SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the fiscal year ended October 31, 2002
or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from _______ to ________
Commission File Number 333-45226
VERMONT PURE HOLDINGS, LTD.
(Exact name of business issuer in its charter)
Delaware 03-0366218
- ------------------------------- ------------------------------------
(State or other jurisdiction of I.R.S. Employer Identification Number
incorporation or organization)
P.O. Box C, Route 66, Catamount Industrial Park, Randolph, Vermont 05060
(Address of principal executive offices and zip code)
Issuer's telephone number, including area code: (802) 728-3600
Securities registered pursuant to Section 12(g) of the Act: None
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, par value $.001 per share
(Title of Class)
Indicate by check mark 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 preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirement for the past 90 days. Yes [X] No[ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K 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-K or any amendment to this
Form 10-K. [X]
Based on the last sale at the close of business on January 10, 2003 as reported
on the American Stock Exchange, the aggregate market value of the Issuer's
common stock held by non-affiliates of the Issuer was approximately $47,224,606.
The number of shares outstanding of the Issuer's Common Stock, $.001 par value,
was 21,235,926 on January 10, 2003.
Documents Incorporated by Reference
Portions of the registrant's definitive proxy statement, which is expected to be
filed not later than 120 days after the registrant's fiscal year ended October
31, 2002, to be delivered in connection with the registrant's annual meeting of
stockholders, are incorporated by reference to Part III to this Form 10-K.
1
PART I
ITEM 1. BUSINESS.
We bottle, market and distribute natural spring water under the Vermont
Pure(R) and Hidden Spring(R) brands, and distilled water with minerals added
under the Crystal Rock(R) brand, to the retail consumer and home/office markets.
We sell our products primarily in New England, New York and New Jersey, as well
as the mid-Atlantic and the mid-western states.
Industry Background
Bottled water has been and continues to be one of the fastest growing
segments of the beverage industry. According to studies prepared by Beverage
Marketing Corporation, on a calendar year basis, total bottled water consumption
on a per capita basis in the United States more than doubled from 1990 to 2001.
Annual consumption increased from 8.8 gallons per capita in 1990 to 19.5 gallons
per capita in 2001. Bottled water volume in the United States has grown
significantly, increasing from approximately 2.2 billion gallons in 1990 to
approximately 5.4 billion gallons in 2001, a 145% increase. The retail sales
value of bottled water increased more, from approximately $2.6 billion in 1990
to approximately $6.9 billion in 2001. Over the period from 1993 to 2001,
bottled water was the fastest growing beverage category in the United States.
The bottled water market is divided into two distinct categories:
non-sparkling (defined as still or non-carbonated water), which accounts for
approximately 91% of bottled water sales, and sparkling (carbonated), which
accounts for the balance. Non-sparkling water was responsible for 99% of the
incremental volume increase from 1990 to 2001. Both our natural spring water and
our distilled water with minerals added are in the non-sparkling category.
We believe that consumers perceive bottled water to be a healthy and
refreshing beverage alternative to beer, liquor, wine, soft drinks, coffee and
tea. We anticipate that sales of bottled water will continue to grow as
consumers focus on health and fitness, alcohol moderation and the avoidance of
both caffeine and sodium. Bottled water has become a mainstream beverage as the
centerpiece of consumers' healthy living lifestyles. In addition, we believe
that the development and continued growth of the bottled water industry since
the early 1980's reflects growing public awareness of the potential
contamination and unreliability of municipal water supplies.
In recent years, the bottled water industry has experienced periods of
significant consolidation. Large multi-national companies such as Perrier (owned
by Nestle), Groupe Danone and Suntory Water Group have been active acquirers of
small and medium sized regional bottled water companies. In general, the primary
drivers of this consolidation are the incremental growth realized by acquiring
the target company's customer base, and synergies resulting from integrating
existing operations.
The entrance of major soft drink bottlers into the bottling and
distribution segment of the industry has had a major impact on the bottled water
industry. Both Coca-Cola and Pepsi Cola have started producing and marketing
their own brands of reverse osmosis drinking water within the past four years
and, based on dollar sales, are among the top ten bottled water companies in the
United States.
2
Company Background
Vermont Pure Holdings, Ltd. has two main operating subsidiaries,
Crystal Rock Spring Water Company and Vermont Pure Springs, Inc.
Established in 1990, we originally developed Vermont Pure(R) Natural
Spring Water as our flagship brand in the still, non-carbonated retail consumer
category. Over the next decade, we grew aggressively both internally and through
acquisitions, primarily in the Home & Office market. In addition to marketing
the Vermont Pure(R) brand, in 1995 we renewed marketing efforts with respect to
our original trademark, Hidden Spring(R). We expanded our product lines to
include more sizes and features, such as sports caps on selected bottle sizes
for convenient single serve, and multi-packs for the grocery and convenience
store channels.
By 1996, we began to pursue a strategy of diversifying our product
offerings. Most notably, we began to utilize an acquisition strategy in 1996 to
minimize our reliance on the retail consumer side of the business and to
increase growth in other categories. Prior to 1996, our retail business
represented 90% of our total sales revenues. In 2002, by way of contrast, our
Home & Office delivery category represented 68% of our total sales. Based on
historical data, this sales volume would place us fourth in the United States
and second in the northeast region for this type of distribution. Additional
benefits of increasing the Home & Office channel have included higher gross
margins and reduced seasonality of our sales.
In October 2000, we merged with the Crystal Rock Spring Water Company
of Watertown, Connecticut. Crystal Rock had historically focused its
manufacturing resources on the still, non-carbonated segment of the bottled
water industry. Although its primary business had been the marketing and
distribution of Crystal Rock(R) brand of purified and mineralized drinking water
to the Home & Office delivery markets, it also distributed coffee, other
refreshment type products, and vending services in Connecticut, New York and
Massachusetts. We continue to provide these products and services.
We continued our acquisition strategy in fiscal year 2002 with smaller
acquisitions in our established Home & Office markets. Noteworthy among these
was our acquisition of Iceberg Springs, a Home & Office distributor servicing
Fairfield and New Haven counties in Connecticut and the suburban New York
communities in Westchester and Putnam counties. Iceberg's annual revenue was
approximately $3 million while servicing 4,500 customers.
To date, we have not experienced significant problems in integrating
our acquired businesses with our existing operations. However, the acquisition
of new businesses, particularly ones of significant size and complexity, may
require management to devote substantial time and energy to the successful,
efficient and timely integration of operations, labor forces, administrative
systems (including accounting practices and procedures and management
information systems), and varying corporate cultures. A failure to realize
expected synergies could have an adverse effect on our business.
Management believes that, despite such risks, our acquisition strategy
has been and continues to be a success. The combination with Crystal Rock
enabled us to nearly double our sales revenues, significantly accelerated our
Home & Office growth strategy and added to management depth.
3
The growth in our Home & Office delivery category has been
predominantly fueled by market expansion through our acquisition strategy, which
we have pursued mainly in New England and northern New York. We have also
experienced subsequent internal growth in those acquired markets following these
acquisitions.
We have also leveraged our distribution system to expand our product
lines. In particular, coffee, a product that is counter seasonal to water,
became the second leading product in the distribution channel, now accounting
for almost 10% of our total sales. We buy coffee under contracts that set prices
for a period of six to eighteen months, in order to maintain price and supply
stability. Because coffee is a commodity, we cannot ensure that future supplies
and pricing will not be subject to volatility in the world commodity markets.
Any interruption in supply or dramatic increase in pricing may have an adverse
effect on our business.
In the consumer retail market, we have taken advantage of our customer
relationships, quality water sources and bottling operations by co-packing
private brands. Private labels are a growing portion of this category and have
become increasingly competitive with branded products in terms of price and
market share. In addition to providing increased bottling volume and
contributing margin, we believe this business enhances relationships with the
retailers we serve. Current customers include large northeast retail grocers
such as A&P, Giant Carlisle, Finast, Hannaford, Shop Rite, Stop & Shop, CVS, and
Tops, among others. In 2002, private label sales grew to account for 64% of our
consumer retail sales, representing 20% of our total sales.
To accommodate the growing demand for our bottled spring water
products, we have regularly increased our investment in plant and equipment.
When we were founded, our assets included one spring on 1.7 acres of land, a
9,000 square foot office facility and a bottling plant in Randolph, Vermont.
Since that time, we have acquired additional springs on approximately 65 acres
of land in Randolph. We have also built a second office, bottling and warehouse
facility of 32,000 square feet in Randolph, which we recently expanded to
approximately 72,000 square feet. In 2002, we added a second bottling line for
our retail consumer products, more than doubling the production capacity for
this category. We also lease a 67,000 square foot facility located on ten acres
in Watertown, Connecticut. This facility houses the bottling operations, our
largest Home & Office distribution center, and centralized customer service and
administrative offices for our Crystal Rock subsidiary. We also have a
five-gallon bottling facility near Albany, New York, and distribution centers
throughout New England and northern New York.
Water Sources and Bottling Operations
The primary sources of our natural spring water are springs located at
our properties in Randolph and Tinmouth, Vermont, and a spring owned by a third
party in Stockbridge, Vermont, that is subject to a water supply contract.
Percolation through the earth's surface is nature's best filter of
water. We believe that the exceptionally long percolation period of natural
spring water in the north central Vermont area and, in particular, in the area
of our springs, assures a high level of purity. Moreover, the long percolation
period permits the water to become mineralized and pH balanced.
We believe that the age and extended percolation period of our natural
spring water provides the natural spring water with certain distinct attributes:
a purer water, noteworthy mineral characteristics (including the fact that the
water is sodium free and has a naturally balanced pH), and a light, refreshing
taste.
4
In addition to drawing water from our own springs, we buy bulk
quantities of water from natural springs owned or operated by non-affiliated
entities. All of these springs are approved sources for natural spring water.
During fiscal year 2002, purchases of spring water from a source in Vermont that
is not owned by or affiliated with us amounted to approximately 54% of our usage
of spring water. We are actively exploring the acquisition of additional spring
sources that would enable us to reduce our reliance on third-party springs.
We have for several years bought spring water from a source in
Stockbridge, Vermont. Until late 1999, we had no contract with respect to this
source. Commencing in November 1999, we obtained a 50-year water supply contract
to purchase, on a first priority basis, up to 5,000,000 gallons per month from
the spring owner. Because this amount is well in excess of our current needs and
within the apparent capacity of the spring, we believe that we can readily meet
our bulk water supply needs for the foreseeable future.
In 2002, we signed a 20-year agreement with the Town of Bennington,
Vermont to purchase water from a spring owned by the town. Under that agreement,
we can use up to 100,000 gallons a day from this site. We plan to use this water
primarily in our Halfmoon, New York bottling facility.
An interruption or contamination of any of our spring sites would
materially affect our business. We believe that we could find adequate supplies
of bulk spring water from other sources, but that we might suffer inventory
shortages or inefficiencies, such as increased purchase or transport costs, in
obtaining such supplies.
Water from the local municipality is the primary raw source for the
Crystal Rock(R) brand. The raw water is purified through a number of processes
beginning with filtration. Utilizing carbon and ion exchange filtration systems,
we remove chlorine and other volatile compounds and dissolved solids. After the
filtration process, approximately 98% of all impurities are removed by reverse
osmosis and any remaining impurities are removed through distillation. We
ozonate our purified water (the process of injecting ozone into the water as an
agent to prohibit the formation of bacteria) prior to storage in four
30,000-gallon storage tanks. Prior to bottling, we add pharmaceutical grade
minerals to the water, including calcium and potassium, for taste. The water is
again ozonated and bottled in a fully enclosed clean room with a high efficiency
particulate air, or HEPA, filtering system designed to prevent any airborne
contaminants from entering the bottling area, in order to create a sanitary
filling environment.
If for any reason this municipal source for Crystal Rock(R) water were
curtailed or eliminated, we could, though probably at greater expense, purchase
water from other sources and have it shipped to the Watertown manufacturing
facility.
We are highly dependent on the integrity of the sources and processes
by which we derive our products. Natural occurrences beyond our control, such as
drought, earthquake or other geological changes, a change in the chemical or
mineral content or purity of the water, or environmental pollution may affect
the amount and quality of the water emanating from the springs we use. There is
a possibility that characteristics of the product could be changed either
inadvertently or by tampering before consumption. Even if such an event were not
attributable to us, the product's reputation could be irreparably harmed.
Consequently, we would experience economic hardship. Occurrence of any of these
events could have an adverse impact on our business. We are also dependent on
the availability of water and the continued functioning of our bottling
processes. An interruption may result in an inability to meet market demand
and/or negatively impact the cost to bottle the products. Additionally, the
distribution of the product is dependent on other businesses.
5
Finally, the terrorist attacks of September 11, 2001 and any further
attacks could impact our operations negatively if such attacks result in a
prolonged or severe economic downturn. Further, because our products are
packaged for human consumption and could be considered a substitute for public
water infrastructure, there is a possibility that we or our products could be a
direct target of future terrorist attacks. Although management believes this
risk to be remote, any such act of terrorism or attempted act could be
catastrophic to our business or operations.
Products
We sell our natural spring water in the retail consumer market under
the Vermont Pure(R) and Hidden Spring(R) brands, packaging the product in
various bottle sizes ranging from 8 ounces to 1.5 liters, and selling it in
single units and plastic shrinkfilm of six, eight, and twelve bottles. We sell
our products in 12-pack and 24-pack cases. In recent years, sales indicate that
the preferred container sizes are "single serve" sizes - 750 ml and 500 ml. We
use a sports cap on various product sizes to create convenience and add extra
value. We bottle consumer sizes in clear PET (polyethylene terephthalate)
recyclable bottles that are perceived in the marketplace as a high quality
package. Although the Crystal Rock(R) brand is bottled in this type of bottle
for retail sale, and in similar sizes, this outlet does not comprise a
significant amount of our sales.
We sell our three major brands in three and five gallon bottles to
homes and offices throughout New England and New York. In general, Crystal
Rock(R) is distributed in southern New England, while Vermont Pure(R) and Hidden
Spring(R) are distributed in northern New England and upstate and western New
York. We rent water coolers to customers to dispense bottled water. Our coolers
are available in various consumer preferences such as cold, or hot and cold,
dispensing units. In conjunction with our Home & Office accounts, we also
distribute a variety of coffee, tea and other hot beverage products and related
supplies, as well as other consumable products used around the office. We offer
vending services in some locations. We rent or supply multi-burner coffee
machines to customers. In addition, we supply whole beans and coffee grinders
for fresh ground coffee and cappuccino machines to restaurants. We are the
exclusive office coffee distributor of Baronet Coffee in New England, New York
and New Jersey. In addition to Baronet Coffee, we sell other national brands,
most notably, Green Mountain Coffee Roasters.
Marketing and Sales of Branded Products
Marketing
We generally market our products as "premium" domestic bottled water
products in two categories.
Home & Office Delivery
We distribute and market our water in five and three-gallon bottles as
"premium" bottled water products. We seek brand differentiation by offering
quality service. Home & Office sales are generated and serviced using our own
facilities, employees and vehicles.
We also use telemarketers and outside/cold-call sales personnel to
market our Home & Office delivery. We support this sales effort through
promotional giveaways and Yellow Page advertising, as well as radio, television
and billboard advertising campaigns. We also sponsor local area professional
sports and professional sporting events, participate in trade shows, and
endeavor to be highly visible in community and charitable events.
6
We market our Home & Office delivery service throughout most of New
England and New York.
Retail Consumer (PET)
In the retail consumer category, consumers distinguish a premium
bottled water product from other available bottled water products by packaging
consisting of small portable containers, typically clear plastic PET recyclable
bottles. We believe that this is the "ultimate" consumer bottle package because
it is clean, clear, light and recyclable, and generally perceived by consumers
to be higher quality. We also believe that the high quality packaging of our
products enhances their image as premium domestic bottled water products.
We endeavor to price our Vermont Pure(R) brand at a level that is
competitive with other domestic premium brands, but lower than imported premium
water products. Hidden Spring(R) brand products are similarly packaged and sold
to retail grocery and convenience markets. Both of these brands, as well as
Crystal Rock(R), are marketed from our own delivery routes.
We market the Crystal Rock(R) brand by providing the same consistent,
refreshing taste in a small package that customers have relied on from their
coolers in their homes and offices. We also distribute Crystal Rock(R) products
for sponsorship of organizations and events.
We market our spring water products such as the Vermont Pure(R) brand
by highlighting the unique characteristics of our water, namely a natural spring
source, purity, mineral composition and desirable taste. We also strive to use
the image of the State of Vermont in our marketing and brand identification. We
believe that consumers feel that products originating from Vermont have a
general reputation for being pure, wholesome, trustworthy and natural.
We have focused our consumer product marketing and sales activities in
the eastern and mid-western United States. We currently distribute our products
in the New England, New York, New Jersey, mid-Atlantic and northern mid-western
states and the northern Virginia - Washington, D.C. - Baltimore metropolitan
area.
Slotting Fees
To achieve placement of our retail consumer products in certain
supermarket chains and individual supermarket stores, we must sometimes purchase
shelf space by paying slotting fees. Typically, supermarket chains and prominent
local supermarkets impose these charges as a one time payment before the
products are permitted in the store or chain. Other types of retail outlets,
such as individual convenience stores and delicatessens, impose slotting fees
less frequently. These fees are negotiated on an individual basis. As we have
become better established and as our brands have achieved greater recognition,
we have become less dependent on slotting fees to gain space. Nevertheless, like
many producers of food products, we still pay slotting fees in some cases, and
expect to continue to do so.
7
Advertising and Promotion
We advertise our products primarily through print, television and radio
media. In connection with this advertising, we use point of sale, in-store
displays, price promotions, store coupons, free-standing inserts and cooperative
and trade advertising. We have also actively promoted our products through
sponsorship of various organizations and sporting events. In recent years, we
have sponsored professional golf and tennis events, as well as major ski areas
and sports arenas, and various charitable and cultural organizations, such as
Special Olympics, the National Association of Breast Cancer Organizations, the
Multiple Sclerosis Society, and the Vermont Symphony Orchestra.
Sales and Distribution
Home & Office Delivery
We sell and deliver products directly to our customers using our own
employees and route delivery trucks. We make deliveries to customers on a
regularly scheduled basis. We bottle our water at our facilities in Watertown,
Connecticut, Randolph, Vermont, and Halfmoon, New York. We maintain numerous
distribution locations throughout our market area. From these locations we also
distribute dispensing equipment, a variety of coffee, tea and other refreshment
products, and related supplies. We ship between our production and distribution
sites using both our own and contracted carriers.
We use outside distributors in areas where we currently do not
distribute our products. Distributor sales represent less than 1% of total
revenue.
We continue to pursue an acquisition strategy to purchase independent
Home & Office bottlers and distributors in New England and New York State.
Management's decision to expand in this market has been driven by, among other
things, attractive margins and good cash flows from equipment rentals, as well
as by the advantages of product diversification. Moreover, the Vermont Pure(R)
and Crystal Rock(R) brands in the multi-gallon or Home & Office setting affords
consumers an opportunity to sample the product, which we believe augments retail
sales and contributes to brand awareness.
Retail Consumer (PET)
We use major beverage distributors to distribute most of our retail
consumer products, while we distribute our Home & Office products directly.
Using distributors is typical in the beverage industry as an efficient use of
capital for maximum market penetration. Beverage distributors purchase the
products of many companies and then wholesale them to retail chains or make bulk
retail sales. Distributors generally have established relationships with local
retail outlets for beverage products and facilitate obtaining shelf space.
Occasionally, we sell our products directly to grocery store chains.
We distribute our Vermont Pure(R) brand using a number of distributors.
We are obligated to supply the distributors with their requirements of the
Vermont Pure(R) brand at established prices. Arrangements with the distributors
of the Hidden Spring(R) brand are, in general, less restrictive.
We ship our consumer products from our bottling facilities in Randolph,
Vermont by common carrier either directly to beverage distributors and retail
outlets or to authorized warehouses for later distribution to beverage
distributors and retail outlets. Storage is charged on a per pallet basis.
Transportation costs vary according to the distance of the shipment.
8
We employ a sales force of eight persons for retail and distributor
coverage on a geographic basis. Our sales personnel act as a liaison among
distributors, customers and ourselves for ordering product, facilitating
distribution, servicing retail outlets, and coordinating warehouse distribution.
Sales personnel actively seek to expand the number of retail outlets and
distributors, and they participate in overall market development.
Contract Packaging
In recent years, our fastest growing products in the retail consumer
category have been private label products. We bottle private label products in
essentially the same sizes and configurations as for our branded products for
grocery, drug, and convenience store chains, using their label. As the retailers
have entered the market, they have preferred natural spring water for the
product that they market.
Contract packaging is a growing part of the retail consumer marketplace
and is very price competitive. We seek opportunities for contract packaging for
a variety of reasons, including the fact that it develops favorable
relationships with retail chains and provides volume to fill bottling capacity.
In fiscal years 2001 and 2002, contract packing represented the most significant
growth portion of our retail consumer product sales revenue - more than doubling
in 2002. Private label revenue was 20% of our total sales in 2002 compared to 9%
in 2001 and 7% in 2000.
We also package five gallon Home & Office containers, on a limited
basis, for third parties. These sales represented less than 2% of sales in the
most recent fiscal year.
Supplies
We currently source all of our raw materials from outside vendors. In
the retail PET business, we source PET bottles, caps and corrugated packaging
under supply agreements ranging from one to three years. Pricing is fixed in the
agreement with pass through formulas for price increases or decreases based on
total market prices for these commodities. Due to increases in demand or
shortage of key raw materials, we have, at times, had difficulty procuring raw
materials. Supply shortages or subsequent increases in pricing of these
materials have historically had an adverse effect on our expense structure.
We recently entered into a new supply agreement for bottles effective
January 1, 2003 that enables us to further reduce the weight and cost of our
bottles. In recent years, we have effectively reduced our cost per case for
bottles due to the reduction in gram weight of resin. In addition, this
reduction has had a favorable impact on the environment, reducing the amount of
plastic in our containers and the amount of plastic entering the waste stream by
over 1,000,000 pounds per year. Management is constantly undertaking further raw
material cost saving initiatives for caps, plastic, and corrugated packaging.
Notwithstanding these expectations, we may experience shortages or unscheduled
price increases that would adversely effect our cost of goods.
The merger of Crystal Rock and Vermont Pure has nearly doubled the size
of our operations in the Home & Office category and, as a result, afforded us
the opportunity to increase our combined buying power for such things as
bottles, dispensing equipment, supplies, and administrative services. We have
experienced some success in this area and, as one of the largest Home & Office
distributors in the country, we expect to capitalize on volume to continue to
reduce costs. We are a member of the Quality Bottlers Cooperative, or QBC, a
purchasing cooperative comprised of some of the largest independent Home &
Office water companies in the United States. QBC acts as a purchasing and
negotiating agent to acquire national pricing for the cooperative on common
materials such as bottles, water coolers, cups, and other supplies. QBC believes
that due to its size it can effectively purchase equipment and supplies at
levels competitive to larger national entities. We also believe that our
relationship with other QBC members can provide access to potential acquisition
targets.
9
In all aspects of our business, we rely on trucking and fuel to receive
raw materials and transport and deliver finished product. Consequently, the
price of fuel significantly impacts the cost of our products. We purchase our
own fuel for our Home & Office delivery and use third parties for transportation
of raw materials and retail consumer product. While volume purchases and hedging
can help control erratic fuel pricing, market conditions ultimately determine
the price. We have entered into some agreements with haulers and fuel vendors in
an effort to control costs, but substantial changes in fuel prices, including,
for example, increases due to hostilities in the Middle East, would likely
affect our profitability.
No assurance can be given that we will be able to obtain the supplies
we require on a timely basis or that we will be able to obtain them at prices
that allow us to maintain the profit margins we have had in the past. Any raw
material disruption or price increase may result in an adverse impact on our
financial condition and prospects.
Seasonality
Our business is seasonal, with the retail consumer portion of the
business being more seasonal than the Home & Office market. Coffee sales are
counter seasonal to water. The period from June to September represents the peak
period for sales and revenues due to increased consumption of beverages during
the summer months in our core Northeastern United States market. As the larger
share of total sales has trended toward the Home & Office category, our
business, as a whole, has become less seasonal.
Competition
Management believes that bottled water historically has been a regional
business in the United States. As a result, there are numerous bottling
operations within the United States producing a large number of branded products
that are offered in local supermarkets and other retail outlets in the smaller
consumer sizes and sold to the Home & Office markets in one gallon and multiple
gallon containers.
The bottled water market in this country is dominated by large
multi-national companies such as Nestle (Perrier Group), Groupe Danone, and the
Suntory Water Group. Perrier markets such regional brands as Poland Spring, Deer
Park, Ice Mountain, Great Bear, Arrowhead, Calistoga, Ozarka, Zephyr Hills, and
Aberfoyle Springs, and the Aqua-Cool division of Ionics. Groupe Danone
distributes Evian, Dannon, and Naya nationally and Sparkletts regionally.
Suntory markets primarily through the Home & Office channel regional brands such
as Belmont Springs, Kentwood, Crystal Springs, Sierra Springs, and Hinckley
Springs. The entry of Pepsi Cola (Aquafina) and Coca-Cola (Dasani) into the PET
retail segment, leveraging their production and distribution infrastructure, has
significantly altered the bottled water industry. All of these global
competitors have greater resources and their brands are often better established
than our brands.
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We also face increased competition from Canadian suppliers at low
prices due to the exchange rate differential and governmental subsidies in the
retail PET business. Additionally, there are well-established regional water
companies with operations that could adversely affect our business. We also face
competition from the fast growing "private label" and contract-packaged brands
of natural spring water. These brands compete on a low-price basis and often
occupy premium shelf space because they are retailer brands.
The Home & Office market has several national or large competitors such
as Perrier Group (Poland Spring, Deer Park, and Great Bear), and Suntory Water
Group (Belmont Springs). Additionally, we compete with smaller regional bottlers
such as Monadnock in the Boston area, Leisure Time in the Hudson Valley of New
York, and Mayer Brothers in Buffalo.
With our Vermont Pure(R) brand, we compete on the basis of pricing,
customer service, quality of our products, the image of the State of Vermont,
attractive packaging, and brand recognition. With the Crystal Rock(R) brand, we
compete on the basis of the purity of the distilled product with minerals added
back for taste. We consider our trademarks, trade names and brand identities to
be very important to our competitive position and defend our brands vigorously.
We feel that installation of filtration units in the home or commercial
setting poses a competitive threat to the business. To address this, we make
available plumbed-in filtration units and servicing contracts on a limited
basis.
Trademarks
We sell our bottled water products under the trade names Vermont Pure
Natural Spring Water(R), Crystal Rock(R), Hidden Spring(R), and Stoneridge(R).
We have rights to other trade names, including Pequot Natural Spring Water(R),
Excelsior Spring Water(R), Happy Spring Water(R), Iceberg Springs(R), and
Vermont Naturals(R). Our trademarks as well as label design are registered with
the United States Patent and Trademark Office.
Government Regulation
The Federal Food and Drug Administration, or FDA, regulates bottled
water as a "food." Accordingly, our bottled water must meet FDA requirements of
safety for human consumption, of processing and distribution under sanitary
conditions and of production in accordance with the FDA "good manufacturing
practices." To assure the safety of bottled water, the FDA has established
quality standards that address the substances that may be present in water which
may be harmful to human health as well as substances that affect the smell,
color and taste of water. These quality standards also require public
notification whenever the microbiological, physical, chemical or radiological
quality of bottled water falls below standard. The labels affixed to bottles and
other packaging of the water are subject to FDA restrictions on health and
nutritional claims for foods under the Fair Packaging and Labeling Act. In
addition, all drinking water must meet Environmental Protection Agency standards
established under the Safe Drinking Water Act for mineral and chemical
concentration and drinking water quality and treatment which are enforced by the
FDA.
We are subject to the food labeling regulations required by the
Nutritional Labeling and Education Act of 1990. We believe we are in substantial
compliance with these regulations.
11
We are subject to periodic, unannounced inspections by the FDA. Upon
inspection, we must be in compliance with all aspects of the quality standards
and good manufacturing practices for bottled water, the Fair Packaging and
Labeling Act, and all other applicable regulations that are incorporated in the
FDA quality standards.
In May 1996, new FDA regulations became effective that redefined the
standards for the identification and quality of bottled water. We believe that
we meet the current regulations of the FDA, including the classification as
spring water.
We also must meet state regulations in a variety of areas. The
Department of Health of the State of Vermont regulates water products for
purity, safety and labeling claims. Bottled water sold in Vermont must originate
from an "approved source." The water source must be inspected and the water
sampled, analyzed and found to be of safe and wholesome quality. The water and
the source of the water are subject to an annual "compliance monitoring test" by
the State of Vermont. In addition, our bottling facilities are inspected by the
Department of Health of the State of Vermont.
Our product labels are subject to state regulation (in addition to the
federal requirements) in each state where the water products are sold. These
regulations set standards for the information that must be provided and the
basis on which any therapeutic claims for water may be made. We have received
approval from every state for which we have sought approval and can distribute
our brands in 49 states.
The bottled water industry has a comprehensive program of
self-regulation. We are a member of the International Bottled Water Association,
or IBWA. As a member, our facilities are inspected annually by an independent
laboratory, the National Sanitation Foundation, or NSF. By means of unannounced
NSF inspections, IBWA members are evaluated on their compliance with the FDA
regulations and the association's performance requirements, which in certain
respects are more stringent than those of the federal and various state
regulations.
Employees
As of January 10, 2003, we had 343 full-time employees and 26 part-time
employees. None of the employees belongs to a labor union. We believe that our
relations with our employees are good.
Our continued success will depend in large part upon the expertise of
senior management. On October 5, 2000, Timothy G. Fallon, Chairman and Chief
Executive Officer; Peter K. Baker, President; John B. Baker, Executive Vice
President; and Bruce MacDonald, Chief Financial Officer, Treasurer and Secretary
entered into five-year employment contracts with the Company. These agreements
do not prevent these employees from resigning. John Baker's contract has a
"reduced employment" option starting in April 2002 which allows for part-time
employment at Mr. Baker's option. To date, Mr. Baker has not exercised this
option.
The departure or loss of Mr. Fallon or Mr. Peter Baker in particular
could have a negative effect on our business and operations.
12
Additional Available Information
Our principal Internet address is www.vermontpure.com. We make our annual,
quarterly and current reports, and amendments to those reports, available - free
of charge on www.vermontpure.com, as soon as reasonably practicable after we
electronically file such material with, or furnish it to, the SEC.
ITEM 2. DESCRIPTION OF PROPERTY.
We own office, bottling and warehouse properties and natural springs in
Randolph, Vermont. We also rent, on a monthly basis, an office in White Plains,
New York.
We rent public warehouse space in different locations from time to time
for the purpose of the trans-shipment of our bottled water products to our
distributors and retailers. This space is rented on a per pallet basis.
As part of our Home & Office delivery operations, we have entered into
or assumed various lease agreements for properties used as distribution points
and office space. The following table summarizes these arrangements:
Location Lease expiration Sq. Ft. Annual Rent
-------- ---------------- ------- -----------
Williston, VT July, 2003 8,500 $ 61,995
Wilmington, MA October, 2003 10,670 $ 97,273
Rochester, NY January, 2007 15,000 $ 89,400
Buffalo, NY September, 2005 10,000 $ 60,000
Syracuse, NY December, 2005 10,000 $ 33,420
Halfmoon, NY October, 2011 22,500 $ 125,043
Plattsburgh, NY August, 2004 3,640 $ 20,568
Watertown, CT October, 2010 67,000 $ 360,000
Stamford, CT October, 2010 22,000 $ 216,000
White River Junction, VT March, 2004 3,275 $ 16,211
Waterbury, CT June, 2007 19,360 $ 91,974
In conjunction with the Crystal Rock merger, we entered into ten-year
lease agreements to lease the buildings that it utilized for operations in
Watertown and Stamford, Connecticut. The landlord for the buildings is a trust
with which Henry, John, and Peter Baker, and Ross Rapaport are affiliated.
We sold our 9,000 square foot building in Randolph, Vermont in October,
2002. Previously we had moved the operations to our larger facility in Randolph.
We expect that these facilities will meet our needs for the next
several years.
ITEM 3. LEGAL PROCEEDINGS.
In March of 1999, we contracted with Descartes Systems Group, Inc., or
Descartes, an Ontario corporation, to provide professional services related to
the design, installation, maintenance, operation and training for computer
hardware and software. The computer hardware and software was marketed to us as
a product that would provide computerized management of our direct distribution
through our delivery network, and associated billing and accounting.
13
On July 27, 2000, we filed a lawsuit against Descartes and an affiliate
of Descartes entitled Vermont Pure Holdings, Ltd. v. Descartes Systems Group,
Inc. and Endgame Systems, Inc. f/k/a DSD Solutions, Inc., in the United States
District Court for the District of Vermont. The action is docketed as Civil
Action No. 2:00-CV-269. We sought monetary damages against Descartes and Endgame
in an amount exceeding $100,000 for our losses associated with failures of the
systems and services provided by the defendants. In addition, we sought a
declaratory judgment invalidating the defendant's demand for payments in the
amount of $411,841.
The defendants filed a Motion to Dismiss the case based on the premise
that the Federal court does not have the proper jurisdiction and the case should
be arbitrated in Ontario, Canada. In an order dated April 11, 2001, the District
Court granted Descartes' Motion to Dismiss the case. Subsequently, the parties
have reached an agreement to arbitrate the case in the State of Florida at a
date to be determined. We intend to vigorously defend our claim throughout this
process.
Effective August 30, 2002 the two parties executed a standstill
agreement of the arbitration in an effort to settle the matter. In doing so, the
parties also agreed to limit the respective recovery of claims to $400,000 for
us and $200,000 for Descartes. As of January 11, 2003 no settlement of the
matter has been reached.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matter was submitted to a vote of security holders during the
quarter ended October 31, 2002.
14
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Our Common Stock is traded on the American Stock Exchange, or AMEX,
under the symbol VPS. The table below indicates the range of the high and low
daily closing prices per share of Common Stock as reported by AMEX. Prior to May
18, 1999, our Common Stock traded on the NASDAQ SmallCap Market under the symbol
VPUR.
Fiscal Year Ended October 31, 2000 High Low
---------------------------------- ---- ---
First Quarter $3.00 $2.50
Second Quarter $3.75 $3.69
Third Quarter $4.00 $3.00
Fourth Quarter $3.75 $3.00
Fiscal Year Ended October 31, 2001
First Quarter $3.00 $1.75
Second Quarter $2.85 $2.05
Third Quarter $4.07 $2.59
Fourth Quarter $3.55 $2.55
Fiscal Year Ended October 31, 2002
First Quarter $5.50 $3.65
Second Quarter $5.36 $4.70
Third Quarter $4.99 $3.70
Fourth Quarter $4.89 $3.30
The last reported sale price of our Common Stock on AMEX on January
10, 2003 was $4.19 per share.
We had 363 record owners of our Common Stock as of January 10, 2003. As
of that date, we believe that there were in excess of 1,800 beneficial holders
of our Common Stock.
No dividends have been declared or paid to date on our Common Stock,
and we do not anticipate paying dividends in the foreseeable future. We follow a
policy of cash preservation for future use in the business.
15
Securities Sold and Exemption from Registration Claimed.
On January 2, 2002, the Corporation issued shares of the Company's
Common Stock, at a per share price of $4.33, to the following Directors of the
Company in lieu of the board fees owed them for calendar year 2001:
Director Number of Shares Aggregate Price
Carol Lintz 3,017 $13,100
Norman Rickard 3,592 $15,500
Beat Schlagenhauf 2,748 $11,900
Ross Rapaport 2,748 $11,900
Each such transaction was exempt from registration under the
Securities Act of 1933 as a private placement under Section 4(2) thereof.
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial data set forth below should be read
in conjunction with our financial statements and footnotes and "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
appearing elsewhere in this report. The historical results are not necessarily
indicative of the operating results to be expected in the future.
Fiscal Years Ended
October 31, October 31, October 31, October 31, October 31,
2002 2001 2000 1999 1998
--------------- ---------------- ---------------- ---------------- ---------------
Net sales $ 71,720,145 $ 64,858,277 $ 32,972,481 $28,864,737 $26,473,171
Net income (loss) $ 2,509,455 $ 1,168,844 $ (2,382,678) $ 3,398,641 $ 2,858,750
Net income (loss)
per share-diluted $.11 $.06 $(.22) $.31 $.26
Total assets $109,334,071 $106,131,155 $110,825,640 $33,834,230 $26,173,503
Long term obligations $ 46,539,557 $ 47,851,386 $ 51,428,257 $13,733,268 $10,422,803
16
Note that we have adopted new accounting provisions that change the way
we account for promotional costs. Such costs are now deducted (as allowances)
from gross sales instead of being included in advertising and promotional
expense. This reclassification has been made in all years reported above for
comparability. It has no effect on operating income or net income. For further
discussion see Item 7 below.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
Forward-Looking Statements
When used in the Form 10-K and in our future filings with the
Securities and Exchange Commission, the words or phrases "will likely result",
"we expect", "will continue", "is anticipated", "estimated", "project", or
"outlook" or similar expressions are intended to identify "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. We wish to caution readers not to place undue reliance on any such
forward-looking statements, each of which speak only as of the date made. Such
statements are subject to various risks and uncertainties that could cause
actual results to differ materially from historical earnings and those presently
anticipated or projected. We have no obligation to publicly release the result
of any revisions which may be made to any forward-looking statements to reflect
anticipated or unanticipated events or circumstances occurring after the date of
such statements.
Change in Accounting for Promotional Activity
During fiscal year 2002, we changed the way that we accounted for
certain promotional activity related to the sale of our consumer retail packages
in response to provisions adopted by the Emerging Issues Task Force of the
Financial Accounting Standards Board. Starting in fiscal year 2002, we have
deducted most of the costs related to the promotion of the product from sales
instead of including them in operating costs as we have in prior years. The
effect of this change has been to reduce sales with a corresponding decrease in
promotional costs, resulting in no change in operating income. Complete
information regarding this change can be found in footnote 4 of our Consolidated
Financial Statements. For comparability, we have applied this change uniformly
to all of the years reported herein. Thus, sales revenues and operating costs
reported in the following discussion may differ from previous reports.
Results of Operations
Fiscal Year Ended October 31, 2002 Compared to Fiscal Year Ended
October 31, 2001
Sales for 2002 were $71,720,000 compared to $64,858,000 for 2001, an
increase of $6,862,000 or 11%.
Sales through our Home & Office distribution channel increased to
$49,068,000 in 2002 from $47,551,000 in 2001, an increase of $1,517,000 or 3%.
The increase was a result of an acquisition in our core southern New England
market. Sales were down 2%, exclusive of the acquisition, primarily due to a
decrease in sales of our non-water related products.
17
Home & Office sales were 68% of total sales in 2002, compared to 73% in
the previous year. Water sales totaled $24,738,000 in 2002 compared to
$23,027,000 in 2001, an increase of $1,711,000, or 7%. Coffee and other product
sales in this area were $15,581,000 in 2002 compared to $16,501,000 in 2001, a
decrease of $920,000 or 6%. Equipment rentals totaled $8,749,000 in 2002
compared to $8,023,000 in 2001, an increase of $726,000, or 9%. The increase in
water sales and equipment rentals was largely attributable to the acquisition
and growth in our northern New England and New York markets. Sales for the
category, in general, were negatively affected by poor economic growth
conditions, particularly in the southern New England market.
Sales of our consumer retail products increased to $22,652,000 in 2002
from $17,307,000 in 2001, an increase of $5,345,000, or 31%. The increase is
attributable to the private label brands which more than doubled from $6,893,000
in 2001 to $14,530,000 in 2002. This reflected growing market demand and the
addition of a major grocery chain and a national drug chain as customers during
the year. Vermont Pure(R) brand sales decreased 25% from $6,346,000 in 2001 to
$4,763,000 in 2002. Hidden Spring(R) brand sales decreased 17% from $4,068,000
in 2001 to $3,359,000 in 2002. We believe that the decrease in the branded
products for the year was due to the increasingly competitive nature of the
branded marketplace. Competition has affected both price and distribution
channels. As a consequence, there is no assurance that we can regain sales that
have been lost in the branded markets. Average selling price for the segment was
down 9% for 2002. We believe the reduction in average selling price was due to
competitive pressure for both branded and private label products. Furthermore,
in conjunction with new private label agreements, we added a one-gallon size
bottle during 2002, which is a lower priced product by volume compared to other
products.
Cost of goods sold for 2002 was $35,583,000, or 50% of sales, compared
to $29,803,000 or 46% of sales, for 2001. The increase in cost of goods sold, as
a percentage of sales, compared to the prior year was attributable to the
increase in consumer retail product costs and higher costs in the Home & Office
segment. Cost of goods sold was $19,059,000 in 2002 for the Home & Office
segment compared to $18,059,000 for the previous year. For the consumer retail
segment cost of goods sold was $16,524,000 in 2002 compared to $11,744,000 for
2001. Cost per unit of retail product remained stable from 2001 to 2002.
Gross profit increased to $36,137,000, or 50% of sales, in 2002 from
$35,055,000, or 54% of sales, in 2001. Gross profit as a percentage of sales
decreased by 4% as a result of lower average selling prices and higher costs.
The aggregate dollar increase was attributable to higher sales volume. Gross
profit for the Home & Office segment increased to $30,009,000, or 61% of sales,
in 2002 from $29,492,000, or 62% of sales, in 2001. The dollar increase in gross
profit was attributable to higher sales volume. The decrease in gross profit as
a percentage of sales was due to higher service costs in the segment. Gross
profit for the consumer retail segment increased to $6,128,000, or 27% of sales,
in 2002 from $5,563,000, or 32% of sales, in 2001. The dollar increase in gross
profit was attributable to higher sales volume. The decrease in gross profit as
a percentage of sales was due to lower average selling prices costs. Lower
average selling prices are attributable to a change in competitive pressures
affecting all products as well as a change in product mix - from branded to
private label.
18
Total operating expenses decreased to $27,024,000 in 2002 from
$28,178,000 in 2001, a decrease of $1,154,000, or 4%. Operating expenses for the
retail segment of the business increased to $6,304,000 in 2002 from $5,510,000
the previous year, an increase of $794,000, or 14%. Home & Office delivery
operating expenses decreased to $20,720,000 in 2002 from $22,668,000 the
previous year, a decrease of $1,948,000, or 9%.
Selling, general and administrative, or SG&A, expenses were $25,084,000
and $24,302,000 for 2002 and 2001, respectively, an increase of $782,000, or 3%.
SG&A expenses in the retail segment increased 16% to $5,569,000 in 2002 from
$4,824,000 the prior year. The increase was attributable to higher distribution
and storage costs associated with higher sales volume. For the Home & Office
segment, SG&A expenses increased $19,515,000 in 2002 from $19,478,000 the
prior year.
Advertising expenses increased 26% to $1,656,000 in 2002 from
$1,317,000 in 2001. Advertising for the consumer retail segment totaled $683,000
in 2002 compared to $670,000 in 2001. In the Home & Office segment, advertising
increased 51% to $973,000 in 2002 from $646,000 in 2001. The substantial
increase was due to an effort to offset poor economic conditions with increased
visibility.
Amortization decreased from $2,544,000 in 2001 to $232,000 in 2002
because at the beginning of 2002 we implemented Statement of Financial
Accounting Standards No. 142 which stipulates that goodwill will not be
amortized. The pronouncement also stipulates that goodwill will be assessed
periodically for impairment. We completed a valuation of goodwill in the second
quarter and determined that there is no impairment to the goodwill presently on
the balance sheet. An assessment of the value of goodwill will be completed
annually. Other intangible assets continue to be amortized. All amortization is
accounted for in the Home & Office segment.
Other compensation in fiscal year 2002 totaled $52,000 compared to
$16,000 in fiscal year 200. This expense is attributed to the exercise of stock
options.
Income from operations was $9,113,000 in 2002 compared to $6,877,000 in
2001, an increase of $2,236,000. The increase was a result of higher sales and
lower operating costs. Net interest expense decreased to $4,553,000 in 2002 from
$5,034,000 in 2001, a decrease of $481,000. This was reflective of lower market
interest rates on the variable portion of our senior debt and operating line of
credit. In 2002, we had a loss of $228,000 on sale of land and buildings in New
York and Vermont. As a result of the sale, we no longer own property in New
York. Also in 2002, we had miscellaneous expenses of $71,000 representing the
net of worker's compensation and tax settlements combined with income from the
sale of a trademark.
Income before taxes was $4,260,000 in 2002 compared to $1,849,000 in
2001, an improvement of $2,411,000. The increase is a result of higher sales and
lower amortization and interest.
19
We recorded net tax expense of $1,751,000 in 2002, reflecting an
effective tax rate of 41%, compared to $680,000 in 2001, an effective tax rate
of 37%. We had no deferred tax benefits available in 2002 since loss
carryforwards, for book purposes, have been fully utilized. Tax expense in 2001
was offset by a deferred tax benefit of $973,000. Our effective tax rate in 2001
was 37% compared to our assumed statutory rate of 40%. The rate was lowered by
the recognition of the deferred tax benefit, but the benefit was offset by
amortization from the Crystal Rock merger that is not deductible for tax
purposes. For a reconciliation of the effective and statutory expense, see
footnote 19 to our Notes to the Consolidated Financial Statements.
Based on the weighted average number of shares of common stock
outstanding of 21,091,837 (basic) and 22,035,269 (diluted) during 2002, net
income was $.12 per share - basic and $.11 per share - diluted. This compares to
$.06 per share under both methods in 2001.
As discussed above, we periodically execute interest rate swaps as part
of our strategy to curtail our interest rate risk. Such instruments are
considered hedges under SFAS No. 133 and 137. Since the instrument is intended
to hedge against variable cash flows, it is considered a cash flow hedge. As a
result, the change in the fair value of the derivative is recognized as other
comprehensive income (loss) until the hedged item is recognized in earnings. We
did not enter into any new swap agreements during the year ended October 31,
2002. Cumulatively, the fair value of our three outstanding swaps increased
$131,000 during the year resulting in a net decrease in value of $843,000 over
the life of the instruments. This amount has been recognized as an adjustment to
net income to arrive at comprehensive income as defined by the applicable
accounting standards. Further, it has been recorded as a current liability and a
decrease in owners' equity on our balance sheet.
Fiscal Year Ended October 31, 2001 Compared to Fiscal Year Ended
October 31, 2000.
We completed a merger with Crystal Rock Spring Water Company in October
2000. This transaction had a significant impact on nearly all of our
quantitative results. For comparison purposes only, the tables below set forth,
for the respective reporting periods,
(1) the fiscal year 2000 consolidated condensed operating results for
Vermont Pure Holdings, Ltd.,
(2) the fiscal year 2000 consolidated condensed operating results for
Crystal Rock Spring Water Company,
(3) adjustments consistent with the pro forma financial statements
presented in our Proxy Statement/Prospectus dated September 8, 2000
with respect to the transaction, as if the merger had occurred on
October 31, 1999, and
(4) the "Combined" totals of (1), (2) and (3).
The tables also set forth,
(5) the fiscal year 2001 consolidated condensed operating results for
Vermont Pure Holdings, Ltd.
Although they are derived from our financial statements and those of Crystal
Rock, the figures in the tables, including without limitation the "Pro Forma
Combined" column, are not, and should not be considered to be, financial
statements prepared in accordance with generally accepted accounting principles,
nor are they necessarily indicative of future results. The table is intended
solely to provide a basis for a more meaningful comparison of the consolidated
unaudited financial information with our combined operating results for the
respective reporting periods in fiscal year 2000. Certain expenses have been
reclassified from operating expense to cost of goods sold from our operating
statement of a year ago to provide consistency between the two companies and
comparison to 2001.
20
For the Fiscal Year Ended:
(000's of $) (1) (2) (3) (4) (5)
October 31, October 31, 2000 October 31, 2000 Oct. 31, 2001
2000 2000 Pro Forma FY00 Pro Forma FY01
Vermont Pure Crystal Rock Adjustments Combined Consolidated
---------------- -------------- --------------- ------------------- ----------------
Sales $ 32,973 $ 24,536 $ 57,509 $ 64,858
Cost of Goods Sold 17,072 10,804 $ 16 27,892 29,803
---------------- -------------- --------------- ------------------- ----------------
Gross Profit (Loss) 15,901 13,732 (16) 29,617 35,055
Operating Expenses 16,849 11,318 1,298 29,465 28,178
---------------- -------------- --------------- ------------------- ----------------
Income (Loss) from Operations (948) 2,414 (1,314) 152 6,877
Interest Expense 1,893 280 3,428 5,601 5,034
Other (Income) Expense 311 (392) - (81) (6)
---------------- -------------- --------------- ------------------- ----------------
Income (Loss) before Taxes (3,152) 2,526 (4,742) (5,368) 1,849
Income Tax Expense (Benefit) (769) 842 (1,176) (1,013) 680
---------------- -------------- --------------- ------------------- ----------------
Net Income (Loss) $ (2,383) $ 1,684 $ (3,566) $ (4,265) $ 1,169
================ ============== =============== =================== ================
Weighted Average Shares 20,743,540 20,447,609
Basic Earnings (Loss) Per Share $ (.22) $ .06
=================== ================
Sales for 2001 were $64,858,000 compared to $57,509,000 for 2000, an
increase of $7,349,000 or 13%.
Sales through the Home & Office distribution channel were 73% of total
sales and increased in 2001 to $47,551,000 from $44,348,000 in 2000, an increase
of $3,203,000 or 7%. The growth represented market growth typical for the
industry category. Water sales totaled $23,000,000 in 2001 compared to
$20,117,000 in 2000, an increase of $2,883,000, or 14%. Coffee and other product
sales in this area were $16,528,000 in 2001 compared to $16,593,000 in 2000, a
decrease of $65,000. Equipment rentals totaled $8,023,000 in 2001 compared to
$7,638,000 in 2000, an increase of $385,000, or 5%. In addition to market
growth, the increase in water sales was indicative of the relatively cooler
summer weather in 2000 compared to the normal seasonal weather in 2001. The
decrease in the sales of other products was due to the shift of the sale of some
our products to an outside distributor in the consumer retail channel.
Sales of consumer retail products were 27% of total sales and increased
to $17,307,000 in 2001 from $13,161,000 in 2000, an increase of $4,146,000, or
32%. The sales increase was attributable to increased sales volume for the
Vermont Pure(R) brand and other private label brands we bottle as well as new
private label relationships that we commenced during the year. In addition,
average selling prices stabilized from a decreasing trend over the prior few
years, increasing 1%, and the weather in the northeastern United States resumed
a normal summer pattern from a cooler than normal 2000. Vermont Pure(R) brand
sales increased 9% compared to 2000 as a result of strengthening existing
distributor relationships and market expansion. Hidden Spring(R) brand sales
decreased 3% for the year due to competitive activity in mature markets and the
loss of a major customer through bankruptcy. We continued to increase the
private label volume that we bottled in 2001, resulting in an increase of 45% in
sales for these products. The increase was due to growing market demand and the
addition of two major grocery chains as customers during the year. Total case
sales of all consumer retail products were also up 18% in 2001.
21
Cost of goods sold for 2001 was $29,803,000, or 44% of sales, compared
to $27,892,000 or 47% of sales, for 2000. The decrease in cost of goods sold, as
a percentage of sales, compared to the prior year was attributable to production
efficiency and cost savings as a result of the merger with Crystal Rock. Higher
sales volume for both retail and Home & Office packages continue to enhance
efficiency and lower costs per unit. Material pricing was stable in 2001.
Although we decreased its bottle costs during the year, it experienced price
increases for other raw materials.
Gross profit increased to $35,055,000, or 54% of sales, in 2001 from
$29,617,000, or 51% of sales, in 2000. Overall, gross profit increased 18% from
the prior year. The increase was attributable to higher sales volume and selling
prices combined with lower cost of goods sold.
Total operating expenses decreased to $28,178,000 from $29,465,000 in
2000, a decrease of $1,287,000, or 4%. Of those amounts, SG&A expenses were
$24,317,000 and $23,999,000 for 2001 and 2000, respectively, an increase of
$318,000, or 1%. The increase in SG&A expenses was a result of the increase in
Home & Office sales. This category is characterized by higher selling expenses
than the consumer retail category. The relatively small increase in SG&A costs
as compared to the growth in our sales was attributable to savings realized as a
result of the Crystal Rock merger.
As a result of the merger with Crystal Rock, we owned and operated two
major delivery accounting systems in 2000. We decided to consolidate operations
onto one system and consequently wrote down $1,292,000 for the system that was
terminated in 2000. This charge consisted of licensing, installation, training,
and consulting costs. There were no such charges in 2001.
Advertising expenses increased to $1,317,000 in 2001 from $1,258,000 in
2000, an increase of $59,000, or 5%. The increase was primarily related to the
increase in sales volume for consumer retail products. On a per case basis,
advertising and promotional spending decreased in 2001 as a result of the use of
different distribution channels that required less promotional support and our
strategy to compete with lower pricing instead of promotion.
As a result of the merger with Crystal Rock, amortization expense
decreased to $2,544,000 in 2001 from $2,797,000 on a pro forma basis in 2000, a
decrease of $253,000. This was a result of a decrease in the goodwill charges
during the year for agreements that had reached full amortization as well as
actual goodwill being less than the amount projected on a pro forma basis. In
2000, the compensation committee of the Board of Directors approved the
extension of exercise periods for stock options for certain employees and
directors. We recognized compensation expense of $119,000 in conjunction with
this for 2000. There was no such cost in 2001.
Income from operations was $6,877,000 compared to $152,000 in 2000, an
increase of $6,725,000. The increase was a result of higher sales, improved
gross margin, and lower operating costs. Net interest expense decreased to
$5,034,000 in 2001 from the pro forma amount of $5,601,000 in 2000, a decrease
of $567,000. This was reflective of substantially lower interest rates. In
conjunction with the financing of the merger with Crystal Rock, we wrote off
fees and expenses amounting to $406,000 related to the financing we closed with
First Union and Key Banks. We had expected to charge these over the five year
term of the facility. Additional expense of $181,000 was incurred on the write
down of land we owned in New York State. There were no such charges in 2001. We
had $668,000 of miscellaneous income in 2000 related to settlement of litigation
and sale of fixed assets which did not reoccur in 2001. Net income before taxes
of $1,849,000 in 2001 compared to a net loss before taxes of $5,368,000 in 2000
was an improvement of $7,217,000. The return to profitability was a result of
increased sales, including a higher percentage of Home & Office sales, and
effective integration of the Vermont Pure and Crystal Rock businesses to take
advantage of cost savings. During 2001, interest rates decreased to levels that
they had not been in many years. A significant portion of our debt is variable.
Our average interest rate was substantially lower in 2001 as a result. Cost
increased since the amount of debt, as a result of the Crystal Rock merger,
increased significantly.
22
Net income of $1,169,000 in 2001 compared to a net loss of $4,265,000
in 2000 was an improvement of $5,434,000. We recorded net tax expense of
$680,000 in 2001 compared to $1,103,000 in 2000. Tax expense in both years was
offset by deferred tax benefits of $973,000 and $769,000 that was recognized
based on our profitability trends. Our effective tax rate in 2001 was 37%
compared to our assumed statutory rate of 40%. The rate was lowered by the
recognition of the deferred tax benefit but the benefit was offset by
amortization from the Crystal Rock merger that is not deductible for tax
purposes. For a reconciliation of the effective and statutory expense, see
footnote 19 to the Notes to the Consolidated Financial Statements.
Based on the weighted average number of shares of common stock
outstanding of 20,447,609 (basic) and 20,651,239 (diluted) during 2001, net
income was $.06 per share under both methods. This compares to a net loss of
$.22 per share based on 20,743,540 (basic) pro forma weighted average shares in
2000. Calculation of diluted weighted average shares outstanding in 2000 for use
as a denominator for earnings per share would be anti-dilutive.
On June 29, 2001 the Financial Accounting Standards Board approved SFAS
141 and 142 concerning new accounting procedures for business combinations and
goodwill and intangible assets. SFAS 141 requires that business combinations
after June 30, 2001 be accounted for using the purchase method of accounting and
outlines new criteria for purchase price allocation. We did not complete any
material transactions after June 30, 2001 during the fiscal year. We adopted
SFAS 142 in fiscal year 2002.
As discussed above, we periodically execute interest rate swaps as part
of our strategy to curtail our interest rate risk. Such instruments are
considered hedges under SFAS No. 133 and 137. Since the instrument is intended
to hedge against variable cash flows, it is considered a cash flow hedge. As a
result, the change in the fair value of the derivative will be recognized as
comprehensive income (loss) until the hedged item is recognized in earnings.
Cumulatively, the fair value of our three outstanding swaps decreased $973,537
for 2001. This amount has been recognized as an adjustment to net income to
arrive at comprehensive income as defined by the applicable accounting
standards. Further, it has been recorded as a current liability and, as a
result, decreased owners' equity on our balance sheet.
Liquidity and Capital Resources
At October 31, 2002, we had working capital of $3,774,000. This
represents an decrease of $470,000 from the $4,244,000 of working capital on
October 31, 2001. The decrease is a reflection of the use of working capital to
fund plant and equipment acquisitions to grow our business. A considerable
portion of our expenses do not require cash. Depreciation, deferred taxes and
other items totaling $9,198,000 more than offset the usage of cash for changes
in assets and liabilities of $951,000. When combined with net income, these
items provide $8,248,000 of cash flow from operating activities compared to
$5,548,000 in 2001, an increase of $2,700,000. This demonstrates that our
consolidated Home & Office operations, which are capital intensive, continue to
generate cash.
23
Cash flows from investing activities had a net outflow of $9,409,000
due to the use of cash for the acquisition of Iceberg Springs in November, 2001
and capital equipment. Capital expenditures were predominantly for routine Home
& Office delivery items - bottles, coolers and brewers and a bottling line in
our retail bottling facility. During 2002, we had a net cash inflow from
financing activities of $714,000. This was primarily attributable to borrowing
$4,200,000 for the Iceberg acquisition, and from the sale of stock upon the
exercise of stock options and from purchases under our Employee Stock Purchase
Plan, totaling $704,000.
During 2002, we made scheduled debt repayments of $4,190,000 primarily
for our senior debt facility with Webster Bank. We borrowed and repaid
$3,865,706 from our operating line of credit under the same facility. We
routinely require this borrowing on a seasonal basis. The line of credit
currently expires on February 1, 2003. A two year extension to this facility is
currently being negotiated.
At October 31, 2002, we have recognized all available deferred tax
assets and recorded a deferred tax asset of $2,835,000 after application of a
portion of the asset to the current year's liability. We have recorded all
available deferred tax benefits. Based on historical pre-tax income and
projected profitability, the realization of such deferred tax asset is expected
to take place over the next one or two years. We have estimated that $2,356,000
will be applied in 2003 and $479,000 will be applied in 2004.
Our cash balance at October 31, 2002 decreased by a net amount of
$447,000 from October 31, 2001. The decrease in cash is a reflection of our
intention to minimize debt. Based on 2002 financial results as of and for the
fiscal year ended October 31, 2002, we are in compliance with all of our
financial covenants in our agreement with Webster Bank except the debt service
coverage covenant which the Bank has waived for the period. The debt service
coverage covenant is expected to be modified under the terms of the new
agreement with the Bank. As of October 31, 2002, under the expected terms, we
would have been in compliance with all the financial covenants.
On December 30, 2002, we executed a term sheet with Webster Bank to
refinance our senior debt. The refinancing serves three purposes: to modify the
amortization schedule of the existing term debt (at October 31, 2002:
$28,570,000); to provide up to $15 million of debt for acquisitions and
retirement of subordinated debt; and to increase and renew the expiring
operating line of credit.
The new agreement would amortize the payback of the existing debt over
seven years and would amortize the payback of the new acquisition debt for five
years after the first two years. During the first two years, interest only would
be paid on a monthly basis for amounts drawn down for acquisitions and
subordinated debt repayment. The operating line of credit would be renewed for
two years for a total of $6,500,000. Interest on all borrowings would be tied to
our financial performance but commence at the 30 day LIBOR plus 200 basis
points.
Use of the proceeds related to acquisitions and retirement of
subordinated debt would be based on our compliance with certain covenants and
requirements, and our attainment of certain projections.
24
We continue to pursue an active program of evaluating acquisition
opportunities. As a result, we anticipate using our capital resources and
financing from outside sources in order to complete any further acquisitions. We
have no other current arrangements with respect to, or sources of, additional
financing for our business or future plans. There can be no assurance that
financing will be available on acceptable terms or at all to execute future
plans.
Recent economic conditions have provided both opportunities and
challenges. As noted, poor economic conditions resulted in decreased sales in
the Home & Office segment. Continued negative economic changes in the
northeastern United States adversely affect our financial results in the future.
Inflation has had no material impact on our performance. Since we have relied on
debt to finance our acquisition strategy, low market interest rates have
significantly reduced our interest costs. While interest rates are expected to
stay low in the immediate future and until economic conditions improve, we
continue to be exposed to market rates. See item 7A for a discussion of interest
rate risk.
Critical Accounting Policies
The Securities and Exchange Commission has requested that filers report
their critical accounting policies. The SEC defines "critical accounting
policies" as those that require application of management's most difficult,
subjective or complex judgments, often as a result of the need to make estimates
about the effects of matters that are inherently uncertain and may change in
subsequent periods.
Our financial statements are prepared in accordance with generally
accepted accounting principles. Preparation of the statements in accordance with
these principles requires that we make estimates, using available data and our
judgment for such things as valuing assets, accruing liabilities, and estimates
expenses. The following is a list of what we feel are the most critical
estimations that we make when preparing our financial statements.
Accounts Receivable - Allowance for Doubtful Accounts
We routinely review our accounts receivable, by customer account aging, to
determine the collectibility of the amounts due based on information we receive
from the customer, past history, and economic conditions. In doing so, we adjust
our allowance accordingly to reflect the cumulative amount that we feel is
uncollectible. This estimate may vary from the proceeds that we actually
collect. If the estimate is too low we may incur higher bad debt expenses in the
future resulting in lower net income. If the estimate is too high, we may
experience lower bad debt expense in the future resulting in higher net income.
Fixed Assets - Depreciation
We maintain buildings, machinery and equipment, and furniture and fixtures to
operate our business. These assets have extended lives. We estimate the life of
individual assets to spread the cost over the expected life. The basis for such
estimates is use, technology, required maintenance, and obsolescence. We
periodically review these estimates and adjust them if necessary. Nonetheless,
if we overestimate the life of an asset(s), at a point in the future, we would
have to incur higher depreciation costs and consequently, lower net income. If
we underestimate the life of an asset(s) we would absorb too much depreciation
in the early years resulting in higher net income in the later years when the
asset is still in service.
25
Goodwill - Intangible Asset Impairment
We have acquired a significant number of companies. The difference between the
value of the assets and liabilities required, including transaction costs, and
the purchase price is recorded as goodwill. If goodwill is not impaired, it
remains as an asset on our balance sheet at the value acquired. If it is
impaired we are required to write down the asset to an amount that accurately
reflects its carrying value. We have had an independent valuation company value
our goodwill balance and have determined that it is not impaired. In providing
the valuation, the company has relied, in part, on projections of future cash
flows of the assets that we provided. If these projections change in the future
there may be a material impact on the valuation of goodwill and result in
impairment of the asset.
Deferred Tax Asset
We have recognized a deferred tax asset on our balance sheet to reflect
cumulative current benefit of future tax loss carryforwards. We expect that the
asset to be realized over the next two years and therefore have not provided a
valuation allowance related to this asset. We have relied on our estimated
financial results for future years. If we have over estimated earnings in future
years we may have, in turn, overestimated the deferred tax asset and may have to
provide a valuation allowance, decreasing net income. Conversely, it may take us
longer to realize the value of the asset.
To the extent that final SEC rules on this subject may require disclosures in
addition to those we already make, we intend to adopt such additional disclosure
requirements when the final rules have been adopted.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risks relating to our operations result primarily from changes
in interest rates and commodity prices, primarily the resin prices for PET
bottles.
Interest Rate Risks
At October 31, 2002 we had approximately $12,600,000 of long term debt
subject to variable interest rates. Under the loan and security agreement with
Webster Bank, we currently pay interest at a rate of LIBOR plus a margin of
1.50%. A hypothetical 100 basis point increase in the LIBOR rate would result in
an additional $126,000 of interest expense on an annualized basis. Conversely, a
decrease would result in a proportionate interest cost savings.
We use interest rate "swap" agreements to curtail interest rate risk.
On November 3, 2000, we entered into a swap agreement with Webster Bank to fix
$8,000,000 of our long term debt at 8.07% interest for three years based on the
current applicable margin. On April 2, 2001, we entered into a swap agreement
with Webster Bank to fix an additional $4,000,000 of our long term debt at 6.78%
interest for three years. On July 24, 2001, we entered into a swap agreement
with Webster Bank to fix an additional $4,000,000 of our long term debt at 6.50%
interest for three years.
In aggregate, we have fixed the interest rate on this $16,000,000 of
debt at 7.35% over the next one to two years. Currently, we believe that this is
above market rates though the agreements are based on three year rate
projections. They serve to stabilize our cash flow and expense but ultimately
may cost more or less in interest than if we had carried all of our debt at a
variable rate over the swap term. Since significantly increasing our debt in
October 2001, our strategy has been to keep the fixed and variable portions of
our senior debt approximately equal to offset and minimize the respective the
risk of rising and falling interest rates. Future low rates may compel us to fix
a higher portion to further stabilize cash flow and expenses as we monitor short
and long term rates and debt balances.
26
Commodity Price Risks
Plastic - PET
In December 2002, we executed a new four year agreement with our bottle
supplier. The contract allows the vendor to pass-on to the Company any resin
price increases. These prices are related to supply and demand market factors
for PET and, to a lesser extent, the price of petroleum, an essential component
of PET. A hypothetical resin price increase of $.05 per pound would result in an
approximate price increase per bottle of $.002 or, at current volume levels,
$200,000 a year.
Coffee
The cost of our coffee purchases are dictated by commodity prices. We
enter into contracts to mitigate market fluctuation of these costs by fixing the
price for certain periods. Currently we have fixed the price of our anticipated
supply through June 2003 at "green" prices ranging from $.61-$.74 per pound. We
are not insulated from price fluctuations beyond that date. At our existing
sales levels, an increase in pricing of $.10 per pound would increase our total
cost for coffee $75,000. In this case, competitors that had fixed pricing might
have a competitive advantage.
Diesel Fuel
We own and operate vehicles to deliver product to customers. The cost
of fuel to operate these vehicles fluctuates over time. During fiscal 2002 we
incurred $700,000 of fuel expense. During the year, we entered into a contract
fixing approximately the cost for 25% of the total fuel anticipated to be
purchased during fiscal 2003. The contract fixes fuel costs for the year (spread
evenly) at an average base cost before additives and taxes of $0.85 per gallon.
Based on last year's consumption, a $0.10 increase per gallon in fuel cost would
result in an increase to operating costs of $50,000.
We also pay for fuel indirectly by hiring carriers to deliver product
though we do not have contracts with them. While the impact of a change in
prices is less predictable because of the absence of a contractual arrangement,
we know that fuel prices affect freight rates. Based on experience and
estimates, a $.10 per gallon increase in fuel costs would result in additional
freight cost of $25,000 per year.
ITEM 8. FINANCIAL STATEMENTS AND OTHER SUPPLEMENTARY DATA
Financials statements and their footnotes are set forth on pages F-1
through F-26.
27
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
Independent Auditors' Reports F-1 - F-2
Financial Statements:
Consolidated Balance Sheets,
October 31, 2002 and 2001 F-3
Consolidated Statements of Operations,
Fiscal Years Ended October 31, 2002, 2001, 2000 F-4
Consolidated Statements of Stockholders' Equity
Fiscal Years Ended October 31, 2002, 2001, 2000 F-5
Consolidated Statements of Cash Flows,
Fiscal Years Ended October 31, 2002, 2001, 2000 F-6
Notes to Consolidated Financial Statements F-7 - F-26
INDEPENDENT AUDITORS' REPORT
To the Board of Directors
Vermont Pure Holdings, Ltd.
Randolph, VT 05060
We have audited the accompanying consolidated balance sheet of Vermont
Pure Holdings, Ltd. and Subsidiaries as of October 31 2002 and the related
consolidated statements of operations, change in stockholders' equity and cash
flows for year then ended. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audit in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Vermont
Pure Holdings, Ltd. and Subsidiaries at October 31, 2002, and the consolidated
results of their operations and their cash flows for year then ended, in
conformity with accounting principles generally accepted in the United States of
America.
/s/ GRASSI & CO., CPAs, P.C.
GRASSI & CO., CPAs, P.C.
Certified Public Accountants
New York, New York
December 13, 2002
F-1
INDEPENDENT AUDITORS' REPORT
To the Board of Directors
Vermont Pure Holdings, Ltd.
Randolph, VT 05060
We have audited the accompanying consolidated balance sheet of Vermont
Pure Holdings, Ltd. and Subsidiaries as of October 31 2001, and the related
consolidated statements of operations, changes in stockholders' equity and cash
flows for each of the two years in the period ended October 31, 2001. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Vermont
Pure Holdings, Ltd. and Subsidiaries at October 31, 2001, and the consolidated
results of their operations and their cash flows for each of the two years in
the period ended October 31, 2001, in conformity with accounting principles
generally accepted in the United States of America.
/s/ Feldman Sherb & Co., P.C.
Feldman Sherb & Co., P.C
Certified Public Accountants
New York, New York
December 14, 2001
F-2
VERMONT PURE HOLDINGS, LTD. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
October 31,
------------------------------------------
2002 2001
----------------- ----------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 652,204 $ 1,099,223
Accounts receivable - net 7,547,444 7,384,877
Inventories 4,067,740 3,147,985
Current portion of deferred tax asset 2,356,000 2,313,000
Other current assets 1,202,064 2,297,358
----------------- ---------------
TOTAL CURRENT ASSETS 15,825,452 16,242,443
----------------- ---------------
PROPERTY AND EQUIPMENT - net of accumulated depreciation 21,676,520 21,231,954
----------------- ---------------
OTHER ASSETS:
Goodwill 70,427,887 65,854,795
Other intangible assets - net of accumulated amortization 648,089 245,917
Deferred tax asset 479,000 2,301,000
Other assets 277,123 255,046
----------------- ---------------
TOTAL OTHER ASSETS 71,832,099 68,656,758
----------------- ---------------
TOTAL ASSETS $ 109,334,071 $ 106,131,155
================= ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long term debt $ 4,881,817 $ 3,560,128
Accounts payable 3,508,062 4,102,235
Accrued expenses 2,640,226 3,206,648
Current portion of customer deposits 178,937 155,943
Unrealized loss on derivatives 842,898 973,537
----------------- ---------------
TOTAL CURRENT LIABILITIES 12,051,940 11,998,491
Long term debt, less current portion 46,539,557 47,851,386
Customer deposits 2,803,340 2,443,100
----------------- ---------------
TOTAL LIABILITIES 61,394,837 62,292,977
----------------- ---------------
COMMITMENTS AND CONTINGENCY
STOCKHOLDERS' EQUITY:
Preferred stock - $.001 par value, 500,000
authorized shares, none issued and outstanding - -
Common stock - $.001 par value, 50,000,000
authorized shares, 21,235,927 issued and outstanding
shares in 2002 and 20,767,670 in 2001 21,236 20,768
Additional paid in capital 57,023,093 55,562,599
Accumulated deficit (8,262,197) (10,771,652)
Accumulated other comprehensive loss (842,898) (973,537)
----------------- ---------------
TOTAL STOCKHOLDERS' EQUITY 47,939,234 43,838,178
----------------- ---------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 109,334,071 $ 106,131,155
================= ===============
The attached notes are an integral part of these consolidated financial statements.
F-3
VERMONT PURE HOLDINGS, LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Fiscal Year Ended October 31,
------------------------------------------------------
2002 2001 2000
-------------- ---------------- --------------
NET SALES $ 71,720,145 $ 64,858,277 $ 32,972,481
COST OF GOODS SOLD (Including depreciation of $3,460,066 in 2002,
$2,939,535 in 2001 and $2,025,564 in 2000) 35,583,157 29,803,176 14,682,361
-------------- ---------------- --------------
GROSS PROFIT 36,136,988 35,055,101 18,290,120
-------------- ---------------- --------------
OPERATING EXPENSES:
Selling, general and administrative expenses 25,083,758 24,301,564 16,424,730
Advertising expenses 1,655,829 1,316,990 601,402
Writedown of computer software - - 1,291,719
Amortization 232,201 2,543,820 801,695
Other compensation 52,400 15,752 118,670
-------------- ---------------- --------------
TOTAL OPERATING EXPENSES 27,024,188 28,178,126 19,238,216
-------------- ---------------- --------------
INCOME (LOSS) FROM OPERATIONS 9,112,800 6,876,975 (948,096)
-------------- ---------------- --------------
OTHER INCOME (EXPENSE):
Interest (4,553,179) (5,033,760) (1,893,087)
Debt exit fees and expenses - - (405,972)
Loss on disposal of property and equipment (228,025) - (180,837)
Miscellaneous (71,141) 5,836 276,150
-------------- ---------------- --------------
TOTAL OTHER EXPENSE, NET (4,852,345) (5,027,924) (2,203,746)
-------------- ---------------- --------------
INCOME (LOSS) BEFORE INCOME TAX EXPENSE (BENEFIT) 4,260,455 1,849,051 (3,151,842)
INCOME TAX EXPENSE (BENEFIT) 1,751,000 680,207 (769,164)
-------------- ---------------- --------------
NET INCOME (LOSS) $ 2,509,455 $ 1,168,844 $ (2,382,678)
============== ================ ==============
NET INCOME (LOSS) PER SHARE - BASIC $ 0.12 $ 0.06 $ (0.22)
============== ================ ==============
NET INCOME (LOSS) PER SHARE - DILUTED $ 0.11 $ 0.06 $ (0.22)
============== ================= ==============
WEIGHTED AVERAGE SHARES USED IN COMPUTATION - BASIC 21,091,837 20,447,609 10,992,995
============== ================= ==============
WEIGHTED AVERAGE SHARES USED IN COMPUTATION - DILUTED 22,035,269 20,651,239 10,992,995
============== ================= ==============
The attached notes are an integral part of these consolidated financial statements.
F-4
VERMONT PURE HOLDINGS, LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
Accumulated
Additonal Other
Common Stock Paid in Treasury Stock Accumulated Comprehensive Comprehensive
Shares Par Value Capital Shares Amount Deficit Loss Total Income (Loss)
-------- --------- ------- -------- ------- ----------- ------------- --------- ------------
Balance, October 30, 1999 10,339,758 $ 10,340 $23,197,724 50,000 $(168,750) $(9,557,817) $ - $13,481,497
Common stock issued for
acquisition 9,873,016 9,873 31,090,127 31,100,000
Sale of common stock 5,000 5 11,245 11,250
Stock compensation 118,670 118,670
Retirement of treasury stock (50,000) (50) (168,700)(50,000) 168,750 -
Net loss (2,382,679) (2,382,679)
-------------------------------------------------------------------------------------------------------
Balance, October 31, 2000 20,167,774 20,168 54,249,066 - - (11,940,496) - 42,328,738
Stock compensation 6,598 7 15,745 15,752
Debt converted to common
stock 430,883 431 974,569 975,000
Exercise of stock options 100,000 100 227,100 227,200
Shares purchased under
employee stock plan 62,415 62 96,119 96,181
Net income 1,168,844 1,168,844 1,168,844
Unrealized loss on
derivatives (973,537) (973,537) (973,537)
--------------------------------------------------------------------------------------------------------
Balance, October 31, 2001 20,767,670 20,768 55,562,599 - - (10,771,652) (973,537) 43,838,178 $ 195,307
---------
Common stock issued for
acquisition 213,912 214 704,413 704,627
Stock compensation 12,105 12 52,388 52,400
Exercise of stock options 179,500 179 482,859 483,038
Shares purchased under
employee stock plan 62,740 63 220,834 220,897
Net income 2,509,455 2,509,455 2,509,455
Unrealized gain (loss) on
derivatives 130,639 130,639 130,639
--------------------------------------------------------------------------------------------------------
Balance, October 31, 2002 21,235,927 $ 21,236 $57,023,093 - $ - $ (8,262,197) $ (842,898) $47,939,234 $ 2,640,094
========================================================================================================
The attached notes are an integral part of these consolidated financial statements.
F-5
VERMONT PURE HOLDINGS, LTD. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Fiscal Year Ended October 31,
----------------------------------------------
2002 2001 2000
------------- ------------- --------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 2,509,455 $ 1,168,844 $ (2,382,678)
Adjustments to reconcile net income (loss) to net cash provided by operating
activities:
Depreciation 4,398,432 3,690,675 2,083,204
Amortization 232,203 2,543,820 801,695
Change in deferred tax asset 1,779,000 (60,000) (769,164)
Gain on settlement of note receivable - - (295,000)
Loss on disposal of property and equipment 228,025 56,962 101,499
Non cash compensation 52,400 15,752 118,670
Changes in assets and liabilities (net of effect of acquisitions):
Accounts receivable (245,816) (744,342) 93,831
Inventories (919,755) (369,450) 559,824
Other current assets 1,125,000 (1,152,046) (163,905)
Other assets (21,676) 160,821 80,218
Accounts payable (594,173) (432,883) 83,972
Accrued expenses (483,191) 574,839 1,043,446
Customer deposits 187,860 95,184 76,651
------------- ------------- -------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 8,247,764 5,548,176 1,432,263
------------- ------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property, plant and equipment (4,692,785) (3,827,225) (3,680,793)
Purchase of property, plant and equipment from bond financing - - (2,467,931)
Purchase of money market investment from bond financing - - (4,125,424)
Reduction of money market investment account - - 2,467,931
Reduction of money market investment account for pay-off of bond issuance - 3,301,064 1,657,493
Purchase of money market investment for pay-off of remaining bond issuance - - (3,301,064)
Sale (purchase) of certificate of deposit securing outstanding debt - 975,000 (975,000)
Proceeds from sale of property and equipment 271,262 31,700 329,550
Collection of note receivable - - 1,270,000
Cash used for acquisitions - net of cash acquired (4,987,073) (328,550) (10,330,062)
-------------- ------------ -------------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES (9,408,596) 151,989 (19,155,300)
-------------- ------------ -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from line of credit borrowings 3,865,706 3,040,000 5,658,208
Proceeds from debt 4,200,000 - 35,067,765
Payments on line of credit (3,865,706) (3,500,000) -
Principal payments of debt (4,190,123) (5,872,482) (726,307)
Principal payment of debt relating to refinancing - - (21,246,739)
Exercise of stock options 483,039 227,200 -
Proceeds from sale of common stock 220,897 96,182 11,250
------------- ------------- -------------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 713,813 (6,009,100) 18,764,177
------------- ------------- -------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (447,019) (308,935) 1,041,140
CASH AND CASH EQUIVALENTS - beginning of year 1,099,223 1,408,158 367,018
------------- ------------- -------------
CASH AND CASH EQUIVALENTS - end of year $ 652,204 $ 1,099,223 $ 1,408,158
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SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest $ 4,556,831 $ 4,421,322 $ 1,579,381
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Cash paid for taxes $ 193,372 $ 301,000 $ 118,503
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NON-CASH FINANCING AND INVESTING ACTIVITIES:
Equipment acquired under capital leases $ - $ - $ 145,844