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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

[X]    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED MARCH 31, 2004

or

[  ]    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

Commission File No. 1-15445

DRUGMAX, INC.,

(Name of registrant as specified in its charter)

Issuer’s telephone number: (727) 533-0431

Securities registered pursuant to Section 12(b) of the Exchange Act:  None.

Securities registered pursuant to Section 12(g) of the Exchange Act:

Common stock, Par value $.001 per share

(Title of Class)

        Indicate by check mark whether the issuer (1) filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  [X]  No  [  ]

        Indicate by check mark if no disclosure of delinquent filers in response to Item 405 of Regulation S-B is not contained in this form, and no disclosure will be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  [X]

        Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b2 of the Act).  Yes  [  ]  No  [X]

        The aggregate market value of the Common Stock, $.001 par value, held by non-affiliates of the Registrant based upon the last price at which the common stock was sold as of the last business day of the Registrant’s most recently completed second fiscal quarter, September 30, 2003, as reported on the NASDAQ Stock Market was approximately $11,931,611. Shares of Common Stock held by each officer and director and by each person who owns 5% or more of the outstanding Common Stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

        The number of shares outstanding of common stock as of July 2, 2004 was 8,193,152.

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DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant’s definitive Proxy Statement to be used in connection with the Registrant’s 2004 Annual Meeting of Stockholders, which will be filed on or before July 29, 2004, are incorporated by reference in Part III, Items 10-14 of this Form 10-K. Except with respect to information specifically incorporated by reference in this Form 10-K, the Proxy Statement is not deemed to be filed as a part hereof.

CAUTIONARY STATEMENTS

Certain oral statements made by management from time to time and certain statements contained in press releases and periodic reports issued by DrugMax, Inc. (the “Company”), including those contained herein, that are not historical facts are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Because such statements involve risks and uncertainties, actual results may differ materially from those expressed or implied by such forward-looking statements. Forward-looking statements, including those in Management’s Discussion and Analysis of Financial Condition and Results of Operations, are statements regarding the intent, belief or current expectations, estimates or projections of the Company, its Directors or its Officers about the Company and the industry in which it operates, and assumptions made by management, and include among other items, (a) the Company’s strategies regarding growth and business expansion, including its strategy of focusing on higher-margin products while reducing costs and the Company’s proposed merger with Familymeds Group, Inc. and other potential future acquisitions; (b) the Company’s financing plans, including its intent to enter into a new credit facility in connection with the proposed merger with Familymeds Group, Inc.; (c) trends affecting the Company’s financial condition or results of operations; (d) the Company’s ability to continue to control costs and to meet its liquidity and other financing needs; (e) the Company’s ability to improve and maintain effective disclosure and internal controls and (f) the Company’s ability to respond to changes in customer demand and regulations. Although the Company believes that its expectations are based on reasonable assumptions, it can give no assurance that the anticipated results will occur. When used in this report, the words “expects,” “anticipates,” “intends,” “plans,” “believes,” “seeks,” “estimates,” and similar expressions are generally intended to identify forward-looking statements.

Important factors that could cause the actual results to differ materially from those in the forward-looking statements include, among other items, (i) changes in the regulatory and general economic environment related to the health care and pharmaceutical industries, including possible changes in reimbursement for healthcare products and in manufacturers’ pricing or distribution policies; (ii) conditions in the capital markets, including the interest rate environment and the availability of capital; (iii) changes in the competitive marketplace that could affect the Company’s revenue and/or cost bases, such as increased competition, lack of qualified marketing, management or other personnel, and increased labor and inventory costs; (iv) changes in technology or customer requirements, (v) changes regarding the availability and pricing of the products which the Company distributes, as well as the loss of one or more key suppliers for which alternative sources may not be available, (vi) the Company’s ability to integrate recently acquired businesses and (vii) the factors set forth in “Risk Factors” contained in this Annual Report on Form 10-K. Further information relating to factors that could cause actual results to differ from those anticipated is included but not limited to information under the headings “Business,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this Form 10-K. The Company disclaims any intention or obligation to update or revise forward-looking statements, whether as a result of new information, future events or otherwise.

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PART I

Item 1.  BUSINESS.

General

DrugMax, Inc. (Nasdaq: DMAX) is a full-line, wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care products, nutritional supplements and other related products. The Company is headquartered in Clearwater, Florida and maintains distribution centers in Pennsylvania and Louisiana. The Company distributes its products primarily to independent pharmacies in the continental United States, and secondarily to small and medium-sized pharmacy chains, alternative care facilities and other wholesalers. While the Company ships to all 50 states and Puerto Rico, its sales tend to be concentrated around its distribution centers in Pennsylvania and Louisiana and largely populated states such as New York, California, Texas and Florida. The Company maintains an inventory in excess of 20,000 stock keeping units (“SKU”s) from leading manufacturers and holds licenses to ship to all 50 states and Puerto Rico. Each SKU represents an individual type of product sold by the Company. See “Business – Purchasing.”

History

The Company was founded in 1993 under the name NuMED Surgical, Inc. as a subsidiary of NuMED Home Health Care, Inc., a publicly traded company. The Company was created to complete the distribution of certain assets and liabilities associated with NuMED Home Health Care’s surgical/medical products division to its stockholders. NuMED Home Health Care, Inc. contributed all of those assets and liabilities to the Company, and then distributed all of the shares of the Company’s common stock to its stockholders. In connection with the spin off, the Company’s common stock was registered under the Securities Exchange Act of 1934, and the Company began trading as a separate public company.

In April 1997, the Company sold its major product line and subsequently disposed of its operating assets because of continued losses caused by increased competition and the loss of exclusivity of its products. The sale of the Company’s major product line and assets was completed by March 31, 1998, and, accordingly, from April 1, 1998, to September 8, 1998, the Company used a liquidation basis of accounting.

On March 17, 1999, the Company acquired all of the outstanding common stock of Nutriceuticals.com Corporation (“Nutriceuticals”), a Florida corporation formed in September 1998 to engage in the online retailing of natural products over the Internet. For accounting purposes, this acquisition was treated as an acquisition of the Company by Nutriceuticals and a recapitalization of Nutriceuticals. Although the Company was incorporated in Nevada on October 18, 1993, the Company’s date of inception is September 8, 1998 for accounting purposes. After the Company acquired Nutriceuticals, the Company changed its corporate name to Nutriceuticals.com Corporation.

In November 1999, the Company acquired all of the outstanding shares of common stock of Becan Distributors, Inc. (“Becan”), and its wholly owned subsidiary Discount Rx, Inc. (“Discount”), a wholesale distributor primarily of pharmaceuticals and, to a lesser extent, over-the-counter and health and beauty care products which had been in business since 1997. Following the acquisition of Becan, the Company changed its name to DrugMax.com, Inc. With the acquisition of Becan, the Company changed its primary focus from that of an online business-to-consumer retailer of vitamins and other health products to that of an e-commerce business-to-business wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care products and nutritional supplements. In March 2000, Becan was merged into the Company.

In March 2000, the Company diversified its operations by acquiring all of the issued and outstanding shares of common stock of Desktop Corporation, a Texas corporation located in Dallas, Texas. In addition, in May 2000, the Company formed Desktop Media Group, Inc. (“Desktop Media”) a Florida corporation, to develop web based and Internet software for the Company. On September 15, 2000, Desktop Corporation and Desktop Media

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executed Articles of Merger whereby Desktop Corporation was merged into Desktop Media, with Desktop Media Group, Inc. (“Desktop”) being the surviving entity. Desktop, in addition to being a designer and developer of customized internet solutions, owned, at the time of acquisition, 50% of the outstanding shares of common stock of VetMall, LLC (later converted to a newly formed Florida corporation VetMall, Inc.) (“VetMall”), with the remaining shares being owned by W.A. Butler & Company (“Butler”), one of the nation’s largest veterinary products distributors. Concurrent with the acquisition of Desktop, the Company acquired an additional 20% interest in VetMall from Butler. In April 2003, Butler and the Company executed an agreement (the “April 2003 Agreement”) whereby Butler transferred its remaining 30% ownership in VetMall to the Company; accordingly, the Company now owns 100% of VetMall stock. The April 2003 Agreement was negotiated due to the fact that VetMall had no current or anticipated operations; therefore, Butler desired to be relieved of any possible future business activities and financial liability of VetMall. Neither VetMall nor Desktop currently have any operations, and management anticipates the dissolution of these entities.

On April 19, 2000, the Company acquired Valley Drug Company (“Valley”), a full-line, primary wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care products and general merchandise. This acquisition helped the Company expand its customer base, product line and market share, and provided the Company with the additional ability to serve its customers as a primary, full-line wholesale distributor, and offer them the convenience of one-stop shopping. Valley has been in operation since 1950. In January 2004 Valley relocated its offices from Youngstown, Ohio to New Castle, Pennsylvania. See “Acquisitions.”

In September 2001, the Company changed its name to DrugMax, Inc. to more appropriately reflect the Company’s business model.

On October 25, 2001, the Company’s wholly-owned subsidiary, Discount Rx, Inc., a Louisiana corporation, purchased substantially all of the net assets of Penner & Welsch, Inc. (“Penner”), a wholesale distributor of pharmaceuticals based in Louisiana, pursuant to an Agreement for the Purchase and Sale of Assets dated October 12, 2001. Penner was a Chapter 11 debtor which had voluntarily filed for Chapter 11 protection in the US Bankruptcy Court Eastern Division of Louisiana. Prior to its acquisition, commencing in September 2000, the Company managed the day-to-day operations of Penner, in exchange for a management fee equal to a percentage of the gross revenues of Penner each month. During such management period, the Company provided Penner with a collateralized revolving line of credit for the sole purpose of purchasing inventory from the Company. Penner has been in operation since 1963. The Company operates the acquired business in St. Rose, Louisiana under Valley Drug Company South, Inc. See “Acquisitions.”

On May 14, 2003, Discount Rx, Inc., a Nevada corporation and a wholly owned subsidiary of the Company, purchased substantially all of the assets, subject to certain liabilities, of Avery Pharmaceuticals, Inc., Avery Wholesale Pharmaceuticals, Inc., also known as Texas Vet Supply (jointly “Avery”), and Infinity Custom Plastics, Inc. (“Infinity”), wholesale distributors of pharmaceuticals and respiratory products based in Texas, pursuant to an Asset Purchase Agreement dated May 14, 2003 (the “Avery Agreement”). In October 2003, the Company relocated the operations of Avery to St. Rose, Louisiana, and currently operates the acquired business under Valley Drug Company South. See “Acquisitions.”

Industry Overview

Wholesale pharmaceutical distributors serve pharmacies and other healthcare providers by providing access to a single source for pharmaceutical and healthcare products from hundreds of different manufacturers. Wholesale pharmaceutical distributors lower customer inventory costs, provide efficient and timely product delivery, and provide valuable inventory and purchasing information. Customers also benefit from value-added programs developed by wholesale pharmaceutical distributors to reduce costs and to increase operating efficiencies for the customer, including packaging, stockless inventory, and pharmacy computer systems.

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Wholesale distributors are critical links in the pharmaceutical supply chain, helping fuel the majority of the $216.4 billion in total prescription drug sales to retailers and institutions in 2003. The United States’ prescription drug sales increased approximately 11.5% from $192.2 billion in 2002 to approximately $216.4 billion in 2003. Prescription drug sales are expected to grow at an annual compound rate of 8% to 12% through 2007 according to IMS Health. The principal factors contributing to this historical and expected growth are the following:

The Company’s products function within the structure of the healthcare financing and reimbursement system of the United States. As a result of a wide variety of political, economic and regulatory influences, this system is currently under intense scrutiny and subject to fundamental changes. In recent years, the system has changed significantly in an effort to reduce costs. These changes include increased use of managed care, cuts in Medicare, consolidation of pharmaceutical and medical-surgical supply distributors, and the development of large, sophisticated purchasing groups. As a result, the Company’s profit margins have been negatively impacted, particularly with regard to branded pharmaceuticals. The Company expects that these forces will continue to negatively impact profit margins, including as a result of:

Buying opportunities occur when manufacturers announce that wholesalers with whom they conduct business may purchase inventory at favorable prices if they are willing to purchase more than their usual inventory of product. Forward buying is a speculative purchasing strategy employed in the industry to purchase inventory in advance of expected price increases.

Objectives and Strategy

The Company’s primary business objective is to become a leading full-line wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care products, nutritional supplements and other

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related products, with a focus on sales of higher-margin products primarily to independent pharmacies and secondarily to small and medium-sized pharmacy chains and alternative care facilities. Accordingly, while the Company continues to distribute brand products as requested by its customers, beginning in fiscal 2003 it began to focus its efforts on higher-margin products, including generic and over-the-counter products. Additionally, from time-to-time, DrugMax seeks to acquire additional complementary product lines, as it did with its acquisition of Avery, that enhance its ability to provide higher-margin products.

Historically, the Company has primarily grown its business through strategic acquisitions. In the future, the Company intends to continue to:

Sales and Marketing, Customer Service and Support

The Company is a full-line, wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care products, nutritional supplements and other related products. The majority of the Company’s sales are in the pharmaceutical product line. The Company’s pharmaceutical products are divided into generic and brand products. In general, brand products offer smaller margins than generic products or the other products offered by the Company. Accordingly, while the Company continues to distribute brand products as requested by its customers, it is currently focusing its efforts on growing its generic pharmaceutical, over-the-counter and other products lines.

The Company distributes its products primarily to independent pharmacies in the continental United States, and secondarily to small and medium-sized pharmacy chains, alternative care facilities and other wholesalers. The Company’s products are sold both through traditional wholesale distribution lines and the Company’s web site, www.drugmax.com. Since the early December 1999 launch of its web site, over 9,000 independent pharmacies, small regional pharmacy chains, wholesalers and distributors have registered to purchase products through the Company’s web site. Although the Company expects that it will continue to derive a significant portion of its revenue from its traditional “brick and mortar” full-line wholesale distribution business, the Company believes its e-commerce, business-to-business model will allow the Company to leverage its existing wholesale distribution business, thus increasing its ability to effectively market and distribute its products.

The Company uses a variety of programs to stimulate demand for its products and increase traffic to its web site, including the following:

Direct Sales.    The Company maintains employees to act as its direct sales force to target organizations that buy and sell the products it carries.

Telemarketing.    The Company maintains an in-house telemarketing group for use in customer prospecting, lead generation and lead follow-up.

Advertising.    The Company advertises in trade journals, at trade shows and engages in co-branding arrangements. In addition to strategic agreements and traditional advertising, the Company also uses many online sales and marketing techniques.

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Customer Service and Support.    The Company believes that it can establish and maintain long-term relationships with its customers and encourage repeat visits if, among other things, the Company has excellent customer support and service. The Company currently offers information regarding its products and services and answers customer questions about the ordering process, and investigates the status of orders, shipments and payments. A customer can access the Company by fax or e-mail by following prompts located on its web site or by calling the Company’s toll-free telephone line.

In addition, the Company is promoting, advertising and increasing recognition of its web site through a variety of marketing and promotional techniques, including:

During the fiscal years ended March 31, 2004, 2003, and 2002, the Company’s 10 largest customers accounted for approximately 40%, 44%, and 37%, respectively, of the Company’s net sales. The Company’s two largest customers during fiscal 2004 and 2003, Supreme Distributors and QK Healthcare, accounted for approximately 10% each of net sales in fiscal 2004, and 17% and 11% of net sales in fiscal 2003, respectively. In fiscal 2002, the Company’s largest customer, QK Healthcare, accounted for approximately 13% of net sales. In fiscal 2004, QK Healthcare, Inc. sued the Company and ceased doing business with the Company. The suit has now been settled and QK Healthcare, Inc. has indicated its willingness to resume business with the Company. See “Legal Proceedings.”

Distribution

The Company’s wholesale distribution business is supported by three distribution centers located in Pittsburgh, Pennsylvania; New Castle, Pennsylvania; and St. Rose, Louisiana. These locations enable the Company to deliver approximately 95% of its products to its customers via next day delivery. The remaining product is distributed by its delivery vans in regions of eastern Ohio and western Pennsylvania, or by common carrier to more distant customers. While the Company ships to all 50 states and Puerto Rico, its sales tend to be concentrated around its distribution centers in Pennsylvania and Louisiana and largely populated states such as New York, California, Texas and Florida.

Purchasing

The Company purchases over 20,000 individual inventory items, which are designated as individual stock keeping units (“SKU”) primarily from manufacturers and secondarily from other wholesalers and distributors. Each SKU has a separate electronic bar code. The Company utilizes sophisticated inventory control and purchasing software to track inventory, to analyze demand history and to project future demand. The system is designed to enhance profit margins by eliminating the manual ordering process, allowing for automatic inventory replenishment and identifying inventory buying opportunities. In addition, the Company’s purchasing department constantly monitors the market to take advantage of periodic volume discounts, market discounts and pricing changes.

The Company purchases products from approximately 400 vendors, such as AmerisourceBergen Corp., Pfizer, Inc., Eli Lilly and Company, Merck and others. The Company initiates purchase orders with vendors through its information system. During fiscal years 2004, 2003, and 2002, the Company’s 10 largest vendors accounted for approximately 89%, 60%, and 40%, respectively, (by dollar volume) of the Company’s purchases for each year. In fiscal 2004 and 2003, the Company’s largest vendor, AmerisourceBergen Corp. accounted for approximately 24% and 45%, respectively, of total purchases of the Company. The next largest vendor was less than 8% for each fiscal 2004 and 2003. Substantially all of the Company’s supplier agreements are terminable at will by

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either party or upon short notice and without penalty. Historically, the Company has not experienced difficulty in purchasing desired products from suppliers. The Company believes that its relationships with its suppliers are good.

Competition

The wholesale distribution of pharmaceuticals, health and beauty aids, and other healthcare products is highly competitive. The Company faces strong competition both in price and service from national, regional and local full-line, short-line and specialty wholesalers, service merchandisers, self-warehousing chains and from manufacturers engaged in direct distribution. In Pittsburgh, for example, where the Company maintains a distribution facility, there are a number of suppliers that provide branded pharmaceuticals and other products to independent pharmacies, Internet pharmacies, clinics and other licensed outlets. These competitors compete primarily on the basis of service and price. Other competitive factors include delivery service, credit terms, breadth of product line, customer support, merchandising and marketing programs. Certain of the Company’s competitors, including McKesson HBOC, Inc., AmerisourceBergen Corporation, and Cardinal Health Inc., have significantly greater financial and marketing resources, longer operating histories and larger customer bases than the Company does. In addition, many of the Company’s competitors have greater brand recognition and significantly greater financial, marketing and other resources, and may be able to:

In addition, certain of the Company’s competitors, such as McKesson HBOC, Inc., AmerisourceBergen Corp., and Cardinal Health, Inc. have developed or may be able to develop e-commerce operations that compete with the Company’s e-commerce operations, and may be able to devote substantially more resources to web site development and systems development than the Company. The online commerce market is rapidly evolving and intensely competitive. The Company expects competition to intensify in the future because barriers to entry are minimal, and current and new competitors can launch new web sites at relatively low cost.

Government Regulations and Legal Uncertainties

The manufacturing, packaging, labeling, advertising, promotion, distribution and sale of most of the Company’s products are subject to regulation by numerous governmental agencies, including the United States Food and Drug Administration, which regulates most of its products under the Federal Food, Drug and Cosmetic Act. The Company’s products are also subject to regulation by, among other regulatory agencies, the Consumer Product Safety Commission, the United States Department of Agriculture and the United States Department of Environmental Regulation. Furthermore, the Company and/or its customers are subject to extensive licensing requirements and comprehensive regulation governing various aspects of the healthcare delivery system, including the so called “fraud and abuse” laws. The fraud and abuse laws and regulations are broad in scope and are subject to frequent modification and varied interpretations.

The Company’s advertising is also subject to regulation by the Federal Trade Commission under the Federal Trade Commission Act, in addition to state and local regulation. The Federal Trade Commission Act prohibits unfair methods of competition and unfair or deceptive acts or practices in or affecting commerce. The Federal Trade Commission Act also provides that the dissemination or the causing to be disseminated of any false advertisement pertaining to drugs or foods is an unfair or deceptive act or practice. Under the Federal Trade Commission’s Substantiation Doctrine, an advertiser is required to have a “reasonable basis” for all objective product claims before the claims are made. Failure to adequately substantiate claims may be considered either deceptive or unfair practices.

In addition, the Company’s products function within the structure of the healthcare financing and reimbursement system of the United States. As a result of a wide variety of political, economic and regulatory influences, this

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system is currently under intense scrutiny and subject to fundamental changes. In recent years, the system has changed significantly in an effort to reduce costs. These changes include increased use of managed care, cuts in Medicare, consolidation of pharmaceutical and medical-surgical supply distributors, and the development of large, sophisticated purchasing groups. In addition, a variety of new approaches have been proposed to continue to reduce cost. Because of uncertainty regarding the ultimate features of reform initiatives and their enactment and implementation, the Company cannot predict which, if any, of such reform proposals will be adopted, when they may be adopted, or what impact they may have on the Company. While the Company uses its best efforts to adhere to the regulatory and licensing requirements, as well as any other requirements affecting the Company’s products, compliance with these often requires subjective legislative interpretation. Consequently, the Company cannot assure that its compliance efforts will be deemed sufficient by regulatory agencies and commissions enforcing these requirements. Violation of these regulations may result in civil and criminal penalties. See “Risk Factors.”

Intellectual Property

The principal trademarks and service marks of the Company include DRUGMAX^® and DRUGMAX.COM^®. The marks are registered in the United States. The United States federal registrations of these trademarks and service marks have ten-year terms and are subject to unlimited renewals. The Company believes that protecting its trademarks and registered domain names is important to its business strategy of building strong brand name recognition and that such trademarks have significant value in the marketing of the Company’s products. To protect its proprietary rights, the Company relies on copyright, trademark and trade secret laws, confidentiality agreements with employees and third parties, and license agreements with consultants, vendors and customers. Despite such protections, however, the Company may be unable to fully protect its intellectual property. See “Risk Factors.”

Employees

At March 31, 2004, the Company employed 80 persons, 72 of which represented full-time employees. Labor unions do not represent any of these employees. The Company considers its employee relations to be good.

Employees are permitted to participate in employee benefit plans of the Company that may be in effect from time to time, to the extent eligible. Each of the employees is eligible for stock option grants in accordance with the provisions of the Company’s 1999 Stock Option Plan, and eligible to receive restricted stock in accordance with the provisions of the Company’s 2003 Restricted Stock Plan, as determined by the Administrator of the Plan. The purpose of the 1999 Stock Option Plan and the 2003 Restricted Stock Plan is to enable the Company to attract and retain top-quality executive employees, officers, directors and consultants and to provide such executive employees, officers, directors and consultants with an incentive to enhance stockholder return.

Acquisitions

The Company made the following acquisitions during the last three fiscal years:

Penner and Welsch, Inc.

On October 25, 2001, Discount, a wholly-owned subsidiary of the Company, purchased substantially all of the net assets of Penner & Welsch, Inc. (“Penner”), a wholesale distributor of pharmaceuticals based in Louisiana, pursuant to an Agreement for the Purchase and Sale of Assets dated October 12, 2001 (“the Agreement”). As previously reported by the Company, Penner was a Chapter 11 debtor which had voluntarily filed for Chapter 11 protection in the US Bankruptcy Court Eastern Division of Louisiana. Prior to this acquisition, commencing in September 2000, the Company managed the day-to-day operations of Penner, in exchange for a management fee equal to a percentage of the gross revenues of Penner each month. During the management period, the Company provided Penner with a collateralized revolving line of credit for the sole purpose of purchasing inventory from

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the Company. Pursuant to the Agreement, Penner received an aggregate of 125,418 shares of restricted common stock of the Company, valued at $5.98 per share, cash in the amount of $488,619, and forgiveness of $1,604,793 in trade accounts payable and management fees owed to Discount. The source of the funds used to acquire Penner’s assets was the working capital of the Company. The Agreement, including the nature and amount of the consideration paid to Penner, was negotiated between the parties and, on October 15, 2001, was approved by the US Bankruptcy Court, Eastern Division of Louisiana. The Company operates the acquired business under Valley South, its wholly owned subsidiary.

Avery Pharmaceuticals, Inc.

On May 14, 2003, Discount Rx, Inc., a Nevada corporation and a wholly owned subsidiary of the Company, purchased substantially all of the assets, and assumed certain liabilities, of Avery Pharmaceuticals, Inc., Avery Wholesale Pharmaceuticals, Inc., also known as Texas Vet Supply (jointly “Avery Pharmaceuticals”), and Infinity Custom Plastics, Inc. (“Infinity”), wholesale distributors of pharmaceuticals and respiratory products based in Texas, pursuant to an Asset Purchase Agreement dated May 14, 2003 (the “Avery Agreement”).

Pursuant to the Avery Agreement, the Company acquired accounts receivable, inventory, equipment, furniture, the trade name and a patent pending for the process of the manufacture of vials for the respiratory therapy industry, totaling approximately $789,000. The liabilities assumed, which were comprised principally of trade payables, amounted to approximately $646,000, in addition to the forgiveness of debt owed to the Company of approximately $53,000. In addition, the Company executed a promissory note in the amount of $318,000 to the predecessor company’s 50% shareholder (“Sankary”), as additional consideration (the “Sankary Note”). The Sankary Note included a right of set off for accounts payable in excess of an agreed upon amount assumed at closing The Company and Avery specifically contemplated that the Company might have to pay certain unknown liabilities in connection with the acquisition in excess of the amount of assumed liabilities. Accordingly, the Sankary Note and the Avery Agreement permit the Company to “set off” payments due under the Sankary Note against payments made in excess of the assumed liabilities. The Company believes that it has paid Avery’s obligations well in excess of the assumed liabilities. Therefore, all other payments under the Sankary Note are offset such that nothing more is due and payable there under in excess of the $90,000.

Sankary filed a lawsuit against the Company, in the 342^nd Judicial District Court of Tarrant County, Texas (“Sankary Suit”). The complaint alleges that the Company defaulted under the Sankary Note as a result of the Company’s failure to make payments when due to Sankary.

The Company has paid to Sankary the minimum amount due under the Sankary Note (approximately $90,000) and has paid liabilities of Avery in excess of its obligations under the agreement, such that it is entitled to offset any further liability under the Sankary Note. The Company believes that the Sankary Suit is very likely to be dismissed pursuant to agreement between the parties—the parties have exchanged settlement proposals and anticipate the Sankary Suit to be dismissed in the near future. See Litigation.

Additionally, the Avery Agreement contains a provision whereby based on earnings of the acquired business, the note may be increased to the original amount of $318,000 which would be treated as an addition to the purchase price. The operations of the acquired business have produced a net loss for the Company; therefore, no adjustment to the note was made based upon performance. Also, the Company executed a Consulting and Non-Competition Agreement (“Consulting Agreement”) with John VerVynck (“VerVynck”) an officer and shareholder of Avery Pharmaceuticals and Infinity. The Consulting Agreement provided for the payment to VerVynck of $39,360, payable bi-monthly, over the six-month term of the Consulting Agreement. Upon completion of the Consulting Agreement in December 2003 VerVynck’s employment with the Company was terminated. The Consulting Agreement prohibits VerVynck from competing for one year following his termination and the six-month term of the consulting agreement. In October 2003, the Company relocated the operations of Avery to the St. Rose Louisiana location. The Company operates the acquired business through its wholly owned subsidiary Valley South.

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Recent Developments: Private Placement and Proposed Merger with Familymeds, Inc.

On March 18, 2004, the Company sold 1,000,000 shares of its common stock in a private placement to accredited investors for $3.21 million. The expenses related to this offering approximated $500,000. Maxim Group LLC, a New York-based investment firm, acted as the placement agent for the Company in the private placement. Net proceeds will be used for working capital and general corporate purposes. The private placement was made under an exemption from the registration requirements of the Securities Act of 1933, as amended, and the investors purchasing shares in the private placement may not offer or sell the securities sold in the offering in the absence of an effective registration statement or exemption from registration requirements. The Company has filed a registration statement on Form S-3 with the Securities and Exchange Commission, which as of June 28, 2004 had not yet been declared effective by the Securities and Exchange Commission, to register the resale of the shares sold in the private placement, as is required by the subscription agreements between the investors and the Company.

On March 19, 2004, the Company entered into an Agreement and Plan of Merger with Familymeds Group, Inc., a Connecticut Company (“FMG”), as amended on July 1, 2004, pursuant to which FMG will be merged with and into the Company, with the Company being the surviving company. FMG is a pharmacy chain with a strategy of locating pharmacies at or near a patient’s point of medical care. FMG operates more than 76 pharmacies in 14 states. Many of these pharmacies are located at or near the point of care between physicians and patients, many times inside or near medical office buildings. Across these distribution channels, FMG annually services over 400,000 acute and chronically ill patients, many with complex specialty and medical product needs. The principal executive offices of FMG are located at 312 Farmington Avenue, Farmington, CT 06032. If the merger is consummated, the Company expects that the current Company stockholders will, as a group, own approximately 40%, and FMG stockholders, employees and directors will, as a group, own approximately 60%, of the issued and outstanding shares of the Company immediately after the merger, assuming the vesting of all restricted shares issued in connection with the merger. In addition, at the closing of the merger, the Company will issue warrants to the FMG stockholders and certain FMG warrant holders and note holders entitling them to purchase certain additional shares of the Company common stock.

The Company’s annual meeting of stockholders, at which its stockholders will note on the merger, currently is scheduled to be held in August 2004, although this date is subject to change based upon various factors. The Company has filed a preliminary Proxy Statement on Schedule 14A with the Securities and Exchange Commission relating to the merger and other matters to be voted upon at the annual meeting of stockholders. However, the merger is subject to various closing conditions, including the approval of the merger by the stockholders of the Company and FMG and the obtainment of adequate financing, and there can be no assurance that the merger will be consummated. If the merger is consummated, the Company will be subject to various risk associated with the merger and Familymeds Group, Inc. See, “Risk Factors” below.

RISK FACTORS

In addition to the other information in this Form 10-K, the following should be considered in evaluating the Company’s business and prospects:

Risk Factors Relating to DrugMax, Inc.

The Company’s business could be adversely affected if relations with any of its significant suppliers are terminated.

The Company’s ability to purchase pharmaceuticals, or to expand the scope of pharmaceuticals purchased, from a particular supplier is largely dependent upon such supplier’s assessment of the Company’s creditworthiness and

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the Company’s ability to resell the products it purchases. The Company is also dependent upon its suppliers’ continuing need for, and willingness to utilize, the Company’s services to help them manage their inventories. If the Company ceases to be able to purchase pharmaceuticals from any of its significant suppliers, such occurrence could have a material adverse effect on the Company’s business, results of operations and financial condition because many suppliers own exclusive patent rights and are the sole manufacturers of certain pharmaceuticals. If the Company becomes unable to purchase patented products from any such supplier, it could be required to purchase such products from other distributors on less favorable terms, and the Company’s profit margin on the sale of such products could be reduced or eliminated. Substantially all of the Company’s agreements with suppliers are terminable by either party at will on short notice and without penalty. See “Business.”

The Company’s industry has experienced declining margin percentages in recent years and, if this trend continues, the Company’s business could be adversely affected.

Over the past decade, participants in the wholesale pharmaceutical distribution industry have experienced declining gross and operating margin percentages. Industry sources estimate that the average gross margin percentage of companies in the industry has decreased from approximately 7.35% in 1990 to approximately 4.25% in 2002. The profitability of wholesale distributors, including the Company, is largely dependent upon earning volume incentives, cash discounts and rebates from pharmaceutical manufacturers. The Company’s profitability is also increasingly dependent on its ability to purchase inventory in advance of anticipated or known manufacturer price increases. Although investment buying opportunities may enable the Company to increase its gross margin percentage when manufacturers increase prices, such buying requires subjective assessments of future price changes as well as significant working capital. If the Company’s gross margin percentages decline significantly, or if the Company’s assessments of future price changes are incorrect, or if the Company does not have the necessary working capital to take advantage of buying opportunities, the Company’s profitability could be materially adversely affected. To increase its margins, while the Company continues to distribute brand products as requested by its customers, it is currently focusing its efforts on growing its generic pharmaceutical, over-the-counter and other products lines. Additionally, from time to time the Company seeks to acquire additional complimentary product lines, as it did with its acquisition of Avery and Infinity. As a result, the company’s profit margins have stabilized. The Company’s gross margin percentage was approximately 2.6%, 2.8% and 2.8% for fiscal 2004, 2003 and 2002, respectively, as the Company continues to concentrate its sales efforts towards the higher margin generic and over-the-counter products. See “Acquisitions.” However, there can be no assurances that the Company will be successful in continuing to stabilize or increase its margins. Growth in higher-margin products requires significant marketing and sales efforts, which may not be successful. Low demand for higher-margin products could prevent the Company from increasing its sales of these products, and increased competition in higher-margin products could reduce the margins on these products. The proposed merger with FMG will also impact the Company’s margins. See “Risk Factors Relating to the Proposed Merger with FMG.”

The loss of one or more of the Company’s largest customers or a significant decline in the level of purchases made by one or more of the Company’s largest customers could hurt the Company’s business by reducing the Company’s revenues and earnings.

As is customary in the Company’s industry, the Company’s customers are generally permitted to terminate the Company’s relationship or reduce purchasing levels on relatively short notice and without penalty. Termination of a relationship by a significant customer or a significant decline in the level of purchases made by a significant customer could have a material adverse effect on the Company’s business, results of operations and financial condition. Additionally, an adverse change in the financial condition of a significant customer, including an adverse change as a result of a change in governmental or private reimbursement programs, could have a material adverse effect on the Company’s ability to collect its receivables from the customer and the volume of its sales to the customer.

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The Company’s markets are highly competitive and it may be unable to compete effectively.

The pharmaceutical and over-the-counter product industries are intensely competitive. To strategically respond to changes in the competitive environment, the Company may sometimes make pricing, service or marketing decisions or acquisitions that could materially hurt its business. The Company cannot guarantee that it can compete successfully against current and future competitors. Management believes that the Company’s business is not seasonal; however, significant promotional activities can have a direct impact on sales volumes in any given quarter. See “Business—Competition.”

The Company’s business could be adversely affected if it lost any of its key personnel.

The Company is dependent on the services of the Company’s senior management and on the relationships between the Company’s key personnel and the Company’s significant customers and suppliers. The Company has entered into employment agreements or non-competition agreements with the key members of the Company’s management team. The loss of certain members of the Company’s senior management or of key purchasing or sales personnel, particularly the Company’s Chief Executive Officer, Chief Operating Officer, and Chief Financial Officer, could have a material adverse effect on the Company’s business, results of operations and financial condition. The Company generally does not carry life insurance policies on the lives of the Company’s key senior managers or key purchasing or sales personnel. As is generally true in the industry, if any of the Company’s senior management or key personnel with an established reputation within the industry were to leave the Company’s employment, there can be no assurance that the Company’s customers or suppliers who have relationships with such person would not purchase products from such person’s new employer, rather than from the Company. The Company historically has not had significant difficulty attracting and retaining needed employees.

Changes in the healthcare industry could adversely affect the Company.

The healthcare industry has undergone significant change in recent years as a result of various efforts to reduce costs, including proposed national healthcare reform, trends toward managed care, spending cuts in Medicare, consolidation of pharmaceutical and medical/surgery supply distributors, the development of large, sophisticated purchasing groups and efforts by traditional third party payers to contain or reduce healthcare costs. The Company cannot predict whether these trends will continue or whether any other healthcare reform efforts will be enacted and what effect any such reforms may have on the Company’s practices and products or the Company’s customers and suppliers. Any future changes in the healthcare industry, including a reduction in governmental financial support of healthcare services, adverse changes in legislation or regulations governing the delivery or pricing of prescription drugs, healthcare services or mandated benefits may cause healthcare industry participants to significantly reduce the amount of the Company’s products and services they purchase or the price they are willing to pay for the Company’s products and services. Changes in pharmaceutical manufacturers’ pricing or distribution policies could also significantly and adversely affect the Company’s revenues, margins and profitability. See “Business.”

The Company could be adversely affected if there are changes in the regulations affecting the healthcare industry or if it fails to comply with current regulations applicable to the Company’s business.

The healthcare industry is more heavily regulated than many other industries. As a distributor of certain controlled substances and prescription pharmaceuticals, the Company is required to register with and obtain licenses and permits from certain federal and state agencies and must comply with operating and security measures prescribed by those agencies. The Company is also subject to various regulations including the 1987 Prescription Drug Marketing Act, an amendment to the federal Food, Drug and Cosmetic Act, which regulates

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the purchase, storage, security and distribution of prescription pharmaceuticals. The Company’s compliance with these regulations is monitored through periodic site inspections conducted by various governmental agencies. Any failure to comply with these regulations or to respond to changes in these regulations could result in penalties on the Company such as fines, restrictions on the Company’s operations or a temporary or permanent closure of the Company’s facilities. These penalties could harm the Company’s operating results. The Company cannot assure that future changes in applicable laws or regulations will not materially increase the costs of conducting business or otherwise have a material adverse effect on the Company’s business, results of operations and financial condition. See “Business.”

A disruption in the Company’s information systems could adversely affect its business.

The Company is dependent on the Company’s information systems to receive and process customer orders, initiate orders with product suppliers, distribute products to the Company’s customers in a timely and cost-effective manner, track and secure inventory and maintain compliance with federal and state regulations. Any disruption in the Company’s information systems could thus have a material adverse effect on the Company’s business, results of operations and financial condition. The Company has its own certificate server from Microsoft that encrypts the registration session to protect the customer information. In addition, the Company has taken steps to protect the registration information residing in its servers by using firewalls, backups and other preventive measures designed to protect the privacy of its customers. The Company maintains off-site copies of all the data and programs utilized by the Company locations. The Company restricts access to customer personal and financial data to those authorized employees who have a need for these records. The Company does not release information about its customers to third parties without the prior written consent of its customers unless otherwise required by law. Notwithstanding these precautions, the Company cannot assure that the security mechanisms will prevent security breaches or service breakdowns. Despite the network security measures the Company has implemented, its servers may be vulnerable to computer viruses, physical or electronic break-ins or other similar disruptions. Such a disruption could lead to interruptions or delays in its service, loss of data, or its inability to accept and fulfill customer orders. Any of these events could materially affect the Company’s business.

The Company is subject to capacity constraint system development risks which may result in its inability to service its customers and meet its growth expectations.

A key element of its strategy is to generate a high volume of traffic on, and use of, the Company’s web site. Accordingly, the Company’s web site transaction processing systems and network infrastructure performance, reliability and availability are critical to its operating results. These factors are also critical to its reputation and its ability to attract and retain customers and maintain adequate customer service levels. The volume of goods it sells and the attractiveness of its product and service offerings will decrease if there are any systems interruptions that affect the availability of its web site or its ability to fulfill orders. The Company expects to continually enhance and expand its technology and transaction processing systems, and network infrastructure and other technologies, to accommodate increases in the volume of traffic on its web site. The Company may also fail timely to expand and upgrade its systems and infrastructure to accommodate increases in the volume of traffic on the web site.

The Company has a history of violating certain of its debt covenants.

The Company’s credit facilities require the Company’s compliance with certain restrictive covenants, including but not limited to minimum EBITDA, maximum capital expenditures and minimum net worth. During fiscal years 2003 and 2004, the Company was not in compliance with certain of these restrictive covenants. However, these violations were waived by Standard Federal National Bank and Congress Financial, respectively. There can be no assurance that Congress Financial will continue to waive these deficiencies in the future. If not so waived, failure to meet these covenants will cause the Company to be in default under the credit facility and will allow

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Congress Financial to accelerate the obligations under the facility. If Congress Financial accelerates the obligations and the Company cannot secure an alternate credit facility, the Company may not be able to continue as a going concern.

The Company’s disclosure controls and procedures are not adequately effective.

The Chief Executive Officer and Chief Financial Officer concluded that as of March 31, 2004, the Company’s disclosure controls and procedures needed improvement and were not adequately effective. If the disclosure controls and procedures are not improved and made more effective, then information required to be disclosed in the Company’s financial statements may not be recorded, processed, summarized or reported within the appropriate time periods and may periodically result in a misstatement of the financial statements, and possibly such information will not be accumulated and communicated to the Company’s management to allow for timely decisions.

Risk Factors Relating to the Proposed Merger with FMG

The merger may not be consummated or may be delayed.

The proposed merger with FMG is subject to various closing conditions, including stockholder approval, regulatory consents and financing, and there can be no assurance that the merger will be consummated. The Company’s annual meeting of stockholders currently is scheduled to be held in August, but this date is subject to change based upon various factors. The merger may be delayed past the expected closing date. See “Business – Recent Developments.”

The combined company may fail to realize all of the anticipated benefits of the merger.

The value of the combined company following the merger and the benefits of the merger principally depend on the successful integration of the two companies and the implementation of their business plan. The Company believes merging the two companies, and thus vertically integrating the Company’s wholesale operations with FMG’s retail operations, will reduce the aggregate expenses for the combined company while increasing the Company’s revenues and margins. The expense reductions are expected to be achieved through purchasing efficiencies and by eliminating certain redundant costs. The increases in revenues and margins are expected to be achieved through, among other factors:

Management has experience integrating the businesses and assets that the Company has acquired, in connection with the acquisitions of Becan Distributors, Valley Drug Company, Penner & Welch, Inc. and most recently Avery Pharmaceuticals Inc. Management has experienced some delays and unexpected obstacles in these past integrations, none of which, however, it believes have been material. Further, when appropriate, management has decided to discontinue acquired divisions for business reasons, such as the businesses of Desktop Media Group, Inc. and VetMall, Inc.

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However, there is little business precedent for the integration of a pharmaceutical wholesaler, such as the Company, and a retail pharmacy chain, such as FMG, and therefore, while management believes there are significant benefits to the merger, the Company’s ability to capitalize on these opportunities is uncertain. The combined company may fail to realize some or all of the anticipated revenue opportunities, cost savings and other benefits of the transaction as a result of, among other things, vendor constraints, unanticipated costs, deterioration in the U.S. economy and other factors. For example, FMG currently has a wholesale supply agreement requiring it to purchase 90% of its pharmaceuticals from AmerisourceBergen Corp. The Company also purchases pharmaceuticals from AmerisourceBergen Corp. but it does not have any minimum purchase requirements. Although the company believes that it will be able to reach a satisfactory agreement with AmerisourceBergen Corp., failure to do so could result in a delay and/or reduction in the expected benefit from purchasing synergies of the merger. In addition, the integration of FMG’s business and operations with those of the Company, including systems conversions, may take longer than anticipated, may be more costly than anticipated and may have unanticipated adverse results relating to FMG’s or the Company’s existing businesses or customer base. There can be no assurance that management will be able to successfully integrate FMG and the Company. If the post-merger management fails to achieve its business plan or is delayed in doing so, the Company’s results of operations and financial condition following the merger would be materially adversely affected.

Current holders of the Company’s common stock will experience substantial dilution of their percentage ownership interest of the Company common stock.

If the merger is consummated, the Company expects that the current Company stockholders will, as a group, own approximately 40%, and FMG stockholders, employees and directors will, as a group, own approximately 60%, of issued and outstanding shares of the Company immediately after the merger, assuming the vesting of all shares of restricted stock issued in connection with the merger. In addition, at the closing of the merger, the Company will issue warrants to the FMG stockholders, the FMG warrant holders and the FMG note holders entitling them to purchase certain additional shares of the Company’s common stock. As a result, after the merger, each share of the Company common stock that the Company’s stockholders currently own will represent a smaller percentage ownership interest in the combined company than they currently own, and, accordingly the current stockholders of the Company, will have less control over matters on which stockholders vote, including the election of directors.

A portion of the merger consideration is subject to the market value of the Company common stock and may expose the current Company stockholders to added dilution.

The aggregate number of shares of the Company’s common stock to be paid in the merger is fixed and is not subject to adjustment for changes in the market price of the Company’s common stock. However, as stated above, at the closing, the Company also is issuing warrants to purchase the Company’s common stock to the FMG stockholders, to certain FMG warrant holders and the to certain FMG note holders. The number of warrants to be so issued, and the exercise price of those warrants, is based upon the weighted-average stock price of the Company’s common stock during the ten trading days immediately preceding the closing. The lower the ten-day weighted-average stock price, the greater the number of warrants to be issued, the lower the exercise price of those warrants and the greater the potential dilution to existing Company stockholders should the warrants be exercised. Assuming a ten-day weighted-average stock price of $4.85 at the closing, the Company’s stock price on June 10, 2004, the Company will issue warrants to purchase a total of 3,047,446 shares of the Company common stock at the closing. The exercise of any of these warrants will necessarily dilute the relative percentage ownership of the current Company stockholders. Once again assuming a ten-day weighted-average stock price of $4.85 at the closing, if immediately after the closing all of the warrants issued at closing are exercised, but the currently outstanding options to purchase common stock of the Company are not, the Company expects that the current Company stockholders will at such time, as a group, own approximately 35%, and FMG stockholders, employees and directors will, as a group, own approximately 65%, of issued and outstanding shares of the Company.

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The Company’s stock price may remain volatile.

As recently as January 16, 2004, approximately two months prior to the date the companies announced the execution of the merger agreement, the Company common stock traded below $2.00. By the time the execution of the merger agreement was announced on March 22, 2004, the price had risen to over $4.50. Between March 22, 2004 and July 7, 2004, the stock price has remained over $4.00. There can be no assurance that the Company’s stock price will remain near its recent highs, especially if the merger is not consummated. The Company’s ability to integrate FMG’s business, announcement of developments related to the Company’s business after the merger, announcements by competitors, quarterly fluctuations in the Company’s financial results and general economic conditions in the highly-competitive pharmaceutical industry in which the Company will compete could cause the price of the Company common stock to continue to fluctuate, perhaps substantially. In addition, the Company has agreed to register the resale of 1,000,000 shares recently sold in a private placement, all of the shares to be issued in connection with or at the closing of the merger, and the shares of the Company owned by Messrs. Taneja and LaGamba. As a result of such registration, the holders of such shares may use such registrations to sell the shares publicly or privately, resulting in further downward pressure on the stock price. These factors and fluctuations could have a significantly harmful effect on the market price of the Company common stock after the merger.

The fairness opinion obtained by the Company from Sanders Morris Harris, Inc. will not reflect changes in circumstances between the signing of the agreement and the merger.

In connection with the merger, the Company has received a fairness opinion from its financial advisor, Sanders Morris Harris, Inc., dated March 26, 2004. The Company has not obtained an updated opinion from Sanders Morris Harris, Inc. Changes in the operations and prospects of the Company or FMG, general market and economic conditions and other factors which may be beyond the control of the Company and FMG, and on which the fairness opinion was based, may alter the value of the Company or FMG or the prices of shares of the Company common stock and shares of FMG common stock by the time the merger is completed. The opinion does not speak as of the time the merger will be completed or as of any date other than the date of the opinion. The Company is not aware of any events that have occurred since the date of the opinion that are likely to alter Sanders Morris Harris, Inc.’s determination that the merger is fair to the shareholders of the Company from a financial point of view.

If not managed efficiently, the combined company’s rapid growth may divert management’s attention from the operation of its business, which could hinder its ability to operate successfully.

The Company’s growth has placed, and its anticipated continued growth (including as a result of the merger) will continue to place, significant demands on its managerial and operational resources. The combined company’s failure to manage its growth efficiently may divert management’s attention from the operation of its business and render it unable to keep pace with its customers’ demands.

The combined company’s working capital and credit facilities may be insufficient.

To complete the merger, the merger agreement requires that the Company shall have obtained a new credit facility. The Company has received proposals for a $65 million credit facility. The new credit facility will be used to repay certain existing indebtedness of the Company and FMG. While the Company has obtained these proposals, there can be no assurance that the loan, or any other acceptable credit facility, will be available to us prior to the scheduled closing of the merger.

Further, even if such a credit facility is obtained prior to closing, it may be insufficient to fund the Company’s credit needs. Management presently believes that the new credit facility proposed by Congress will be sufficient to allow the surviving company to integrate the businesses of FMG and the Company and to fund its business plan for the next 12 months. However, if the Company fails to realize some or all of the anticipated revenue

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opportunities or cost savings and other benefits of the merger, or if the costs of the merger or the integration of the companies exceeds what is anticipated, the Company may need to seek alternate or additional financing. The Company and FMG require substantial working capital to fund their operations. The Company’s future capital requirements will depend upon many factors, including, but not limited to:

While the Company does not currently have any immediate plans to make future acquisitions, hire personnel or expand its services (other than as a result of the FMG merger), the Company regularly considers acquisitions and growth opportunities. As a result of the foregoing factors, the surviving company’s actual revenues and costs are uncertain and may vary considerably. These variations may significantly affect its future need for capital. The actual amount and timing of the Company’s future capital requirements may differ materially from its estimates. In particular, the Company’s estimates may be inaccurate as a result of changes and fluctuations in its revenues, operating costs and development expenses. The