 0.88 $ 0.70
Shares sold............................. * * *
Options unexercised as of 12/31/04...... 0 11,667 10,000
Approximate 5 YR Value of
FY 04 Grants @ Potential Realizable Unexercised Unexercised
Price & Expiration Value at 10% Annual Options Options
Month/Year Stock Appreciation as of 12/31/04 as of 12/31/04
Current Executive Officers
and Directors 10,000 @ $8.60 2009 $13.86 10,000 $ 0
Employees 20,000 @ $8.60 2009 $13.86 20,000 0
Consultants 0 0 0
------ ---
30,000 $ 0
19
NUTRACEUTICAL GROUP INDUSTRY COMPARISON OF STOCK PRICES
December 31, 2004 December 31, 2003 $ %
Company Stock Price Stock Price Change Change
------- ----------------- ----------------- ------ --------
Medifast (MED)..................................... $ 3.52 $14.10 10.58 (75.0)%
Natural Alternatives International, Inc. (NAII).... 9.23 6.40 2.83 44.22%
Weider Nutrition (WNI)............................. 4.35 4.45 (0.10) (2.3)%
Pure World, Inc (PURW)............................. 1.56 2.51 (0.95) (37.9)%
Natures Sunshine Products, Inc. (NATR)............. 20.36 8.31 12.05 145.0 %
December 31, 2004 December 31, 1999 $ %
Company Stock Price Stock Price Change Change
------- ----------------- ----------------- ------ --------
Medifast (MED)..................................... $ 3.52 $ .22 3.30 1500.0 %
Natural Alternatives International, Inc. (NAII).... 9.23 3.25 5.98 184.0 %
Weider Nutrition (WNI)............................. 4.35 3.22 1.13 35.1 %
Pure World, Inc (PURW)............................. 1.56 3.13 (1.57) (50.2)%
Natures Sunshine Products, Inc. (NATR)............. 20.36 7.42 12.94 174.4 %
INDEX COMPARISON
$100 invested in 1999 would return:
1999 2004
----- -------
Nutraceutical Group Index....................... $ 100 $ 469
Medifast........................................ $ 100 $ 1600
Factual material is obtained from sources believed to be reliable, but
the publisher is not responsible for any errors or omissions contained herein.
COMPENSATION OF DIRECTORS
The Company is authorized to pay a fee of $300 for each meeting
attended by its Directors who are not executive officers. It reimburses those
who are not employees of the Company for their expenses incurred in attending
meetings. Independent Directors claimed $17,500 in Director's fees and/or
expenses in 2004. See "Executive Compensation - Stock Options" for stock options
granted under the 1993 Plan to the Directors.
20
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The following table sets forth information with respect to the
beneficial ownership of shares of Common Stock or voting Preferred Stock as of
December 31, 2004 of the Chief Executive Officer, each Director, each nominee
for Director, each current executive officer named in the Summary Compensation
Table under "Executive Compensation" and all executive officers and Directors as
a group. The number of shares beneficially owned is determined under the rules
of the Securities and Exchange Commission and the information is not necessarily
indicative of beneficial ownership for any other person. Under such rules,
"beneficial ownership" includes shares as to which the undersigned has sole or
shared voting power or investment power and shares, which the undersigned has
the right to acquire within 60 days of March 15, 2005 through the exercise of
any stock option or other right. Unless otherwise indicated, the named person
has sole investment and voting power with respect to the shares set forth in the
table.
NUMBER % OF
NAME AND ADDRESS* OF SHARES OUTSTANDING
---------------- ------------ -----------
Bradley T. MacDonald 1,270,373(1) 11.6%
Donald F. Reilly..................... 65,452 0.6%
Michael C. MacDonald................. 39,354 0.4%
Scott Zion........................... 192,000 1.8%
Mary Travis.......................... 5,340 0.05%
Michael J. McDevitt.................. 13,900 0.1%
Executive Officers and Directors as
a group (8 persons) ............... 1,666,005 15.1%
*The address is c/o Medifast, Inc., 11445 Cronhill Drive, Owings Mills, Maryland
21117
(1) Mr. MacDonald beneficially owns 1,090,373 shares of common stock and 90,000
shares of voting Series "C" Preferred Convertible Stock. Mrs. Shirley D.
MacDonald and Ms. Margaret E. MacDonald, wife and daughter of Mr.
MacDonald, individually or jointly own 442,625 shares of stock.
PART IV
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
3.1 Certificate of Incorporation of the Company and amendments
thereto*
3.2 By-Laws of the Company*
10.1 1993 Stock Option Plan of the Company as amended*
10.3 Lease relating to the Company's Owings Mills, Maryland
facility**
10.4 Employment agreement with Bradley T. MacDonald***
--------
* Filed as an exhibit to and incorporated by reference to the Registration
Statement on Form SB-2 of the Company, File No. 33-71284-NY.
** Filed as an exhibit to and incorporated by reference to the Registration
Statement on Form S-4 of the Company, File No. 33-81524.
*** Filed as an exhibit to 10KSB, dated April 15, 1999 of the Company, file
No. 000-23016.
21
(b) Reports on Form 8-K
March 23, 2004, to report the official 2004 financial guidance
July 2, 2004, to report the Company had decreased 2004 guidance
September 10, 2004 to report the Annual Meeting of Shareholders September 3,
2004
ITEM 14. ACCOUNTING FEES
In 2004, the Company incurred $70,000 in accounting fees as compared to
$60,000 in 2003. These fees include work performed on quarterly audits and the
preparation of the Company's 10-QSB's and 10-KSB.
22
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized.
MEDIFAST, INC.
(Registrant)
BRADLEY T. MACDONALD
-------------------------
Bradley T. MacDonald
Chairman, CEO & CFO
Dated: May 27, 2005
Pursuant to the requirements of the Securities Exchange Act of 1934, the
following persons on behalf of the Registrant and in the capacities and on the
dates indicated have signed this Report below.
Name Title Date
---- ----- ----
BRADLEY T. MACDONALD Chairman of the Board, May 27, 2005
---------------------------------- Director, Chief Executive
Bradley T. MacDonald Officer and Chief Financial
Officer
SCOTT ZION Director May 27, 2005
---------------------------------
Scott Zion
/s/ MICHAEL C. MACDONALD Director May 27, 2005
---------------------------------
Michael C. MacDonald
/s/ MARY T. TRAVIS Director May 27, 2005
---------------------------------
Mary T. Travis
/s/ REV. DONALD F. REILLY, OSA Director May 27, 2005
---------------------------------
Rev. Donald F. Reilly, OSA
/s/ MICHAEL J. MCDEVITT Director May 27, 2005
---------------------------------
Michael J. McDevitt
/s/ JOSEPH D. CALDERONE Director May 27, 2005
---------------------------------
Joseph D. Calderone
23
Index to Exhibits
Exhibit
Number Description of Exhibit
------- ----------------------
31.1 Certification of Chief Executive Officer pursuant to Item 601(b)(31)
of Regulation S-K, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer pursuant to Item 601(b)(31)
of Regulation S-K, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Certification of Chief Executive Officer and Chief Financial Officer
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
24
MEDIFAST, INC. AND ITS SUBSIDIARIES
CONTENTS
CONSOLIDATED FINANCIAL STATEMENTS PAGE
Report of Independent Registered Public Accounting Firm ................. F-2
Balance sheets as of December 31, 2004 and 2003.......................... F-3
Statements of income for the years ended
December 31, 2004 and 2003 ............................................ F-4
Statement of changes in stockholders' equity and
comprehensive loss for the years ended
December 31, 2004 and 2003 ............................................ F-5
Statements of cash flow for the years ended
December 31, 2004 and 2003 ............................................ F-6
Notes to consolidated financial statements .............................. F-7
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders
Medifast, Inc.
Owings Mills, Maryland
We have audited the consolidated balance sheets of Medifast, Inc. and its
subsidiaries as of December 31, 2004 and 2003, and the related consolidated
statements of income, changes in stockholders' equity and comprehensive loss and
cash flows for the years then ended. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with standards established by the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audits to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Medifast, Inc. and subsidiaries as of December 31, 2004 and 2003, and the
consolidated results of their operations and their consolidated cash flows for
the years then ended in conformity with accounting principles generally accepted
in the United States of America.
Bagell, Josephs & Company, LLC
Gibbsboro, New Jersey
March 4, 2005
F-2
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, December 31,
2004 2003
------------ ------------
ASSETS
CURRENT ASSETS:
Cash $ 612,000 $ 2,524,000
Accounts receivable-net of allowance for doubtful accounts of $87,000 and $55,000 1,063,000 641,000
Inventory 4,251,000 2,988,000
Investment securities 2,626,000 3,983,000
Deferred compensation 321,000 321,000
Prepaid expenses and other current assets 1,079,000 936,000
Current portion of deferred tax asset 19,000 596,000
------------ ------------
TOTAL CURRENT ASSETS 9,971,000 11,989,000
Property, plant and equipment - net 8,698,000 7,449,000
Trademarks and intangibles - net 7,138,000 4,749,000
Deferred tax asset, net of current portion 91,000 --
Other assets 70,000 45,000
------------ ------------
TOTAL ASSETS $ 25,968,000 $ 24,232,000
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 940,000 $ 1,714,000
Income taxes payable 674,000 --
Dividends payable 65,000 58,000
Line of credit 369,000 55,000
Current maturities of long-term debt 458,000 764,000
------------ ------------
TOTAL CURRENT LIABILITIES 2,506,000 2,591,000
Long-term debt, net of current portion 4,256,000 4,564,000
------------ ------------
TOTAL LIABILITIES 6,762,000 7,155,000
------------ ------------
STOCKHOLDERS' EQUITY:
Series B Convertible Preferred Stock; par value $1.00; 600,000 shares
authorized; 300,614 and 403,734
shares issued and outstanding 301,000 404,000
Series C Convertible Preferred Stock; stated value $1.00;
1,015,000 shares authorized; 200,000 and 267,000 shares issued and outstanding 200,000 267,000
Common stock; par value $.001 per share; 15,000,000 shares authorized;
11,001,070 and 10,482,609 shares issued and outstanding 11,000 10,000
Additional paid-in capital 20,556,000 20,120,000
Accumulated comprehensive loss (39,000) (25,000)
Accumulated deficit (1,287,000) (3,016,000)
------------ ------------
19,742,000 17,760,000
Less: cost of 78,160 and 83,863 shares of common stock in treasury (536,000) (683,000)
------------ ------------
TOTAL STOCKHOLDERS' EQUITY 19,206,000 17,077,000
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 25,968,000 $ 24,232,000
============ ============
The accompanying notes are an integral part of these consolidated
financial statements
F-3
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31,
2004 2003
------------ ------------
Revenue $ 27,340,000 $ 25,379,000
Cost of sales (6,746,000) (6,825,000)
------------ ------------
GROSS PROFIT 20,594,000 18,554,000
Selling, general, and administration (17,590,000) (14,956,000)
------------ ------------
INCOME FROM OPERATIONS
3,004,000 3,598,000
OTHER INCOME (EXPENSE):
Interest expense (245,000) (150,000)
Interest income 154,000 110,000
Other expense (7,000) --
------------ ------------
(98,000) (40,000)
------------ ------------
NET INCOME BEFORE PROVISION FOR INCOME TAXES 2,906,000 3,558,000
Provision for income taxes (1,159,000) (1,148,000)
------------ ------------
NET INCOME 1,747,000 2,410,000
------------ ------------
Less: Preferred stock dividend requirement (18,000) (58,000)
------------ ------------
NET INCOME ATTRIBUTABLE TO COMMON SHAREHOLDERS $ 1,729,000 $ 2,352,000
============ ============
Basic earnings per share $ 0.16 $ 0.25
============ ============
Diluted earnings per share $ 0.14 $ 0.22
============ ============
Weighted average shares outstanding -
Basic 10,832,360 9,305,731
============ ============
Diluted 12,413,424 10,952,367
============ ============
The accompanying notes are an integral part of these consolidated
financial statements
F-4
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY AND COMPREHENSIVE LOSS
FOR THE YEARS ENDED 2004 AND 2003
SERIES B SERIES C
PREFERRED STOCK PREFERRED STOCK COMMON STOCK
-------------------- -------------------- ---------------------------------------------------
Stated Stated Par Value Additional
Number Value Number Value Number $0.00 Paid-In Accumulated
of Shares Amount of Shares Amount of Shares Amount Capital Deficit
-------- --------- --------- -------- ---------- ------- ----------- -----------
Balance, December 31, 2002 521,290 $521,000 985,000 $985,000 7,204,693 $7,000 $9,613,000 ($5,381,000)
Preferred converted to Common -117,556 -117,000 -718,000 -718,000 1,671,108 2,000 833,000
Options exercised to Common Stock 615,714 590,000
Warrants Converted to Common Stock 288,724 350,000
Common Stock issued to Directors,
consultants and acquisitions 665,970 1,000 8,716,000
Common Stock issued for Series
"C" dividend 36,400 18,000
Dividend paid in stock -45,000
Net Income 2,410,000
-------- --------- --------- -------- ---------- ------- ----------- -----------
Balance, December 31, 2003 403,734 404,000 267,000 267,000 10,482,609 10,000 20,120,000 -3,016,000
Preferred converted to Common -103,120 -103,000 -67,000 -67,000 340,240 170,000
Options exercised to Common Stock 47,221 1,000 34,000
Warrants Converted to Common Stock 46,700 125,000
Conversion of debt to equity 55,400 28,000
Conversion of debt to equity out
of Treasury 114,000
Common stock issued to Consultants 15,500 93,000
Shares issued out of Treasury -135,000
Common Stock issued for Series
"C" dividend 13,400 7,000 -7,000
Dividend paid in stock -11,000
Net Income 1,747,000
-------- --------- --------- -------- ---------- ------- ----------- -----------
Balance, December 31, 2004 300,614 $301,000 200,000 $200,000 11,001,070 $11,000 $20,556,000 ($1,287,000)
======== ========= ========= ======== ========== ======= =========== ===========
COMMON STOCK
----------------------------------------
Accumulated
Comprehensive Treasury
Loss Total Stock
------------ ---------- ---------
Balance, December 31, 2002 $ - $5,745,000 ($167,000)
Preferred converted to Common
Options exercised to Common Stock 590,000 -516,000
Warrants Converted to Common Stock 350,000
Common Stock issued to Directors,
consultants and acquisitions 8,717,000
Common Stock issued for Series
"C" dividend 18,000
Dividend paid in stock -45,000
Net Income -25,000 2,385,000
-------- ----------- ---------
Balance, December 31, 2003 -25,000 17,760,000 -683,000
Preferred converted to Common
Options exercised to Common Stock 35,000 -31,000
Warrants Converted to Common Stock 125,000 -123,000
Conversion of debt to equity 28,000
Conversion of debt to equity out
of Treasury 114,000 166,000
Common stock issued to Consultants 93,000 135,000
Shares issued out of Treasury -135,000 135,000
Common Stock issued for Series
"C" dividend
Dividend paid in stock -11,000
Net Income -14,000 1,733,000
-------- ----------- ---------
Balance, December 31, 2004 ($39,000) $19,742,000 ($536,000)
======== =========== =========
The accompanying notes are an integral part of these consolidated
financial statements
F-5
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
Years Ended December 31,
2004 2003
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 1,747,000 $ 2,410,000
ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH
PROVIDED BY OPERATING ACTIVITIES FROM OPERATIONS:
Depreciation and amortization 1,310,000 677,000
Realized (gain) loss on investment securities 19,000 (1,000)
Common stock issued for services 93,000 207,000
Net change in other comprehensive (loss) (14,000) --
Deferred income taxes 486,000 1,138,000
CHANGES IN ASSETS AND LIABILITIES:
(Increase) in accounts receivable (422,000) (357,000)
(Increase) in inventory (1,263,000) (1,729,000)
(Increase) in prepaid expenses and other current assets (143,000) (687,000)
(Increase) in deferred compensation (100,000) (350,000)
(Increase) decrease in other assets (25,000) 44,000
(Decrease) increase in accounts payable and accrued expenses (460,000) 525,000
Increase in income taxes payable 674,000 --
----------- -----------
NET CASH PROVIDED BY OPERATING ACTIVITIES 1,902,000 1,877,000
----------- -----------
CASH FLOW FROM INVESTING ACTIVITIES:
Maturities (purchase) of certificates of deposit (112,000) 418,000
Sale (purchase) of investment securities, net 1,450,000 (3,982,000)
Purchase of building (566,000) (1,823,000)
Purchase of property and equipment (1,490,000) (1,309,000)
Purchase of intangible assets (2,792,000) (2,458,000)
----------- -----------
NET CASH (USED IN) INVESTING ACTIVITIES (3,510,000) (9,154,000)
----------- -----------
CASH FLOW FROM FINANCING ACTIVITIES:
Issuance of common stock, options and warrants 7,000 6,722,000
(Decrease) increase in line of credit, net 314,000 (36,000)
Proceeds from long-term debt 475,000 2,669,000
Principal repayments of long-term debt (1,089,000) (346,000)
Dividends paid on preferred stock (11,000) (45,000)
----------- -----------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (304,000) 8,964,000
----------- -----------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS (1,912,000) 1,687,000
Cash and cash equivalents - beginning of the year 2,524,000 837,000
----------- -----------
Cash and cash equivalents - end of year $ 612,000 $ 2,524,000
=========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest paid $ 245,000 $ 154,000
=========== ===========
Income taxes $ -- $ --
=========== ===========
SUPPLEMENTAL DISCLOSURE OF NON CASH ACTIVITY:
Conversion of preferred stock B and C to common stock $ 170,000 $ 835,000
=========== ===========
Common stock for services $ 93,000 $ 207,000
=========== ===========
Common stock for intangibles and fixed assets $ -- $ 1,949,000
=========== ===========
Conversion of debt to equity $ 307,000 $ --
=========== ===========
Preferred Stock Dividends $ 7,000 $ 18,000
=========== ===========
The accompanying notes are an integral part of these consolidated
financial statements.
F-6
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE A - BUSINESS
Medifast, Inc. (the "Company", or "Medifast") is a Delaware
corporation, incorporated in 1980. The Company's operations are primarily
conducted through five of its wholly owned subsidiaries, Jason Pharmaceuticals,
Inc. ("Jason"), Take Shape for Life, Inc. ("TSFL"), Jason Enterprises, Inc.,
Jason Properties, LLC and Seven Crondall, LLC. The Company is engaged in the
production, distribution, and sale of weight management and disease management
products and other consumable health and diet products. Medifast, Inc.'s product
lines include weight and disease management, meal replacement and sports
nutrition products manufactured in a modern, FDA approved facility in Owings
Mills, Maryland.
The Company is engaged in the manufacturing and distribution of
Medifast(R) and Hi-Energy(R) branded and private label weight and disease
management products. These products are sold through various channels of
distribution, to include medical professionals, weight loss clinics, direct
consumer marketing supported via the phone and the web, supported by licensed,
qualified medical practitioners including qualified health advisors. The
processing, formulation, packaging, labeling and advertising of the Company's
products are subject to regulation by one or more federal agencies, including
the Food and Drug Administration, the Federal Trade Commission, the Consumer
Product Safety Commission, the United States Department of Agriculture, and the
United States Environmental Protection Agency.
F-7
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE B - SIGNIFICANT ACCOUNTING POLICIES
Significant accounting policies followed in the preparation of the consolidated
financial statements are as follows:
[1] PRINCIPLES OF CONSOLIDATION AND BASIS OF PRESENTATION:
The consolidated financial statements include the accounts of the
Company and its wholly owned subsidiaries, Jason Pharmaceuticals, Inc., Take
Shape For Life, Inc., Seven Crondall Associates, LLC, Jason Properties, LLC and
Jason Enterprises, Inc. All inter-company accounts have been eliminated.
[2] CASH AND CASH EQUIVALENTS:
For the purposes of the consolidated statements of cash flow, the
Company considers all highly liquid debt instruments purchased with maturity of
three months or less to be cash equivalents. At December 31, 2004, the Company
had invested in four $100,000 certificates of deposit, of which three are
considered cash equivalents.
At December 31, 2003, the Company had invested in four $100,000
certificates of deposit, which are considered cash equivalents. The Company also
invested $465,000 in miscellaneous investments through Merrill Lynch. These
investments are considered cash equivalents due to terms of maturity.
[3] ACCOUNTS RECEIVABLE:
Accounts receivable are recorded net of reserves for sales returns and
allowances, and net of provisions for doubtful accounts. Allowances for sales
returns and discounts are based on an analysis of historical trends, and
allowances for doubtful accounts are based primarily on an analysis of aging
accounts receivable balances and on the creditworthiness of the customer as
determined by credit checks and analysis, as well as the customer's payment
history.
[4] INVENTORY:
Inventory is stated at the lower of cost or market, utilizing the
first-in, first-out method. The cost of finished goods includes the cost of raw
materials, packaging supplies, direct and indirect labor and other indirect
manufacturing costs.
[5] ADVERTISING:
Advertising costs such as preparation, layout, design and production of
advertising are deferred. They are expensed when the advertisement is first
used, except for the costs of executory contracts, which are amortized as
performance under the contract is received. Advertising costs deferred at
December 31, 2004 and 2003, were $478,000 and $295,000 respectively. Advertising
expense for the years ended December 31, 2004 and 2003 amounted to $1,055,000
and $2,233,000, respectively.
F-8
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE B - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
[6] PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment are stated at cost less accumulated
depreciation and amortization. The Company computes depreciation and
amortization using the straight-line method over the estimated useful lives of
the assets acquired as follows:
Building and building improvements 39 years
Equipment and fixtures 3-15 years
Vehicles 5 years
The carrying amount of all long-lived assets is evaluated periodically to
determine whether adjustment to the useful life or to the unamortized balance is
warranted. Such evaluation is based principally on the expected utilization of
the long-lived assets and the projected undiscounted cash flows of the
operations in which the long-lived assets are used.
[7] INCOME TAXES:
The Company accounts for income taxes in accordance with Statements of
Financial Accounting Standards No. 109, "Accounting for Income Taxes," which
requires an asset and liability approach to financial accounting and reporting
for income taxes. Deferred income taxes and liabilities are computed annually
for differences between the financial statement and the tax basis of assets and
liabilities that will result in taxable or deductible amounts in the future
based on enacted tax laws and rates applicable to the periods in which the
differences are expected to affect taxable income. Valuation allowances are
established when necessary to reduce deferred tax assets to the amount expected
to be realized.
[8] EARNINGS PER COMMON SHARE:
Basic earnings per share is calculated by dividing net profit
attributable to common stockholders by the weighted average number of
outstanding common shares during the year. Basic earnings per share exclude any
dilutive effects of options, warrants and other stock-based compensation, which
are included in diluted earnings per share.
[9] REVENUE:
Revenue is recognized for product sales upon shipment and passing of
risk to the customer and when estimates of discounts, rebates, promotional
adjustments, price adjustments, returns, and other potential adjustments are
reasonably determinable, collection is reasonably assured and the Company has no
further performance obligations. These estimates are presented in the financial
statements as reductions to net revenues and accounts receivable. Estimated
sales returns, allowances and discounts are provided for.
F-9
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE B - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Outbound shipping charges to customers and outbound shipping-related costs are
netted and included in "cost of sales."
Returns - Consistent with industry practice, the Company maintains a return
policy that allows its customers to return product within a specified period (30
days). Because the period of payment generally approximates the period revenue
was originally recognized, refunds are recorded as a reduction of revenue when
paid. The Company's estimate for returns is based upon its historical experience
with actual returns. While such experience has allowed for reasonable estimation
in the past, history may not always be an accurate indicator of future returns.
The Company continually monitors its estimates for returns and makes adjustments
when it believes that actual product returns may differ from the established
accruals.
[10] ESTIMATES:
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting periods. Actual results could differ from those
estimates.
[11] FAIR VALUE OF FINANCIAL INSTRUMENTS:
The carrying amounts reported in the consolidated balance sheets for
cash, certificates of deposit, accounts receivable, accounts payable and accrued
liabilities approximate fair value because of the immediate or short-term
maturity of the financial instruments.
The Company believes that its indebtedness approximates fair value
based on current yields for debt instruments with similar terms.
[12] CONCENTRATION OF CREDIT RISK:
Financial instruments that potentially subject the Company to credit
risk consist of cash, certificates of deposit, investment securities and trade
receivables. Cash, certificates of deposit and investment securities at December
31, 2004 and 2003, include amounts deposited with multiple financial
institutions that exceed the federal insurance coverage by $3,525,000 and
$3,862,000, respectively. The Company markets its products primarily to medical
professionals, clinics, and Internet medical sales and has no substantial
concentrations of credit risk in its trade receivables.
As of December 31, 2004 and 2003, the Company had two customers that
individually represented over 10% of the accounts receivable and in the
aggregate, approximately 49% and 26% of the accounts receivable, respectively.
F-10
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE B - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
[13] STOCK-BASED COMPENSATION:
The Company has adopted Statement of Financial Accounting Standards No.
123, "Accounting for Stock-Based Compensation" ("SFAS 123"). The provisions of
SFAS 123 allow companies to either expense the estimated fair value of stock
options or to continue to follow the intrinsic value method set forth in
Accounting Principles Bulletin Opinion No. 25, "Accounting for Stock Issued to
Employees" ("APB 25") but disclose the pro forma effects on net income had the
fair value of the options been expensed. The Company has elected to continue to
apply APB 25 in accounting for its employee stock option incentive plans.
MEDIFAST, INC. AND SUBSIDIARIES
STOCK OPTION PLAN
On October 9, 1993 and as amended in May 1995, the Company adopted a
stock option plan ("Plan") authorizing the grant of incentive and nonincentive
options for an aggregate of 500,000 shares of the Company's common stock to
officers, employees, directors and consultants. Incentive options are to be
granted at fair market value. Options are to be exercisable as determined by the
stock option committee.
In November 1997, June 2002 and July 2003, the Company amended the Plan
by increasing the number of shares of the Company's common stock subject to the
Plan by an aggregate of 200,000 shares, 300,000 shares and 250,000 shares
respectively.
The Company has elected to continue to account for stock option grants
in accordance with APB 25 and related interpretations. Under APB 25, where the
exercise price of the Company's employee stock options equals the market price
of the underlying stock on the date of grant, no compensation is recognized.
F-11
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE B - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
[13] STOCK-BASED COMPENSATION: (CONTINUED)
If compensation expense for the Company's stock-based compensation
plans had been determined consistent with SFAS 123, the Company's net income and
net income per share including pro forma results would have been the amounts
indicated below:
Year Ended December 31
2004 2003
---- ----
Net income:
As reported $1,747,000 $2,410,000
Total stock-based employee compensation
expense determined under fair value based
method for all awards, net of related tax
effects (108,000) (403,000)
----------------------------------
Pro forma $1,639,000 $2,007,000
==================================
Net income per share:
as reported:
Basic $ 0.06 $ 0.25
Diluted $ 0.14 $ 0.22
Pro forma:
Basic $ 0.15 $ 0.21
Diluted $ 0.13 $ 0.18
The pro forma effect on net income may not be representative of the pro
forma effect on net income of future years due to, among other things: (i) the
vesting period of the stock options and the (ii) fair value of additional stock
options in future years.
For the purpose of the above table, the fair value of each option grant
is estimated as of the date of grant using the Black-Scholes option-pricing
model with the following assumptions:
2004 2003
---- ----
Dividend yield ................... 0.0% 0.0%
Expected volatility .............. 0.40 0.40
Risk-free interest rate .......... 4.50% 3.00%-5.00%
Expected life in years ........... 1-5 1-5
F-12
The weighted average fair value at date of grant for options granted
during the years 2004 and 2003 were $8.60 and $5.32, respectively, using the
above assumptions.
The following summarizes the stock option activity for the years ended
December 31:
2004 2003
---- ----
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
-------- ------- -------- ------
Outstanding at beginning of year 439,455 $1.76 891,669 $0.69
Options granted 30,000 8.60 163,500 5.32
Options reinstated 0 0.00 0 0.00
Options exercised (47,221) (1.19) (615,714) (1.16)
Options forfeited or expired (32,837) (7.01) (0) 0.00
-------- ------- -------- ------
Outstanding at end of year 389,397 $1.51 439,455 $1.76
======== ======= ======== ======
Options exercisable at year end 350,336 $1.11 302,668 $0.76
======== ======= ======== ======
Options available for grant at end of year 860,603 810,545
======== ========
F-13
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE B - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
[13] STOCK-BASED COMPENSATION: (CONTINUED)
The following table summarizes information about stock options
outstanding and exercisable at December 31, 2004:
Options Outstanding Options
Exercisable
Weighted
Average
Contractual Weighted Weighted
Range of Life Average Average
Exercise Number Remaining Exercise Number Exercise
Prices Outstanding (in Years) Price Exercisable Price
-------- ----------- ----------- -------- ----------- --------
$0.25 150,000 1.0 $0.25 150,000 $0.25
$0.32 16,670 2.5 $0.32 16,670 $0.32
$0.50 100,000 1.6 $0.50 100,000 $0.50
$0.65 8,334 3.6 $0.65 8,334 $0.65
$0.80 16,666 3.3 $0.80 16,666 $0.80
$0.86 1,667 3.3 $0.86 1,667 $0.86
$1.23 6,668 3.5 $1.23 6,668 $1.23
$1.26 16,667 3.5 $1.26 16,667 $1.26
$1.60 8,334 3.6 $1.60 - $1.60
$4.80 22,391 4.1 $4.80 15,999 $4.80
$8.26 2,000 4.2 $8.26 1,000 $8.26
$8.60 30,000 4.8 $8.60 9,999 $8.60
$11.15 10,000 4.3 $11.15 6,666 $11.15
-------- -------- --------- -------
389,397 2.2 $1.51 350,336 $1.11
======== ======== ========= =======
[14] SEGMENT INFORMATION
In 2004 and 2003, the Company's international joint venture
arrangements for distribution of goods in the Asian market were responsible for
the revenue recognition of approximately $488,000 and $2,000,000, respectively.
F-14
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE B - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
[14] SEGMENT INFORMATION (CONTINUED)
In 2004 and 2003, the Company's retail distribution through the division of
Consumer Choice Systems recognized revenue of $2,134,000 and $979,000
respectively.
[15] RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement
No. 142 "Goodwill and Other Intangible Assets". This statement addresses
financial accounting and reporting for acquired goodwill and other intangible
assets and supersedes APB Opinion No. 17, "Intangible Assets". It addresses how
intangible assets that are acquired individually or with a group of other assets
(but not those acquired in a business combination) should be accounted for in
financial statements upon their acquisition. This Statement also addresses how
goodwill and other intangible assets should be accounted for after they have
been initially recognized in the financial statements. The Company, in its
acquisitions, recognized $893,850 of goodwill. The Company performs its annual
impairment test for goodwill at year-end. As of December 31, 2004, the Company
has determined that there is no impairment of its goodwill.
In addition, the Company has acquired other intangible assets, which include:
customer lists, non-compete agreements, trademarks and patents. The non-compete
agreements are being amortized over the legal life of the agreements ranging
between 3 to 7 years. The customer lists are being amortized over a period
ranging between 5 to 10 years based on management's best estimate of the
expected benefits to be consumed or otherwise used up. Trademarks and patents
are regularly reviewed to determine whether the facts and circumstances exist to
indicate that the useful life is shorter than originally estimated or the
carrying amount of the assets may not be recoverable. The Company assesses the
recoverability of its trademarks and patents by comparing the projected
discounted net cash flows associated with the related asset, over their
remaining lives, in comparison to their respective carrying amounts. Impairment,
if any, is based on the excess of the carrying amount over the fair value of
those assets.
On July 20, 2000, the Emerging Issues Task Force issued EITF 00-14
"Accounting For Certain Sales Incentives" which establishes accounting and
reporting requirements for sales incentives such as discounts, coupons, rebates
and free products or services. Generally, reductions in or refunds of a selling
price should be classified as a reduction in revenue. For SEC registrants, the
implementation date is the beginning of the fourth quarter after the
registrant's fiscal year end December 15, 1999. EITF 00-14 has been considered
in the preparation of the consolidated financial statements.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial
Statements." SAB 101 provides guidance for revenue recognition under certain
circumstances, and is effective during the first quarter of fiscal year 2001.
SAB 101 has been considered in the preparation of the consolidated financial
statements.
F-15
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE B - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
[15] RECENT ACCOUNTING PRONOUNCEMENTS (CONTINUED)
In December 2002, the FASB issued Statement No. 148, "Accounting for Stock-Based
Compensation-Transition and Disclosure", an amendment of FASB Statement No.
123"("SFAS 148"). SFAS 148 amends FASB Statement No. 123, "Accounting for
Stock-Based Compensation," to provide alternative methods of transition for an
entity that voluntarily changes to the fair value based method of accounting for
stock-based employee compensation. It also amends the disclosure provisions of
that Statement to require prominent disclosure about the effects on reported net
income of an entity's accounting policy decisions with respect to stock-based
employee compensation. Finally, this Statement amends Accounting Principles
Board ("APB") Opinion No. 28, "Interim Financial Reporting", to require
disclosure about those effects in interim financial information. SFAS 148 is
effective for financial statements for fiscal years ending after December 15,
2002. The Company will continue to account for stock-based employee compensation
using the intrinsic value method of APB Opinion No. 25, "Accounting for Stock
Issued to Employees", but has adopted the enhanced disclosure requirements of
SFAS 148.
In May 2003, the FASB issued SFAS Statement No. 150, "Accounting for
Certain Financial Instruments with Characteristics of both Liabilities and
Equity". This Statement establishes standards for how an issuer classifies and
measures certain financial instruments with characteristics of both liabilities
and equity. It requires that an issuer classify a financial instrument that is
within its scope as a liability (or an asset in some circumstances). This
statement is effective for financial instruments entered into or modified after
May 31, 2003, and otherwise is effective at the beginning of the first interim
period beginning after June 15, 2003, except for mandatory redeemable financial
instruments of nonpublic entities, if applicable.
It is to be implemented by reporting the cumulative effect of a change
in an accounting principle for financial instruments created before the issuance
date of the Statement and still existing at the beginning of the interim period
of adoption. The adoption of this statement did not have a significant impact on
the Company's results of operations or financial position.
In November 2002, the FASB issued Interpretation No. 45 ("FIN 45"),
Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others. FIN 45 requires a company, at the
time it issues a guarantee, to recognize an initial liability for the fair value
of obligations assumed under the guarantees and elaborates on existing
disclosure requirements related to guarantees and warranties. The recognition
requirements are effective for guarantees issued or modified after December 31,
2002 for initial recognition and initial measurement provisions. The adoption of
FIN 45 did not have a significant impact on the Company's results of operations
or financial position.
In January 2003, the FASB issued FASB Interpretation No. 46 ("FIN 46"),
Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51.
FIN 46 requires certain variable interest entities to be consolidated by the
primary beneficiary of the entity if the equity investors in the entity do not
have the characteristics of a controlling financial interest or do not have
sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support from other parties. FIN 46 is
effective for all new variable interest entities created or acquired after
January 31, 2003.
F-16
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE B - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
[15] RECENT ACCOUNTING PRONOUNCEMENTS (CONTINUED)
For variable interest entities created or acquired prior to February 1, 2003,
the provisions of FIN 46 must be applied for the first interim or annual period
beginning after June 15, 2003. The adoption of FIN 46 did not have a significant
impact on the Company' results of operations or financial position.
[16] INVESTMENTS
In accordance with SFAS No. 115, "Accounting for Certain Investments in
Debt and Equity Securities", securities are classified into three categories:
held-to-maturity, available-for-sale and trading. The Company's investments
consist of debt and equity securities classified as available-for-sale
securities. Accordingly, they are carried at fair value in accordance with SFAS
No. 115. Further, SFAS No. 115 the unrealized holding gains and losses for
available-for-sales securities are excluded from earnings and reported, net of
deferred income taxes, as a separate component of stockholders' equity, unless
the loss is classified as other than a temporary decline in market value.
[17] RECLASSIFICATIONS
Certain amounts for the year ended December 31, 2003 have been
reclassified to conform to the presentation of the December 31, 2004 amounts.
The reclassifications have no effect on net income for the year ended December
31, 2003.
NOTE C - INVENTORY
Inventory consists of the following at December 31, 2004 and 2003:
2004 2003
---- ----
Raw materials ................... $ 1,085,000 $ 813,000
Packaging........................ 958,000 694,000
Finished goods .................. 2,208,000 1,481,000
----------- -----------
$ 4,251,000 $ 2,988,000
F-17
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE D - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment as of December 31, 2004 and 2003, consist
of the following:
2004 2003
---- ----
Land $ 650,000 $ 565,000
Building and building improvements 6,728,000 5,937,000
Equipment and fixtures 4,062,000 2,876,000
Vehicle 11,000 20,000
------------- ------------
11,451,000 9,398,000
Less accumulated depreciation and amortization 2,753,000 1,949,000
------------- ------------
Property, plant and equipment - net $ 8,698,000 $ 7,449,000
============ ===========
Substantially all of the Company's property, plant and equipment are
pledged as collateral for various loans (see Note I).
Depreciation expense for the years ended December 31, 2004 and 2003
were $804,000 and $421,000, respectively.
NOTE E - TRADEMARKS
AS OF DECEMBER 31, 2004 AS OF DECEMBER 31, 2003
----------------------------- -----------------------------
GROSS CARRYING ACCUMULATED GROSS CARRYING ACCUMULATED
AMOUNT AMORTIZATION AMOUNT AMORTIZATION
---------- ---------- ---------- ----------
Customer lists $4,355,000 $ 394,000 $1,724,000 $ 150,000
Non-compete agreements 840,000 248,000 840,000 86,000
Trademarks and patents 1,703,000 12,000 1,541,000 14,000
Goodwill 894,000 -- 894,000
---------- ---------- ---------- ----------
Total $7,792,000 $ 654,000 $4,999,000 $ 250,000
========== ========== ========== ==========
AMORTIZATION EXPENSE FOR THE YEAR ENDED DECEMBER 31, 2004 AND 2003 WAS AS
FOLLOWS:
2004 2003
---------- ----------
Customer lists $ 244,000 127,000
Non-compete agreements 162,000 86,000
Trademarks and patents -- 14,000
---------- ----------
Total Trademarks and Intangibles $ 406,000 $ 227,000
========== ==========
Amortization expense is included in selling, general and administrative
expenses.
F-18
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE F - ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses as of December 31, 2004 and 2003
consist of the following:
2004 2003
---- ----
Trade payables $ 343,000 $ 969,000
Accrued expenses and other 116,000 121,000
Accrued payroll and related taxes 215,000 96,000
Sales commissions payable 266,000 360,000
Deferred revenue -- 168,000
------------ -----------
Total $ 940,000 $1,714,000
============ ===========
NOTE G - OPERATING LEASES
The Company leases office space for its eleven corporately
owned Hi-Energy Weight Control Clinics under lease terms ranging from
one to five year leases commencing 2004. Monthly payments under the
leases range in price from $1,120 to $2,695. The Company is required to
pay property taxes, utilities, insurance and other costs relating to
the leased facilities.
The following is a schedule by years of future minimum rental
payments required under operating lease that have initial or remaining
non-cancelable lease terms in excess of one year as of December 31,
2004:
For the Years Ending
December 31,
2005 $ 238,737
2006 208,605
2007 166,355
2008 121,871
2009 117,038
---------
Total minimum payments required $ 852,606
=========
F-19
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE H - INCOME TAXES
At December 31, 2004 and 2003, the principal components of the
net deferred tax assets are as follows:
2004 2003
---- ----
Net operating loss carry forwards $ -- $ 290,000
Accounts receivable 19,000 32,000
Inventory overhead and write downs -- 274,000
Trademarks and intangibles 91,000 --
---------- ----------
Total deferred tax assets 110,000 596,000
Current benefit 19,000 596,000
---------- ----------
$ 91,000 $ --
========== ==========
A reconciliation of the federal statutory rate to the income tax expense is as
follows:
Year Ended
December 31,
------------
2004 2003
------ ----
Income tax based on federal statutory rate $ 600,000 $ 973,000
State and local tax, net of federal benefit 90,000 175,000
Deferred income tax expense 469,000 --
----------- ----------
Income tax expense $ 1,159,000 $1,148,000
=========== ==========
F-20
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE I - LONG-TERM DEBT AND LINE OF CREDIT
Long-term debt as of December 31, 2004 and 2003, consist of the following:
2004 2003
---- ----
$2,850,000 fifteen year term loan secured by the building and land
at a variable rate which was 5.14% at December 31, 2004 $ 2,391,000 $ 2,581,000
$1,760,000 ten-year reducing revolver line of credit rate at LIBOR
plus 220 bps , which was 4.59% on December 31, 2004 1,623,000 1,740,000
$186,976 three-year term loan secured by 20,000 restricted common
shares variable rate which was 8.25% at December 31, 2004 111,000 151,000
$200,000 five-year term loan secured by equipment
fixed rate was 3% at December 31, 2004 130,000 172,000
$475,000 seven-year loan secured by the building and land at a
variable rate at LIBOR plus 250 bps, which was 4.91% on
December 31, 2004 459,000 --
$220,000 two-year term loan secured by equipment at a floating rate
which was 6% at December 31, 2003 -- 73,000
$100,000 unsecured note payable at a fixed rate of 3%, discounted to an
incremental borrowing rate of 12% -- 59,000
Note payable over 3 years secured by vehicle at a fixed rate of 12.25% -- 2,000
$550,000 agreement three years secured by certain assets of the Company
variable rate, which was prime floating at December 31, 2003. -- 550,000
----------- ------------
4,714,000 5,328,000
Less current portion 458,000 764,000
----------- ------------
$ 4,256,000 $ 4,564,000
=========== ============
Future principal payments on long-term debt for the next 5 years are as follows:
2005 ...................................... $ 458,000
2006 ...................................... 475,000
2007 ...................................... 421,000
2008 ...................................... 376,000
2009....................................... 379,000
Thereafter................................. 2,605,000
-----------
$ 4,714,000
===========
The Company has established a $5 Million revolving line of credit at
the LIBOR rate plus 2% with Mercantile Safe Deposit and Trust Company secured by
substantially all of the assets of Jason Pharmaceuticals, Inc. The outstanding
balance on this line was $369,000 and $55,000 at December 31, 2004 and 2003,
respectively. Effective January 17, 2004, $366,000 of the line of credit was
converted to a note payable secured by all assets of Jason Pharmaceuticals
excluding trade marks at a variable rate at libor plus 250 basis points which
was 4.4% on December 31, 2004.
F-21
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE J - EMPLOYMENT AGREEMENTS
The CEO of Medifast, Inc., Bradley T. MacDonald, has a two-year
employment agreement for an aggregate annual base salary of $225,000 with a
bonus potential of 50% of base salary provided the Company makes its profit plan
per the Board approved forecast. This contract has been extended to December 31,
2007. Due to the inequities of funding a retirement plan in the 401K, and in
recognition of the performance responsible for the turnaround of the Company,
the Board of Directors approved a Selective Executive Retirement Compensation
Plan funded by the form of deferred compensation. The Deferred Compensation Plan
will be funded up to $350,000 by a dollar for dollar match program, having Mr.
MacDonald defer $175,000, followed by a Company match of $175,000. In June 2004
The Board of Directors authorized an additional $50,000 to be deferred by Mr.
MacDonald followed by a Company match of $50,000. This brought the Selective
Executive Retirement Compensation Plan total funded value to $450,000. Mr.
MacDonald exercised 100,000 options at $.25 in January 2003 and 15,000 options
at $.75 in March 2003. He has no options remaining available to exercise.
NOTE K - REDEEMABLE PREFERRED STOCK
In August 1996, the Company sold 432,500 shares of Series "A" nonvoting
preferred stock that generated gross proceeds of $865,000, or $2.00 per share.
Each share was entitled to a dividend of 8% ($.16) per share. The shares were
convertible into the Company's common stock on the basis of one share of common
stock for each share of convertible preferred stock. In 2001, 157,000 shares
opted to convert to Series "C" Preferred Convertible Stock and 85,000 shares
were redeemed under the partial settlement and conversion to Series "C"
preferred convertible stock offered to Series "A" preferred stockholders as
approved by the Board of Directors. In 2002 the remaining 75,000 shares were
redeemed.
NOTE L - SERIES "B" CONVERTIBLE PREFERRED STOCK
In January 2000, the Company was authorized to issue 600,000 Series "B"
Convertible Preferred Stock ("Preferred Stock B") par value $1.00 per share.
Each share is entitled to a dividend of 10% of liquidation value $1.00 ($.10)
per share and is to be converted on January 15, 2005 unless converted prior
thereto. Each holder of Preferred Series "B" stock is entitled to four votes per
share in all matters in which holders of the Company's common stock are entitled
to vote. These shares were converted to common stock in January 2005. (See note
Q).
Each share of Preferred Series "B" stock is convertible, at the option
of the holder after one year from the issuance date into common stock of the
Company. The initial conversion price will be 75% of the market value of the
Company's common stock on the day prior to conversion with a maximum conversion
price of $.50 per share subject to adjustment as defined. In March 2002, the
Board amended the Series "B" convertible preferred stock terms and conditions as
follows (1) a dividend of 10% paid in preferred stock, or (2) cash at the option
of the holder. The Board also fixed the conversions of Series "B" preferred at
$0.50 per share in common stock and eliminated the spiral conversion provision
and reduced voting to 2 votes per share.
F-22
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE L - SERIES "B" CONVERTIBLE PREFERRED STOCK (CONTINUED)
Throughout the year of 2004, 103,120 shares of Series "B" Convertible
Preferred Stock were converted into 206,240 shares of Common Stock. As of
December 31, 2004 there were 300,614 shares of Series "B" Convertible Preferred
Stock remaining.
NOTE M - SERIES "C" PREFERRED CONVERTIBLE STOCK
In the Fall of 2001, the Company was authorized to issue 1,015,000
shares of Series "C" Preferred Convertible Stock par value (.001), market value
$1.00 per share. Each share is entitled to a dividend of 10% of liquidation
value $1.00 ($.10) per share and is to be converted on December 31, 2006 unless
converted prior thereto. Each Holder of Preferred Series "C" Stock is entitled
to one (1) vote per share in all matters in which holders of the Company's
Common Stock are entitled to vote. Each share of Preferred Series "C" Stock is
convertible, at the option of the holder, after one year from the issuance date
into Common Stock of the Company. The conversion price will be $.50 a share. In
2002, 11,500 warrants issued at $0.35 per share were distributed proportionately
to Series "C' preferred holders.
Throughout the year of 2004, 67,000 shares of Series "C" Preferred
Convertible Stock were converted into 134,000 shares of Common Stock. As of
December 31, 2004 there were 200,000 shares of Series "C" Preferred Convertible
Stock remaining.
NOTE N - WARRANTS
During 2003, the Company issued 200,000 warrants to James Paradis and
Anthony Burrascono, both affiliated with Villanova University and 200,000
warrants to Mr. David Scheffler, an investment banker, for advisory and
consulting services provided to the Company. The warrants vest in five equal
installments of 40,000 warrants per year over a five-year period. These are
five-year warrants to purchase common shares at an exercise price of $4.80 per
share. These warrants may be cancelled, with a 90-day notice, if the consultants
fail to perform to the satisfaction of the Company.
During 2003, the Company issued 50,000 warrants to Consumer Choices
Systems, Inc. ("CCS") as part of the payment for the purchase of the assets of
CCS. These warrants are three-year warrants to purchase common shares at an
exercise price of $10.00 per share. Of this amount, 25,000 warrants were
exercised in 2003.
During 2003, the Company issued 63,750 warrants and 18,750 warrants to
Mainfield Enterprises, Inc. and Portside Growth & Opportunity Fund. These
warrants are five-year warrants to purchase common shares at exercise prices of
$16.78 per share, which was equal to one hundred fifteen percent (115%) of the
five-day volume weighted average price, all pursuant to the terms of that
certain Securities Purchase Agreement by and between the Company and Mainfield
Enterprises, Inc. and Portside Growth & Opportunity Fund dated as of July 24,
2003.
F-23
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE N - WARRANTS (CONTINUED)
During 2004, there were 40,000 warrants exercised at $4.80 and 6,700
warrants exercised at $0.35.
The fair value of these warrants were estimated using the Black-Scholes
pricing model with the following assumptions: interest rate 4.5%, dividend yield
0%, volatility 0.40 and expected life of five years.
The Company has the following warrants outstanding for the purchase of
its common stock:
Year Ended
Exercise December 31,
------------
Price Expiration Date 2004 2003
----- --------------- ---- ----
$0.35 August, 2004 -- 40,100
$0.35 March, 2005 2,000 --
$0.625 September, 2004 -- 2,500
$4.80 April, 2008 360,000 400,000
$10.00 June, 2006 25,000 25,000
$16.78 July, 2008 82,500 82,500
-------- ---------
469,500 550,100
Weighted average exercise price $7.16 $6.49
===== =====
As of December 31, 2004, 229,500 of the warrants are exercisable.
NOTE O - COMMITMENTS, CONTINGENCIES AND OTHER MATTERS
The Company, like other manufacturers and distributors of products that
are ingested, faces an inherent risk of exposure to product liability claims in
the event that, among other things, the use of its products results in injury.
NOTE P - LITIGATION
On December 16, 2003 John Donavin, on behalf of the General Public,
filed suit, against Jason Pharmaceuticals, Inc. in the Superior Court of the
State of California, City and County of San Francisco. The suit alleges that
Medifast bars contain Vitamin D3 or Vitamin D in violation of Federal laws and
regulations, and asks for equitable relief and damages. The Company's general
council believes that the Company's formulation used in its "meal replacement"
bars for over 20 years has been and is in conformity with current and past FDA
regulations. The Company believes that the plaintiff's claim lacks merit and may
even be considered frivolous. The suit has been stayed upon appeal to the FDA to
clarify its regulations.
F-24
MEDIFAST, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2004 AND 2003
NOTE P - LITIGATION (CONTINUED)
A former consultant continues to claim that he transferred his personal
Medifast stock to a third party organization in 2000, in an attempt to keep
these assets out of his bankrupt estate and therefore outside the jurisdiction
of the Bankruptcy Court. The Company contests, and will vigorously defend, all
such claims made by him. The Trustee in Bankruptcy for the former consultant's
bankruptcy estate has determined that he had no authority to transfer these
shares from his estate, and has concluded that the attempted transfer was
therefore invalid. The Trustee has demanded that he produce the shares, and
plans to file a petition with the Bankruptcy Court requesting that the Court
order him to do so. These assets will be made a part of the bankrupt estate and
will be used to pay creditors.
NOTE Q - SUBSEQUENT EVENTS
In January 2005, the remainder of the Series "B" Convertible Preferred
Stock was converted to Common Stock in accordance with the terms and conditions
of the original offering statement, dated January 19, 2000. The offering stated
that the holders, at the time of conversion, are to receive a dividend at a rate
of 10% per annum and that "interest" will be paid in Common Stock.
F-25