Attached files

file filename
EX-32.2 - IMAGENETIX INC /NV/v227955_ex32-2.htm
EX-31.2 - IMAGENETIX INC /NV/v227955_ex31-2.htm
EX-31.1 - IMAGENETIX INC /NV/v227955_ex31-1.htm
EX-32.1 - IMAGENETIX INC /NV/v227955_ex32-1.htm

UNITED STATES
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 March 31, 2011
 
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 033-24138-D
 
IMAGENETIX, INC.
(Exact name of registrant as specified in its charter)
 
NEVADA
 
87-043772
(State or other jurisdiction of incorporation or
organization) 
 
(I.R.S. Employer Identification No.)

10845 Rancho Bernardo Road, Suite 105
   
San Diego, California
 
92127
(Address of principal executive offices)
 
(Zip Code)
 
Registrant’s telephone number, including area code  (858) 674-8455
 
Securities registered pursuant to Section 12(b) of the Act: NONE.
 
Securities registered pursuant to Section 12(g) of the Exchange Act:
 
COMMON STOCK, $0.001 PAR VALUE PER SHARE.
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
 
Yes ¨   No x
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
 
 Yes ¨   No x
 
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 requirements for the past 90 days.
 
 Yes x   No ¨
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes ¨     No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) 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. ¨
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer
¨
Accelerated filer
¨
       
Non-Accelerated filer
¨
Smaller reporting company
x
(Do not check if a smaller reporting company)
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
 
 Yes ¨   No x
 
State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter. $3,331,000
 
Indicate the number of shares outstanding of each of the Registrant's classes of common stock, as of the latest practicable date. 11,811,288 issued and outstanding as of July 11, 2011.
 
DOCUMENTS INCORPORATED BY REFERENCE: None.
 
 
 

 

Annual Report on Form 10-K
For the Year Ended March 31, 2011
 
TABLE OF CONTENTS
 
       
Page
Numbers
PART I
 
4
     
ITEM 1.
 
Business
 
4
         
ITEM 1A.
 
Risk Factors
 
12
         
ITEM 1B.
 
Unresolved Staff Comments
 
15
         
ITEM 2.
 
Properties
 
15
         
ITEM 3.
 
Legal Proceedings
 
15
         
ITEM 4.
 
Reserved
 
15
     
PART II
 
16
     
ITEM 5.
 
Market For Registrant's Common Equity, Related Stockholder Matters And Issuer Purchases Of Equity Securities
 
16
         
ITEM 6.
 
Selected Financial Data
 
17
         
ITEM 7.
 
Management's Discussion And Analysis Of Financial Condition And Results Of Operation
 
17
         
ITEM 7A
 
Quantitative And Qualitative Disclosures About Market Risk
 
23
         
ITEM 8.
 
Financial Statements And Supplementary Data
 
23
         
ITEM 9.
 
Changes In And Disagreements With Accountants On Accounting And Financial Disclosure
 
23
         
ITEM 9A.
 
Controls And Procedures (ITEM 9A(T))
 
23
         
ITEM 9B.
 
Other Information
 
25

 
2

 

PART III
     
25
         
ITEM 10.
 
Directors, Executive Officers And Corporate Governance
 
25
         
ITEM 11.
 
Executive Compensation
 
28
         
ITEM 12.
 
Security Ownership Of Certain Beneficial Owners And Management And Related Stockholder Matters
 
31
         
ITEM 13.
 
Certain Relationships And Related Transactions, And Director Independence
 
32
         
ITEM 14.
 
Principal Accountant Fees And Services
 
32
         
PART IV
     
33
         
ITEM 15.
 
Exhibits and Financial Statement Schedules
 
33
         
SIGNATURES
   

 
3

 

DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
 
Certain statements contained in this Annual Report on Form 10-K constitute "forward-looking statements". These statements, identified by words such as “plan”, "anticipate", "believe", "estimate", "should," "expect" and similar expressions include our expectations and objectives regarding our future financial position, operating results and business strategy. These statements reflect the current views of management with respect to future events and are subject to risks, uncertainties and other factors that may cause our actual results, performance or achievements, or industry results, to be materially different from those described in the forward-looking statements. Such risks and uncertainties include those set forth under the caption "Risk Factors" and elsewhere in this Form 10-K. We advise you to carefully review the reports and documents we file from time to time with the Securities and Exchange Commission (“SEC”), particularly our quarterly reports on Form 10-Q and our current reports on Form 8-K.
 
As used in this annual report, the terms "we", "us", "our", and “Imagenetix” mean Imagenetix, Inc., unless otherwise indicated.
 
PART I
 
ITEM 1.   DESCRIPTION OF BUSINESS.
 
Overview
 
We were organized as a Nevada corporation in March 1988.  Our principal executive offices are located at 10845 Rancho Bernardo Road, Suite 105, San Diego, California 92127, and our telephone number is (858) 674-8455.  Our home page can be located on the World Wide Web at http://www.imagenetix.net.

We develop, formulate and market over-the-counter, natural-based nutritional supplements and skin care products. Our products are proprietary, often supported by scientific studies which we request and are offered through multiple channels of distribution, including direct marketing companies, also known as network marketing or multi-level marketing companies, and chain store retailers. Our primary product is Celadrin® a product formulation which we sell to the mass market through retailers and on a private label basis to wholesale customers.  We also license our intellectual property to third parties.

A key part of our marketing strategy is to provide to our wholesale customers a "turnkey" approach to the marketing and distribution of our products. This turnkey approach provides these customers with all the services necessary to market our products, including developing specific product formulations, providing supporting scientific studies regarding the effectiveness of the product and arranging for the manufacture and marketing of the product.

We sell Celadrin,® our own branded product, directly to the mass markets through retail sellers.  We also develop, license and sell products and formulations to businesses and organizations that market these products through multiple channels of distribution, including direct marketing companies, mass marketing companies, medical, health and nutritional professionals, medical newsletters and direct response radio and television. We also offer Celadrin® products through wholesale customers that in turn offer their products containing Celadrin® to mass market retailers.

 
4

 

Our Business

We develop, formulate, license and market over-the-counter, natural-based nutritional supplements.  Our products are proprietary, often supported by scientific studies which we request and are offered through multiple channels of distribution including direct sales to the mass market through retailers, direct marketing companies, medical, health and nutritional professionals, medical newsletters and direct response radio and television.

A key part of our marketing strategy is to provide a "turnkey" approach to the marketing and distribution of our products. Our "turnkey" approach provides:

 
Specific product formulations requested by our customers;
 
 
Scientific studies to support claims made for our products;
 
 
Assistance in complying with U.S. laws and regulations;
 
 
Assistance in obtaining foreign country regulatory approval for sale of our products;
 
 
Marketing materials and marketing assistance to support product sales; and
 
 
Manufacture of products with delivery directly to the customer.
 
Following development of a new product, and on behalf of our customers, we:
 
 
Conduct and complete any scientific studies necessary for regulatory compliance;
 
 
Arrange for the manufacture of finished products to our specifications; and
 
 
Develop marketing tools and plans to promote product sales, including labels, graphic designs and promotional brochures and providing speakers to promote the products.
 
Our management and key personnel have many years experience in developing and selling nutritional products to domestic and international marketers, including direct marketers, health food stores and mass market merchandisers.

Our largest customers accounted for 54% and 14% of our net sales for the year ended March 31, 2011 and 42% and 15% for the year ended March 31, 2010.

Our Strategy

We are a developer, formulator and supplier of natural-based products, designed to enhance human and animal health. We develop and formulate over-the-counter topical creams and nutritional products marketed globally through multiple channels of distribution. Our strategy involves:

 
Continuing to develop innovative and proprietary nutritional products;

 
Continuing to offer "turnkey" services, including product development, regulatory compliance, manufacturing and marketing services, to assist our customers in quickly bringing new products to market;

 
Licensing our technologies to third parties;

 
5

 

 
Marketing our products internationally by assisting our customers in registering their products for sale in foreign countries.

Industry Overview

The dietary supplement industry is highly diversified and intensely competitive. It includes companies that manufacture, distribute and sell products that are generally intended to supplement our daily diets with nutrients that may enhance the body's performance and well-being. Dietary supplements include vitamins, minerals, herbs, botanicals, amino acids and compounds. Specific statutory provisions governing the dietary supplement industry were codified in the Dietary Supplement Health and Education Act. This act provides statutory protections for dietary supplements and allows for statements that inform consumers of the effect dietary supplements have upon the structure or functions of the body.

We expect that the following factors will contribute to the ongoing growth of the domestic nutritional supplement industry:

 
The aging of the American population, which is likely to cause increased consumption of nutritional supplements;

 
New product introductions in response to new research supporting the positive health effects of certain nutrients;

 
The nationwide trend toward preventative medicine resulting from rising health care costs;

 
Increased consumer interest in alternative health products such as herb-based nutritional supplements;

 
A heightened awareness of the connection between diet and health.

Nutritional supplements are sold primarily through:

 
Mass market retailers, including mass merchandisers, drug stores, supermarkets and discount stores;

 
Health food stores;

 
Mail order companies; and

 
Direct sales organizations, including network marketing companies.

Products

We offer a variety of specialized proprietary nutritional formulations and over-the-counter topical creams. Since beginning operations in February 1999, we have developed and sold over 90 products and formulations to businesses and organizations that market these products through multiple channels of distribution, including direct selling, sales to mass market retailers, direct response radio, nutritional newsletters and medical care professionals. Our product formulations may be developed by our customers, co-developed by us and our customers or developed exclusively by us for the customer.

Our leading product is Celadrin®, a nutritional supplement compound comprised of a complex of fatty acid esters which plays a role in human and animal joint health and scientifically supported by our clinical studies. For the year ended March 31, 2011, approximately 69% of our revenue was generated from the sale of various formulations containing Celadrin®. We offer Celadrin® as part of a formulated branded or private label product and also as a branded ingredient to be used by our wholesale customers in their own product formulations.

 
6

 

A number of safety and efficacy studies have been conducted on Celadrin's® principal composition, cetylated fatty acids. Studies have been presented at international scientific conferences, with two studies having been published in the Journal of Rheumatology and one study published in the Journal of Strength and Conditioning Research. We produce a wide range of formulas using the Celadrin® compounds and market these formulations through multiple distribution channels. Our wholesale customers resell Celadrin® and other formulated products under their own labels and trade names. We do not own or have any ownership interest in the labels or trade names under which these products are sold. Using multiple manufacturing processes to produce Celadrin®, we offer the product to our customers in soft gel capsule, tablet, two-piece capsules and topical cream forms.

We use paid consultants who are medical doctors, scientific research consultants, independent scientific researchers and laboratories and universities to assist us in the development and testing of our products.  We believe Celadrin® will continue to be our principal compound. We intend to expand the number of customers who use this compound in formulas and to develop other formulas for new customers.

In addition to Celadrin®, which we sell in many formulations including an oral product, a cream, and a pet product, we have also developed other natural based products designed to address specific health issues, including compounds and formulations involving a proprietary blend of fruit and vegetable extracts which represented approximately 3% of our sales, a weight loss product which represented approximately 2% of our sales, and a probiotic, BioGuard®, for ear, nose and throat protection which represented approximately 26% of our sales for the year ended March 31, 2011.

We also are at the early stage of developing therapies for the treatment of inflammatory conditions, such as periodontal disease.  We have conducted in-vivo and in-vitro efficacy and safety studies on our drug compound for the treatment of gum disease including periodontitis.

Raw Materials and Manufacturing

We develop and formulate proprietary, natural based, nutritional supplements, over-the-counter topical creams and skin care products but do not manufacture any of these products. We currently purchase ingredients from suppliers for delivery to manufacturers chosen by us. We have had in the past agreements with our sole supplier of Celadrin® to purchase sufficient quantities of the compound to meet our anticipated needs. We believe our relationship with this supplier will continue although we can give no such assurance. All other ingredients can be obtained from a number of suppliers, although the loss of any supplier could adversely affect our business.

We use a number of manufacturers to combine ingredients furnished by our suppliers into our nutritional products. By outsourcing product manufacture, we eliminate the capital required to manufacture our own products and increase the flexibility of our manufacturing resources. We have written confidentiality and exclusivity agreements with key manufacturers and believe suitable replacement manufacturers are available. However, the loss of a manufacturer could adversely affect our business.

Marketing and Distribution.

We market our products to customers in multiple channels of distribution. Our marketing strategy consists of:

 
Continuing to offer our proprietary products to existing customers while seeking new customers, emphasizing those engaged in the mass marketing of nutraceutical supplements and other nutraceutical products;

 
7

 

 
Continuing to assist our customers in designing new nutritional, topical, and skin care products using our formulations;

 
Continuing to design marketing materials and offering other value added services to assist customers in expanding their sales of our product;

 
Developing and offering new products to direct marketing and mass marketing companies;

 
Offering products for distribution through medical and nutritional oriented professionals;

 
Licensing our proprietary intellectual property to third parties;

 
Offering products for distribution through direct response radio and television.

We will continue to offer our customers a turnkey approach to their product needs. This approach emphasizes providing the customer with the support necessary to allow them to sell our products, including providing the scientific studies required by U.S. and foreign regulators, tailoring our product formulations specifically for each customer, obtaining approvals in foreign countries for our customers to market there, providing full marketing support for the products, including product information, product descriptions and arranging for manufacture and shipment of the products according to customer instructions.

Approximate sales by principal geographic area (as a percentage of sales) for fiscal years ended March 31, 2011 and 2010 were as follows:

   
2011
   
2010
 
             
Domestic sales
    96.0 %     76.5 %
                 
Foreign sales:
               
Japan
    0.5       15.1  
India
    1.2       1.3  
United Kingdom
    -       0.7  
Canada
    1.9       0.4  
Australia
    0.4       6.0  
Total foreign sales
    4.0       23.5  
                 
Total sales
    100.0 %     100.0 %

All of our operating assets are located within the United States. While sales to certain geographic areas generally vary from year to year, we do not expect that changes in the geographic composition of sales will have a material adverse effect on operations.

Major Customers

During the two years ended March 31, 2011 and 2010, we had sales to the following customers which represented greater than 10% of our annual revenue:

 
8

 

   
March 31,
 
   
2011
   
2010
 
             
Costco
  $ 3,829,242     $ 2,805,390  
Proprietary Nutritionals, Inc.
    1,026,488       -  
Gold Wind
    -       994,172  

While sales to certain customers generally vary from year to year, the loss of one or both of our major customers, unless replaced by similar customers, could have a material adverse effect on our operations and our ability to generate income.

Competition

The nutritional supplement and skin care industries are large and intensely competitive. We compete generally with companies that manufacture and market competitive nutritional products in each of our product lines, including companies such as Twin Labs, Weider Nutrition, IVC Industries and Perrigo. We also compete with companies that supply nutritional products to direct distribution companies, such as Leiner Health, Natural Alternatives and Vitatech. We also compete with companies that develop and sell skin care products, such as West Coast Cosmetics, CA Botana and Cosmetic Products International. Competitive factors in the nutritional supplement and skin care markets include product effectiveness, scientific validation, proprietary formulations, price, quality of products, reliability of product delivery and marketing services offered to customers. We believe we compete favorably with respect to each of these factors. Nevertheless, most of our competitors have longer operating histories, wider product offerings, greater name recognition and financial resources than do we. However, we believe our turnkey approach of offering our customers significant regulatory and marketing support, as well as unique, scientifically validated products, improves our competitive position.

Government Regulation

In both the United States and foreign markets, we are subject to extensive laws and governmental regulations at the federal, state and local levels. For example, we are subject, directly or indirectly, to regulations pertaining to:

 
Dietary ingredients;

 
The manufacturing, packaging, labeling, promotion, distribution, importation, sale and storage of our products;

 
Product claims, labeling and advertising (including direct claims and advertising by us as well as claims in labeling and advertising by others, for which we may be held responsible);

 
Transfer pricing and similar regulations that affect the level of foreign taxable income and customs duties; and

 
Taxation, which in some instances may impose an obligation on us to collect taxes and maintain appropriate records.

 
9

 

The dietary ingredients, manufacturing, packaging, storing, labeling, advertising, promotion, distribution and sale of our products are subject to regulation by one or more governmental agencies, including the Food and Drug Administration, the Federal Trade Commission, the Consumer Product Safety Commission, the Department of Agriculture, the Department of Customs, the Patent and Trademark Office, and the Environmental Protection Agency. Our activities are, or may be, regulated by various agencies of the states, localities and foreign countries in which our products are manufactured, distributed and/or sold. The FDA, in particular, regulates the ingredients, manufacture, packaging, storage, labeling, promotion, distribution and sale of foods, dietary supplements and over-the-counter drugs, such as those we distribute. We and our suppliers are required by FDA regulations to meet relevant current good manufacturing practice guidelines for the preparation, packing and storage of foods and drugs. The FDA has also published proposed rules for the establishment of good manufacturing practices for dietary supplements, but it has not yet issued a proposal rule. The FDA conducts unannounced inspections of companies that manufacture, distribute and sell dietary supplements, issues warning letters for rule violations found during these inspections and refers matters to the U.S. Attorney and Justice Department for prosecution under the Federal Food, Drug and Cosmetic Act. There can be no assurance that the FDA will not question our labeling or other operations in the future.

The Dietary Supplement Health and Education Act revised the provisions governing dietary ingredients and labeling of dietary supplements. The legislation created a new statutory class of "dietary supplements." This new class includes vitamins, minerals, herbs, botanicals, and other dietary substances to supplement the daily diet, and concentrates, metabolites, constituents, extracts and combinations thereof. The legislation requires no federal pre-market approval for the sale of dietary ingredients that were on the market before October 15, 1994. Since cetylated fatty acids, the primary ingredient in Celadrin®, were on the market prior to October 15, 1994, we have not been required to provide the FDA with any proof as to safety or efficacy of Celadrin®. Dietary ingredients first marketed after October 15, 1994 may not be distributed or marketed in interstate commerce unless:
 
The manufacturer has proof that the dietary ingredient has been present in the food supply as an article used for food and in a form in which the food has not been chemically altered, or

 
The manufacturer supplies the FDA with proof to the FDA's satisfaction of the dietary ingredient's safety.

Manufacturers and distributors of dietary supplements may include statements of nutritional support, including structure and function claims, on labels and in advertising if:

 
The claims are corroborated by "competent and reliable scientific evidence" consistent with FTC standards for advertising review;

 
The claims for labels and labeling are filed in a certified notice with the FDA no later than 30 days after first market use of the claims;

 
The manufacturer retains substantiation that the claims are truthful and non-misleading;

 
Each claim on labels and in labeling is cross-referenced by an asterisk to a mandatory FDA disclaimer.

The majority of the products marketed, or proposed to be marketed, by us are classified as dietary supplements. In September 1997, the FDA issued regulations governing the labeling and marketing of dietary supplement products. The regulations cover:

 
The identification of dietary supplements and their nutrition and ingredient labeling;

 
The terminology to be used for nutrient content claims, health claims and statements of nutritional support, including structure and function claims;

 
Labeling requirements for dietary supplements for which "high potency" and "antioxidant" claims are made;

 
Notification procedures for statements of nutritional support, including structure and function claims, on dietary supplement labels and in their labeling;

 
10

 

 
Pre-market notification procedures for new dietary ingredients in dietary supplements.

Dietary supplements are subject to federal laws dealing with drugs and regulations imposed by the FDA. Those laws regulate, among other things, health claims, ingredient labeling and nutrition content claims characterizing the level of nutrient in the product. They also prohibit the use of any health claim for dietary supplements, unless the health claim is supported by significant scientific agreement and is pre-approved by the FDA. A federal court has ruled that the FDA must authorize health claims presented to the agency in health claims petitions unless they are inherently misleading and must rely on disclaimers to eliminate any potentially misleading connotation conveyed by a claim. The court also held that even claims not supported by significant scientific agreement must be allowed if disclaimers can correct misleading connotations.

Prior to permitting sales of our products in foreign markets, we may be required to obtain an approval, license or certification from the country's ministry of health or comparable agency. The approval process generally would require us to present each product and product ingredient to appropriate regulators and, in some instances, arrange for testing of products by local technicians for ingredient analysis. These approvals may be conditioned on reformulation of our products or may be unavailable with respect to certain products or certain ingredients. We must also comply with product labeling and packaging regulations that vary from country to country.

The Federal Trade Commission, which exercises jurisdiction over the marketing practices and advertising of products similar to those we offer, has in the past several years instituted enforcement actions against several dietary supplement companies for deceptive marketing and advertising practices. These enforcement actions have frequently resulted in consent orders and agreements. In certain instances, these actions have resulted in the imposition of monetary redress requirements. Importantly, the commission requires that "competent and reliable scientific evidence" corroborate each claim of health benefit made in advertising before the advertising is first made. A failure to have that evidence on hand at the time an advertisement is first made violates federal law. While we have not been the subject of an enforcement action for the advertising of our products, there can be no assurance that this agency will not question our advertising or other operations in the future.

We believe we are in compliance with all material government regulations which apply to our products. However, we are unable to predict the nature of any future laws, regulations, interpretations or applications, nor can we predict what effect additional governmental regulations or administrative orders, when and if promulgated, would have on our business in the future. These future changes could, however, require the reformulation or elimination of certain products; imposition of additional record keeping and documentation requirements; imposition of new federal reporting and application requirements; modified methods of importing, manufacturing, storing or distributing certain products; and expanded or different labeling and substantiation requirements for certain products and ingredients. Any or all of these requirements could harm our business.

Trademarks and Patents

We received a trademark for "Celadrin" in February 2002.

 In April 2009, we were conveyed ownership of U.S. Patent 5,569,676.  This patent is a method for alleviating the symptoms of non-rheumatoid arthritis by administering to the afflicted subject a therapeutically effective amount of cetyl myristoleate either orally, topically, or parenternally.

In November 2009 we were issued U.S. Patent 7,612,111.  This patent is directed to compositions comprising lecithin, olive oil, esterified fatty acids and mixed tocophenols for use in the treatment and prevention of various types of arthritis and other inflammatory joint conditions, periodontal diseases and  psoriasis, which avoid many of the side effects associated with known treatments.  The compositions have the advantage of increased stability, a reduction of arachidonic acid in cells, a reduction in eicosanoid production and enhanced cell regulation and communication.  The invention also discloses methods for using the compositions for treatment and prevention.  There can be no assurance that others may not develop compounds superior to those covered by this patent.

 
11

 

Employees

At March 31, 2011, we had 7 full-time employees and 6 part-time consultants, including our executive officers.

ITEM 1A.
RISK FACTORS.
 
You should consider the following discussion of risks as well as other information regarding our common stock. The risks and uncertainties described below are not the only ones. Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations. If any of the following risks actually occur, our business could be harmed.

There Is Only One Supplier for Celadrin®. If We Are Unable to Purchase Celadrin® from This Supplier, Our Business Would Be Harmed.

There is only one supplier for Celadrin®, which we use in approximately 69% of our products and which represented approximately 69% of our sales for the year ended March 31, 2011. We will rely upon Celadrin® to expand our product lines and revenue in the future. If our Celadrin® supplier goes out of business or elects for any reason not to supply us with Celadrin®, we would have to find another Celadrin® supplier or suffer a significant reduction in our revenue.
 
We Rely upon a Limited Number of Customers the Loss of Which Would Reduce Our Revenue and Any Earnings.

Our largest customers accounted for 54% and 14% of our net sales for the year ended March 31, 2011 and 42% and 15% for the year ended March 31, 2010.  The loss of any of these customers could significantly reduce our revenue and adversely affect our cash flow and earnings, if any.

We Have Recently Changed to a Licensing Model to Generate Revenue Which Could Impact Our Revenue and Profitability.

Our business model has changed from exclusively selling products directly to wholesalers, retailers, and customers to additionally licensing the sale of our products to third parties. This business model requires the third parties to commit to such an agreement and to successfully sell products with our technologies.  We have not achieved similar significant revenue producing license deals in the past.  If we are not successful at implementing a licensing model, our revenues, cash flow and earnings, if any, could be adversely affected.

We Rely upon Other Outside Suppliers to Produce Our Products Which Could Delay Our Product Deliveries.

All of our products are produced by outside manufacturers who process ingredients provided to them by our suppliers and with whom we have contracts. Our profit margins and our ability to deliver products on a timely basis are dependent upon these manufacturers and suppliers. Should any of these manufacturers or suppliers fail to provide us with product, we would be required to obtain new manufacturers and suppliers, which would be costly and time consuming and could delay our product deliveries.

 
12

 

Product Liability Claims Against Us Could Be Costly.

Some of our nutritional supplements contain newly-introduced ingredients or combinations of ingredients, and we have little long-term health information about individuals consuming those ingredients. If any of these products were thought or proved to be harmful, we could be subject to litigation. Although we carry product liability insurance in the face amount of $1,000,000 per occurrence and $2,000,000 in the aggregate and require our suppliers and manufacturers to include us as insured parties on their product liability insurance policies, our coverage may not be adequate to protect us from potential product liability claims and costs of defense.

We Are Subject to Intense Competition from Other Nutritional Supplement Marketers Which Could Reduce Our Revenue and Profit Margins.

Competition in the nutritional supplement market is intense. We compete with numerous companies that have longer operating histories, more products and greater name recognition and financial resources than we do. In order to compete, we could be forced to lower our product prices, which would reduce our revenue and profit margins.

We Are Highly Regulated, Which Increases Our Costs of Doing Business.

We are subject to laws and regulations which cover:

 
the formulation, manufacturing, packaging, labeling, distribution, importation, sale and storage of  our products;

 
the health and safety of food and drugs;

 
trade practice and direct selling laws; and

 
product claims and advertising by us; or for which we may be held responsible.

Compliance with these laws and regulations is time consuming and expensive. Moreover, new regulations could be adopted that would severely restrict the products we sell or our ability to continue our business. We are unable to predict the nature of any future laws, regulations, interpretations or applications, nor can we predict what effect additional governmental regulations or administrative orders, when and if promulgated, would have on our business in the future. These future changes could, however, require the reformulation or elimination of certain products; imposition of additional record keeping and documentation requirements; imposition of new federal reporting and application requirements; modified methods of importing, manufacturing, storing or distributing certain products; and expanded or different labeling and substantiation requirements for certain products and ingredients. Any or all of these requirements could harm our business.

There Are Limitations on the Liability of Our Officers and Directors Which May Restrict Our Stockholders from Bringing Claims.

Our Bylaws substantially limit the liability of our officers and directors to us and our stockholders for negligence and breach of fiduciary or other duties to us. This limitation may prevent stockholders from bringing claims against our officers and directors in the future.

Shares of Our Common Stock Which Are Eligible for Sale by Our Stockholders May Decrease the Price of Our Common Stock.

As of March 31, 2011, we have 11,811,288 common shares outstanding which are freely tradable or saleable under Rule 144.  We also have outstanding common stock warrants and stock options exercisable into up to 3,191,341 shares of common stock which could become free trading if exercised.   If our stockholders sell substantial amounts of our common stock, the market price of our common stock could decrease.

 
13

 

There is a Limited but Potentially Volatile Trading Market in Our Common Stock, Which May Adversely Affect Our Stock Price.

Our common stock trades on the Electronic Bulletin Board. The Bulletin Board tends to be highly illiquid, in part because there is no national quotation system by which potential investors can track the market price of shares except through information received or generated by a limited number of broker-dealers that make a market in particular stocks. There is a greater chance of market volatility for securities that trade on the Bulletin Board as opposed to a national exchange or quotation system. This volatility may be caused by a variety of factors, including:

 
The lack of readily available price quotations;

 
The absence of consistent administrative supervision of "bid" and "ask" quotations;

 
Lower trading volume; and

 
Market conditions.

There could be wide fluctuations in the market price of our common stock. These fluctuations may have an extremely negative effect on the market price of our securities and may prevent an investor from obtaining a market price equal to his purchase price when he attempts to sell our securities in the open market. In these situations, the investor may be required to either sell our securities at a market price which is lower than his purchase price, or to hold our securities for a longer period of time than he planned.

Because Our Common Stock May Be Classified as "Penny Stock," Trading in it Could Be Limited, and Our Stock Price Could Decline.

In the future, our common stock may fall under the definition of "penny stock" if our net tangible assets decline below $2,500,000. In such event, trading in our common stock would be limited because broker-dealers will be required to provide their customers with disclosure documents prior to allowing them to participate in transactions involving our common stock. These disclosure requirements are burdensome to broker-dealers and may discourage them from allowing their customers to participate in transactions involving our common stock.

"Penny stocks" are equity securities with a market price below $5.00 per share, other than a security that is registered on a national exchange or included for quotation on the NASDAQ system, unless, as in our case, the issuer has net tangible assets of more than $2,000,000 and has been in continuous operation for greater than three years. Issuers who have been in operation for less than three years must have net tangible assets of at least $5,000,000.

Rules promulgated by the Securities and Exchange Commission under Section 15(g) of the Exchange Act require broker-dealers engaging in transactions in penny stocks, to first provide to their customers a series of disclosures and documents, including:

 
A standardized risk disclosure document identifying the risks inherent in investment in penny stocks;

 
All compensation received by the broker-dealer in connection with the transaction;

 
Current quotation prices and other relevant market data; and

 
14

 

 
Monthly account statements reflecting the fair market value of the securities. In addition, these rules require that a broker-dealer obtain financial and other information from a customer, determine that transactions in penny stocks are suitable for such customer and deliver a written statement to such customer setting forth the basis for this determination.

ITEM 1B.
UNRESOLVED STAFF COMMENTS.
 
None
 
ITEM 2.
PROPERTIES.
 
We conduct our corporate functions and manufacturing, product development, sales and marketing activities in San Diego, California.  We rent 5,426 square feet of office space at 10845 Rancho Bernardo Road, Suite 105, San Diego, California 92127 under a seven-year lease ending December 2012 for a monthly rent ranging from a current level of $12,244 increasing annually to $12,673 for the seventh year.  The average monthly rent for the seven-year period is $11,212.  In addition we rent 4,575 square feet of distribution and storage space at 1420 Decision Street, Suite B, Vista, California 92083 under a month to month lease at a monthly rent of $2,049.  This space is intended to meet our needs for the foreseeable future.
 
ITEM 3.
LEGAL PROCEEDINGS.
 
TriPharma Suit

On April 30, 2010, TriPharma, Inc., a customer of Imagenetix, filed a legal action in the United States Southern District Court of California, case number 10CV0933IEG, related to an Exclusive Marketing and Supply Agreement, as amended on June 19, 2008.   TriPharma asserts that Imagenetix breached the terms of the Agreement and seeks injunctive relief and unspecified damages.  The Company denies the allegations and believes the claims to be frivolous and totally devoid of merit. The Company has retained litigation counsel and intends to vigorously defend the claims. The amount, if any, of ultimate liability with respect to the foregoing cannot be determined. Despite the inherent uncertainties of litigation, the Company at this time does not believe that TriPharma's claim will have a material adverse impact on its financial condition, results of operations, or cash flows.

Nikken Suit

On April 29, 2011, Imagenetix filed a legal action in the United States Central District of California, case number CV11-3727GHK(VBKx), against Nikken Inc., Et. Al. including certain of Nikken’s affiliates and distributors.  Imagenetix claims that the defendants infringed on its U.S. Patent No. 5,596,676 entitled “Method for the Treatment of Osteoarthritis” and entered into unfair competition under the Lanham Act.  Imagenetix seeks damages of approximately $31,000,000 and injunctive relief among other claims.  Nikken has not yet responded to this action.

ITEM 4.
RESERVED.
 
 
15

 

PART II
 
ITEM 5.   MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
 
Our Common Stock is traded in the over-the-counter market and is quoted on the NASD OTC Bulletin Board system maintained by the National Association of Securities Dealers, Inc. Prices reported represent prices between dealers, do not include markups, markdowns or commissions and do not necessarily represent actual transactions. The market for our shares has been sporadic and at times very limited.

The following table sets forth the high and low closing price for the Common Stock for the fiscal years ended March 31, 2011 and 2010:

   
Closing Price
 
   
High
   
Low
 
             
Fiscal Year Ended March 31, 2011
           
First Quarter
  $ 0.48     $ 0.36  
Second Quarter
  $ 0.51     $ 0.37  
Third Quarter
  $ 0.50     $ 0.35  
Fourth Quarter
  $ 0.50     $ 0.16  
                 
Fiscal Year Ended March 31, 2010
               
First Quarter
  $ 0.48     $ 0.25  
Second Quarter
  $ 0.84     $ 0.38  
Third Quarter
  $ 0.80     $ 0.34  
Fourth Quarter
  $ 0.59     $ 0.36  

We had approximately 300 shareholders of record as of July 11, 2011. Because most of our common stock is held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of beneficial owners represented by these record holders. We have never paid a cash dividend on our common stock and do not expect to pay one in the foreseeable future.

Recent Sale of Unregistered Securities
In March 2011 we issued common stock purchase warrants as follows:
 
Common Stock Purchase Warrants

Name
 
Date of Issuance
 
Number of Shares
   
Exercise Price
 
Expiraton Date
James & Josephine Zolin
 
3/27/2011
    75,000     $ 0.50  
3/27/2016
Anthony W. & Barbara Opperman
 
3/27/2011
    75,000     $ 0.50  
3/27/2016

With respect to the above securities issuances, the Registrant relied on exemptions provided by Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”) and Rule 506 under the Securities Act. No advertising or general solicitation was employed in offering the securities. The securities were issued to a limited number of persons all of whom were accredited investors as that term is defined in Rule 501 of Regulation D under the Securities Act. All were capable of analyzing the merits and risks of their investment, acknowledged in writing that they were acquiring the securities for investment and not with a view toward distribution or resale, and understood the speculative nature of their investment. All securities issued contained a restrictive legend prohibiting transfer of the shares except in accordance with federal securities laws.

There were no proceeds received from the issuance of the above securities.

 
16

 

ITEM 6.   SELECTED FINANCIAL DATA.
 
Not Applicable

ITEM 7.   MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION.
 
Overview
 
We develop, formulate and market over-the-counter, natural-based nutritional supplements and skin care products. Our products are proprietary, often supported by scientific studies which we request and are offered through multiple channels of distribution, including direct marketing companies, also known as network marketing or multi-level marketing companies, and chain store retailers. Our primary product is Celadrin® a product formulation which we sell to the mass market through retailers and on a private label basis to wholesale customers.  We also license our intellectual property to third parties.

A key part of our marketing strategy is to provide to our wholesale customers a "turnkey" approach to the marketing and distribution of our products. This turnkey approach provides these customers with all the services necessary to market our products, including developing specific product formulations, providing supporting scientific studies regarding the effectiveness of the product and arranging for the manufacture and marketing of the product.

Historically, we have sold our own branded product, Celadrin®, directly to the mass markets through retail sellers.  We currently plan to expand our activities in developing, licensing and selling products and formulations to businesses and organizations that in-turn market our products through multiple channels of distribution, including direct marketing companies, mass marketing companies, medical, health and nutritional professionals, medical newsletters and direct response radio and television. We also offer Celadrin® products through wholesale customers that in turn offer their products containing Celadrin® to mass market retailers.

Management's discussion and analysis of results of operations and financial condition are based upon the Company's financial statements. These statements have been prepared in accordance with accounting principles generally accepted in the United States of America. These principles require management to make certain estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates based on historical experience and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Critical Accounting Policies and Estimates

We have identified nine accounting principles that we believe are key to an understanding of our financial statements. These important accounting policies require management's most difficult, subjective judgments.

1.
Cash and Cash Equivalents.
For purposes of the financial statements, we consider all highly liquid debt investments purchased with a maturity of three months or less to be cash equivalents.

2.
Accounts receivable.
Accounts receivable are carried at the expected net realizable value. The allowance for doubtful accounts is based on management’s assessment of the collectability of specific customer accounts and the aging of the accounts receivable. If there were a deterioration of a major customer’s creditworthiness, or actual defaults were higher than historical experience, our estimates of the recoverability of amounts due to us could be overstated, which could have a negative impact on operations.

 
17

 

3.
Inventory
Inventory is carried at the lower of cost or market. Cost is determined by the first-in first-out method.  Indirect overhead costs are allocated to inventory.

4.
Property and Equipment
Property and equipment are stated at cost. Expenditures for major renewals and betterments that extend the useful lives of property and equipment are capitalized, upon being placed in service.  Expenditures for maintenance and repairs are charged to expense as incurred.  Depreciation is computed over the estimated useful life of three to seven years, except leasehold improvements which are depreciated over the lesser of the remaining lease life or the life of the asset, using the straight-line method. We follow the provisions of the Financial Accounting Standards Board Accounting Standards Codification ("ASC") No. 360.  Under ASC No. 360, long-lived assets and certain identifiable intangibles to be held and used by us are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We continuously evaluate the recoverability of our long-lived assets based on estimated future cash flows and the estimated fair value of such long-lived assets, and provide for impairment if such undiscounted cash flows are insufficient to recover the carrying amount of the long-lived asset.

5.
Trademarks and Patents
Patents and trademarks are carried at cost less accumulated amortization and are amortized over their estimated useful lives of from 8 to 17 years for patents and 17 years for trademarks.   The carrying value of patents and trademarks is periodically reviewed and impairments, if any, are recognized when the expected future benefit to be derived from individual intangible assets is less than its carrying value determined based on the provisions of ASC No. 360 as discussed above.

6.
Stock Based Compensation
We adopted ASC Nos.718 and 505, which require that share-based payments be reflected as an expense based upon the grant-date fair value of those awards. The expense is recognized over the remaining vesting periods of the awards. The Company estimates the fair value of these awards, including stock options and warrants, using the Black-Scholes model. This model requires management to make certain estimates in the assumptions used in this model, including the expected term the award will be held, volatility of the underlying common stock, discount rate and forfeiture rate. We develop our assumptions based on our past historical trends as well as consider changes for future expectations.

7.
Revenue Recognition
We recognize revenue in accordance with the SEC’s Staff Accounting Bulletin No. 104, “Revenue Recognition in Financial Statements” (SAB104) and ASC No. 605.  SAB 104 requires that four basic criteria be met before revenue can be recognized: 1) there is evidence that an arrangement exists; 2) delivery has occurred; 3) the fee is fixed or determinable; and 4) collectability is reasonably assured. ASC No. 605 states that revenue from sales transactions where the buyer has the right to return the product shall be recognized at the time of sale only if (1) the seller’s price to the buyer is substantially fixed or determinable at the date of sale; (2) the buyer has paid the seller, or the buyer is obligated to pay the seller and the obligation is not contingent on resale of the product; (3) the buyer’s obligation to the seller would not be changed in the event of theft or physical destruction or damage of the product; (4) the buyer acquiring the product for resale has economic substance apart from that provided by the seller; (5) the seller does not have significant obligations for future performance to directly bring about resale of the product by the buyer; and (6) the amount of future returns can be reasonably estimated. We recognize revenue upon determination that all criteria for revenue recognition have been met. The criteria are usually met at the time title passes to the customer, which usually occurs upon shipment. Revenue from shipments where title passes upon delivery is deferred until the shipment has been delivered.

 
18

 

We account for payments made to customers in accordance with ASC No. 605, which states that cash consideration (including a sales incentive) given by a vendor to a customer is presumed to be a reduction of the selling prices of the vendor’s products or services and, therefore, should be characterized as a reduction of revenue when recognized in the vendor’s income statement, rather than a sales and marketing expense. We have various agreements with customers that provide for discounts and rebates. These agreements are classified as a reduction of revenue. Certain other costs associated with customers that meet the requirements of ASC No. 605 are recorded as sales and marketing expense. Vendor considerations recorded as a reduction of sales were $979,000 and $1,185,000 for the years ended March 31, 2011 and 2010.

We guarantee customer satisfaction. Our policy requires the customer to return the unused product to the retailer from whom they originally purchased it.  We pay the retailer for the returned product plus a handling cost. We review gross revenue for estimated returns of private label contract manufacturing products and direct-to-consumer products. The estimated returns are based upon the trailing six months of private label contract manufacturing gross sales and our historical experience for both private label contract manufacturing and direct-to-consumer product returns. However, the estimate for product returns does not reflect the impact of a large product recall resulting from product nonconformance or other factors as such events are not predictable nor is the related economic impact estimable.   We periodically assess the adequacy of this policy and record a liability as necessary.   For the years ended March 31, 2011 and 2010, we recorded reserves of $118,000 and $86,000 for potential returns, allowances and product buy backs.
 
As part of the services we provide to our private label contract manufacturing customers, we may perform, but are not required to perform, certain research and development activities related to the development or improvement of their products. While our customers typically do not pay directly for this service, the cost of this service is included as a component of the price we charge to manufacture and deliver their products.

Royalties- we recognize revenue from royalties based on reports provided by our customers (typically 30 days after the end of the quarter on which the royalty payment is based.)

Licensing- we also derive license revenue from fees for the transfer of proven and reusable intellectual property components.  Generally, these payments will include a nonrefundable technology license fee, which will be payable upon the transfer of intellectual property.  License fees will be recognized upon the execution of the license agreement and transfer of intellectual property provided no further significant performance obligations exist and collectability is deemed probable.  If additional performance obligations are present, we defer revenue recognition until such time as the performance obligation is satisfied.

8.
Income Taxes
We account for income taxes in accordance with ASC No. 740.  This statement requires an asset and liability approach for accounting for income taxes and prescribes a comprehensive model of how a company should recognize, measure, present, and disclose in its financial statements uncertain tax positions that the company has taken or expects to take on a tax return. ASC No. 740 states that a tax benefit from an uncertain position may be recognized if it is "more likely than not" that the position is sustainable, based upon its technical merits. The tax benefit of a qualifying position is the largest amount of tax benefit that is greater than 50 percent likely of being realized upon ultimate settlement with a taxing authority having full knowledge of all relevant information.
 
9.
Research and Development
We incur expenses to further develop our products and formulas, commission entities to perform clinical trials and evaluate potential products to expand our portfolio.  In addition, we recently received a new patent for a drug candidate which, if successful, will address periodontal diseases.  We have started the initial new drug process and have completed several animal studies.  During the years ended March 31, 2011 and 2010 we incurred research and development expenses of $22,681 and $127,540, respectively.
 
 
19

 

Selected Financial Information
 
Results of Operations
 
Year Ended March 31, 2011 Compared to Year Ended March 31, 2010
 
   
Year Ended
   
Increase
       
   
3/31/11
   
3/31/10
   
(Decrease)
   
%
 
                         
Statements of Operations
                       
Net sales
  $ 7,128,854     $ 6,596,071     $ 532,783       8.1 %
Cost of goods sold
    4,062,157       3,732,252       329,905       8.8 %
% of net sales
    57.0 %     56.6 %     0.4 %     0.7 %
Gross profit
    3,066,697       2,863,819       202,878       7.1 %
% of net sales
    43.0 %     43.4 %     -0.4 %     -0.9 %
Operating expenses
                               
General and administrative
    1,024,960       1,209,281       (184,321 )     -15.2 %
Selling
    3,029,489       1,361,799       1,667,690       122.5 %
Payroll expense
    994,157       1,089,597       (95,440 )     -8.8 %
Consulting expense
    1,324,847       1,481,331       (156,484 )     -10.6 %
Total operating expenses
    6,373,453       5,142,008       1,231,445       23.9 %
Interest expense
    (235,641 )     (2,405 )     233,236       9698.0 %
Settlement income
    -       1,168,000       (1,168,000 )  
NM
 
Other income
    1,403       7,790       (6,387 )     -82.0 %
Income tax benefit
    1,373,400       407,700       965,700       236.9 %
Net loss
    (2,167,594 )     (697,104 )     1,470,490       210.9 %
 
Net Sales
 
Net sales for the year ended March 31, 2011 increased $532,783, 8.1%, to $7,128,854 compared to $6,596,071 for the year ended March 31, 2010.  The primary reasons for the sales increase are an increase in sales of our own branded product, Celadrinâ and BioGuardâ, to the mass market offset by a decrease in wholesale sales as follows:
 
Breakdown of net sales

   
Year Ended March 31,
       
   
2011
   
2010
   
Increase
 
   
$
   
%
   
$
   
%
   
(Decrease)
 
                               
Wholesale
  $ 718,000       10 %   $ 2,168,000       33 %   $ (1,450,000 )
Mass market
    5,122,000       72 %     3,205,000       49 %     1,917,000  
Distibutors
    1,289,000       18 %     1,223,000       19 %     66,000  
    $ 7,129,000       100 %   $ 6,596,000       100 %   $ 533,000  
 
During the year ended March 31, 2011, we expanded to all Costco stores of both Celadrin® and BioGuard®, we had initial shipments of Celadrin® to 800 Walmart stores and we expanded the sale of BioGuard® to all RiteAid stores.  However, the advertising costs required to support the increased level of revenue proved to be prohibitive.  Therefore, we anticipate future revenue gains will come from licensing and sale of our intellectual property and sale of our raw material to larger, better funded companies who have well established retail advertising budgets.
 
 
20

 

Cost of Goods Sold
 
Cost of goods sold as a percentage of net sales remained stable at 57% for the years ended March 31, 2011 and 2010.  Future cost of sales is anticipated to fluctuate based on future product mix.
 
General and Administrative
 
General and administrative expenses decreased by $184,321, a 15.2% decrease, to $1,024,960 for the year ended March 31, 2011 from $1,209,281 for the year ended March 31, 2010.  The primary reasons for the decrease were an approximate decrease of $65,000 of travel related costs and a $105,000 decrease in research and development expenses related to clinical studies and advancement of the periodontal drug candidate.
 
Selling
 
Selling expenses more than doubled from $1,361,799 for the year ended March 31, 2010 to $3,029,489, a $1,667,690 increase, for the year ended March 31, 2011.  The primary reason for the increase was the marketing costs related to expanding nationwide Celadrin and BioGuard into the food, drug, mass and club store categories.  The expanded advertising proved to be ineffective related to the increase in sales.  Future advertising will be on a limited basis as the Company anticipates changing to a wholesale approach to growth by concentrating on licensing its products and selling raw material to larger, better financed companies who have established channels as it relates to the retail market.
 
Payroll Expense
 
Payroll expense decreased to $994,157 for the year ended March 31, 2011, a decrease of 8.8% or $95,440, compared to $1,089,597 for the year ended March 31, 2010.   This decrease was a result of employee terminations, reduced salaries and bonus decreases during the current fiscal year.
 
Consulting Expenses
 
Consulting expenses decreased to $1,324,847 for the year ended March 31, 2011, a decrease of 10.6% or $156,484, compared to $1,481,331 for the year ended March 31, 2010.  This decrease was a result of a decrease of $326,000 for product demonstrations at mass market stores offset by an increase of $182,000 for legal expenses.
 
Other Income
 
During the year ended March 31, 2010, we received $1,250,000 as a result of accelerating and terminating a supply agreement with a customer which was partially offset by an $82,000 settlement with a sales distributor involved in this transaction.

Interest Expense

Interest expense increased by $233,236 to $235,641 for the year ended March 31, 2011 compared to $2,405 for the year ended March 31, 2010.  During the current fiscal year, we entered into an asset based line of credit with a commercial bank and several bridge loans with individual investors to provide financing for expanding inventories, accounts receivable and marketing and advertising to support the nationwide expansion of Celadrin and BioGuard.  Future interest expense is anticipated to go down as we refocus the direction of the company away from the food, drug, mass and club stores markets.

Provision for Income Taxes
 
As a result of losses during the years ended March 31, 2011 and 2010, we reflected income tax benefits of $1,373,400 and $407,700.
 
 
21

 

Capital Resources
 
   
Year Ended
    Increase  
   
3/31/11
   
3/31/10
   
(Decrease)
 
                   
Working Capital
                 
                   
Current assets
  $ 3,572,098     $ 4,464,088     $ (891,990 )
Current liabilities
    3,838,790       1,190,565       2,648,225  
Working capital
  $ (266,692 )   $ 3,273,523     $ (3,540,215 )
                         
Long-term debt
  $ -     $ -     $ -  
                         
Stockholders' equity
  $ 2,081,046     $ 3,505,258     $ (1,424,212 )
                         
Statements of Cash Flows Select Information
                       
                         
Net cash provided (used) by:
                       
Operating activities
  $ (2,076,351 )   $ (277,059 )   $ (1,799,292 )
Investing activities
  $ (1,761 )   $ (6,501 )   $ 4,740  
Financing activities
  $ 1,495,599     $ 39,347     $ 1,456,252  
                         
Balance Sheet Select Information
                       
                         
Cash and cash equivalents
  $ 398,997     $ 981,510     $ (582,513 )
                         
Accounts receivable, net
  $ 669,976     $ 1,049,047     $ (379,071 )
                         
Inventory, net
  $ 993,393     $ 1,350,041     $ (356,648 )
                         
Accounts payable and accrued expenses
  $ 892,366     $ 1,079,219     $ (186,853 )
 
Liquidity
 
We have historically financed our operations internally and through debt and equity financings. At March 31, 2011, we had cash holdings of $398,997, a decrease of $582,513 compared to March 31, 2010. Our net working capital position at March 31, 2011, was a negative $266,692 compared to $3,273,523 as of March 31, 2010.  This decrease was primarily the result of operating losses incurred during the year and a reclassification of deferred income tax assets from current to long term.  In fiscal year 2011, we raised $400,000 through the sale of common stock, $700,000 through the issuance of bridge loans to individuals and $1,500,000 through entering into an asset based line of credit with a commercial bank.  The proceeds from these debt and equity financings were used to meet working capital needs particularly an increase in inventories, accounts receivable and advertising with respect to an increased level of sales activity to our mass market customers.    During the first fiscal quarter of 2012, we received an additional $750,000 in cash from the deferred sale of our intellectual property and $700,000 from an investor.  The proceeds were used to pay off and close the asset based line of credit as we reposition ourselves away from the mass market in favor of intellectual property licensing and royalty sales to compliment wholesale revenue.  Although our cash requirements for marketing and advertising will be eliminated with this new business model, we have no history concerning licensing and royalty revenue.  However, we believe that our cash position is sufficient to fund our operating activities for at least the next 12 months.

 
22

 

New Accounting Pronouncements

In October 2009, the Financial Accounting Standards Board (“FASB”) issued ASU 2010-13, “Revenue Recognition (Topic 605)Multiple-Deliverable Revenue Arrangements.” This ASU eliminates the requirement that all undelivered elements must have objective and reliable evidence of fair value before a company can recognize the portion of the consideration that is attributable to items that already have been delivered. This may allow some companies to recognize revenue on transactions that involve multiple deliverables earlier than under the current requirements. Additionally, under the new guidance, the relative selling price method is required to be used in allocating consideration between deliverables and the residual value method, will no longer be permitted. This ASU is effective prospectively for revenue arrangements entered into or materially modified beginning in fiscal 2011. A company may elect, but will not be required, to adopt the amendments in this ASU retrospectively for all prior periods. The adoption of this ASU did not have a material impact on the Company’s financial statements.

In April 2010, the FASB issued ASU 2010-17, “Revenue Recognition – Milestone Method (Topic 605):  Milestone Method of Revenue Recognition.”  This ASU is effective on a prospective basis for milestones achieved in fiscal years, and interim periods within those years, beginning January 1, 2011.  The adoption of this ASU did not have a material impact on the Company’s financial statements.

A variety of proposed or otherwise potential accounting standards are currently under study by standard-setting organizations and various regulatory agencies. Because of the tentative and preliminary nature of these proposed standards, management has not determined whether implementation of such proposed standards would be material to the Company’s consolidated financials statements.
 
ITEM 7A.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
 
Not applicable.

ITEM 8.   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
 
The financial statements required by this item begin on page F-1 with the index to consolidated financial statements.

ITEM 9.   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING ANDFINANCIAL DISCLOSURE.
 
None

ITEM 9A(T).  CONTROLS AND PROCEDURES

Disclosure Controls and Procedures

Our chief executive officer and our chief financial officer conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Securities Exchange Act Rules 13a-15(e) and 15d-15(e)). Based on their evaluation, they concluded that our disclosure controls and procedures were effective as of March 31, 2011, the end of the period covered by this annual report.

 
23

 

Management’s Report on Internal Control over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act, as amended, as a process designed by, or under the supervision of, a company’s principal executive and principal financial officers and effected by a company’s board of directors, management and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Our internal control over financial reporting includes those policies and procedures that:
 
 
* pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets;

 
*  provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors;

 
* and provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the financial statements.

Internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives because of its inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. Internal control over financial reporting also can be circumvented by collusion or improper management override. Because of such limitations, there is a risk that material misstatements may not be prevented or detected on a timely basis by internal control over financial reporting. However, these inherent limitations are known features of the financial reporting process. Therefore, it is possible to design into the process safeguards to reduce, though not eliminate, this risk. In addition, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate. In order to evaluate the effectiveness of our internal control over financial reporting as of March 31, 2011, as required by Sections 404 of the Sarbanes-Oxley Act of 2002, our management commenced an assessment, based on the criteria set forth in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “ COSO Framework “). A material weakness is a control deficiency, or a combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis.

Based on their evaluation, the Chief Executive and Chief Financial Officers  concluded that our internal controls over financial reporting were effective as of March 31, 2011, the end of the period covered by this annual report.

Management believes that the financial statements included in this report fairly present in all material respects our financial condition, results of operations and cash flows for the periods presented.
 
This annual report does not include an attestation report of our independent registered public accounting firm regarding internal control over financial reporting. Our internal controls were not subject to attestation by our independent registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit us to provide only managements report in this annual report.

 
24

 

Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting that occurred during the fourth quarter of fiscal 2011 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
 
ITEM 9B.OTHER INFORMATION.
 
None.

PART III
 
ITEM 10.   DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
 
The following table and biographical summaries set forth information, including principal occupations and business experience, about our directors and the executive officer at March 31, 2011:

Name
 
Age 
 
Position 
         
William P. Spencer
 
58
 
Chief Executive Officer, President and Director
Debra L. Spencer (1)
 
59
 
Secretary
Lowell W. Giffhorn
 
64
 
Chief Financial Officer
Derek C. Boosey
 
68
 
Vice President—International
Jeffrey G. McGonegal
 
60
 
Director
Robert Burg
 
54
 
Director
Barry S. King
 
65
 
Director
William A. Toomey (2)
 
72
 
Director

 
(1)
Ms. Spencer resigned from the board of directors in April 2011.
 
(2)
Mr. Toomey joined the board of directors in June 2011.

Biographical Information

William P. Spencer has served as a director and has been our president since January 1999. From January 1986 to December 1996 he served as chief operating officer, chief financial officer and executive vice-president of Natural Alternatives International, Inc., a company engaged in the formulation and production of encapsulated vitamins and nutrients. He was president of NAI from December 1996 to October 1998 and was a director from January 1986 to October 1998. From 1976 to 1988 he was a regional vice president for San Diego Trust and Savings Bank. Mr. Spencer earned a B.S. degree in finance and an MBA degree from San Diego State University. Mr. Spencer’s long history with the nutraceutical industry and his long history as our chief executive officer make his participation on our board very valuable in all aspects of our operations and board.

Debra L. Spencer has served as a director from March 1999 to April 2011 and served as our treasurer from March 1999 to July 2005. She continues to serve as our corporate secretary a position she has held since March 1999. Her responsibilities also include product label copy and graphic design in compliance with FDA regulations as well as developing marketing materials for our private label products. From 1970 to 1981 she was an Executive Assistant to the Vice President of a local San Diego bank.  From 1987 to 1993 she served as vice president, secretary and treasurer for Vitamin Direct, Inc., a consumer mail order vitamin company.

 
25

 

Derek C. Boosey has served as our vice-president—international since September 1999. From 1994 to September 1999, he was new business manager for Natural Alternatives International, Inc., and from 1990 to 1994 was director of marketing for Athletics Canada. From 1984 to 1990, Mr. Boosey was a technical advisor to the Korean Ministry of Sports and a sports and marketing consultant for MKC International. He earned degrees in physical education from Keele University (England) and Opu University (England) and is the Senior Olympics world record holder in the triple jump in the age 55 to 60 class.

Barry King joined our Board in 2003. He was the Director of Marketing for the United States Olympic Committee from 1987 to 2002. Since 2002, Mr. King has been the President of Outdoor Fitness, a private company engaged in the development and sale of exercise equipment. Mr. King graduated with a B.A. degree from the University of Colorado in 1969. Mr. King’s long career as a marketing professional provides particular value to our board as it relates to positioning our products.

Lowell W. Giffhorn has served as our Chief Financial Officer since July 2005.  Since October 2005, Mr. Giffhorn also has served as the Chief Financial Officer and, since December 2005, has served on the board of directors of Brendan Technologies, Inc., a publicly held company that provides computer software to the pharmaceutical and life science industries.  From November 1996 to June 2005, Mr. Giffhorn was the Chief Financial Officer of Patriot Scientific Corp., a publicly held semiconductor and intellectual property company.   From June 1992 to August 1996 and from September 1987 to June 1990 he was the CFO of Sym-Tek Systems, Inc. and Vice President of Finance for its successor, Sym-Tek Inc., a supplier of capital equipment to the semiconductor industry. Mr. Giffhorn obtained a M.B.A. degree from National University in 1976 and he obtained a B.S. in Accountancy from the University of Illinois in 1969.  Mr. Giffhorn devotes approximately 50% of his time to our affairs.

Jeffrey G. McGonegal joined our board in 2005.  He has served since 2003 as the chief financial officer of AspenBio Pharma, Inc., a publicly-held biomedical company, and from 2003 until January 1, 2011, as the chief financial officer of PepperBall Technologies, Inc., a publicly held security products and services company, and since 2000 has served as senior vice president — finance of Cambridge Holdings, a publicly-held real estate and business development firm with limited activities. Until its sale in April 2007, he was also a member of the board of directors of Applied Medical Devices, Inc., a publicly-held shell company.  From 1974 to 1997, he was an accountant with BDO Seidman LLP.  While at BDO Seidman, Mr. McGonegal served as managing partner of the Denver, Colorado office.  Mr. McGonegal received a B.A. degree in accounting from Florida State University and he is a certified public accountant licensed in Colorado. Mr. McGonegal’s deep financial expertise, which includes several years experience as a certified public accountant and several chief financial officer or chief executive officer positions in addition to his services to the company, provides particular value to our board.

Robert Burg joined our board in 2005.  Since 2009, Mr. Burg has been the president of CMC Golf, a worldwide leader, manufacturer, and distributor of fine golf accessories.  Since 1998, Mr. Burg has been the owner of The Burg Group, a national sales and marketing agency specializing in the golf industry.  From 1992 to 1998, Mr. Burg held several executive level positions, including President from 1995 to 1998, with Royal Grip, Inc., a publicly traded company that designed and distributed golf club grips and athletic headware.  He received a B.A. degree in Business from Great Western University in 1977.   Mr. Burg’s long career as a marketing professional coupled with his executive officer positions provides particular value to our board.

William A. Toomey joined our board in 2011.  Mr. Toomey has used global influence as a world class athlete and leader of the International Olympic movement to benefit many.  He was the 1968 Olympic gold medalist in the decathlon, a past Sullivan Award winner (top USA athlete), ABC Athlete of the Year, and the Associated Press Amateur and Professional Athlete of the Year.  He is a past president of the International Olympic Committee’s Alumni Association; was a Presidential advisor to the Peace Corps and a member of Gerald Ford’s Presidential Commission on Olympic Sport. He received a Master’s Degree from Stanford University and currently lectures at the University of California Davis.  Mr. Toomey’s long career as a marketing executive in sports health and fitness provides particular value to our board.
 
 
26

 
 
William P. Spencer and Debra L. Spencer are married to each other.
 
Committees of the Board of Directors
 
Compensation Committee.  Our Compensation Committee is currently comprised of the following, each of whom is independent as defined under applicable NASDAQ and SEC rules: Jeffrey G. McGonegal, Robert Burg (Committee Chair), and Barry King. The Compensation Committee did not hold any formal meetings during the current fiscal year.

The Compensation Committee was formed to review and recommend to the Board the salaries, bonuses and perquisites of our executive officers. The Compensation Committee also will review and recommend to the Board any new compensation or retirement plans and will administer our 2000 Stock Option Plan. The Compensation Committee will also review and approve corporate goals and objectives relevant to the compensation of our executive officers and evaluate their performance in light of these goals and objectives. The Compensation Committee will present a charter at its first formal meeting.  The initial charter and any changes to the charter will be recommended by the Compensation Committee and must be approved by the Board.

Audit Committee. The Audit Committee is responsible for: (1) selection and oversight of our independent accountant; (2) establishing procedures for the receipt, retention and treatment of complaints regarding accounting, internal controls and auditing matters; (3) establishing procedures for the confidential, anonymous submission of concerns regarding accounting and auditing matters; (4) engaging outside advisors; and, (5) funding for the outside auditors and any outside advisors engagement by the audit committee.  The Audit Committee, which met four times during fiscal year 2011, is composed of one employee director and one other director, who was determined by the Board to be an independent director. During fiscal year 2010, the Audit Committee consisted of Mr. McGonegal (Chairman) and Mr. Spencer.

The Board of Directors has determined that Mr. McGonegal is an audit committee financial expert as defined in Item 401 of Regulation S-B promulgated by the Securities and Exchange Commission. The Board's conclusions regarding the qualifications of Mr. McGonegal as an audit committee financial expert were based on his service as a chief financial officer of a public company, his prior practice as an audit partner for a national certified public accounting firm and his degrees in accounting and business administration.

Code of Ethics

Imagenetix has set forth its policy on ethical behavior in a document called "Code of Business Conduct and Ethics." This policy applies to the members of our Board of Directors and all employees, including (but not limited to) our principal executive officer, principal financial officer, principal accounting officer or controller and persons performing similar functions. This policy comprises written standards that are reasonably designed to deter wrongdoing and to promote the behavior described in Item 406 of Regulation S-B promulgated by the Securities and Exchange Commission. No waivers of the Code were granted in 2011.
Compliance with Section 16(a) of the Securities Exchange Act
 
Due to our status as a Section 15(d) reporting company, our executive officers, directors, and persons who beneficially own more than 10% of a registered class of our equity securities are not required to file with the SEC reports of ownership and changes in ownership of Imagenetix's equity securities pursuant to Section 16(a) of the Securities Exchange Act of 1934.
 
 
27

 

ITEM 11.EXECUTIVE COMPENSATION.
 
There is shown below information concerning the compensation of our principal executive officer and the most highly compensated executive officers whose total compensation exceeded $100,000 (each a “Named Officer”) for the fiscal years ended March 31, 2011 and 2010.
 
SUMMARY COMPENSATION TABLE

Name and
 
Fiscal
             
Option
   
All Other
       
Principal Position
 
Year
 
Salary ($)
   
Bonus ($)
   
Awards ($)
   
Compensation ($)
   
Total ($)
 
[a]
 
[b]
 
[c]
   
[d]
   
[f]
   
[i]
   
[j]
 
William P. Spencer
 
2011
  $ 200,056     $ -     $ 24,000     $ 9,000     $ 233,056  
President, CEO and Director
 
2010
  $ 190,846     $ 56,400     $ 30,450     $ 10,802     $ 288,498  
   
2009
  $ 212,341     $ 50,400     $ 10,800     $ 10,802     $ 284,343  
                                             
Derek Boosey
 
2011
  $ 98,398     $ -     $ 45,600     $ 9,000     $ 152,998  
Vice President
 
2010
  $ 98,492     $ 3,000     $ 5,700     $ 10,802     $ 117,994  
                                             
Lowell W. Giffhorn
 
2011
  $ 114,400     $ -     $ 26,400     $ -     $ 140,800  
CFO
 
2010
  $ 106,700     $ -     $ 5,700     $ -     $ 112,400  

The amounts included in other compensation are car allowances paid to Mr. Spencer and Mr. Boosey.

 
28

 

OUTSTANDING EQUITY AWARDS AT FISCAL YEAR-END

Name
 
Number 
of
Securities
Underlying
Unexercised 
Options
(#)
 Exercisable
   
Number
of
Securities
Underlying
Unexercised
Options
(#)
Unexercisable
   
Option
Exercise 
Price
($)
 
Option
Expiration
Date
[a]
 
[b]
   
[c]
   
[e]
 
[f]
William P. Spencer
    25,000       -     $ 1.30  
May 8, 2012
President, CEO and
    30,000       -     $ 0.65  
June 25, 2013
Director
    30,000       -     $ 0.31  
June 8, 2014
      75,000       -     $ 0.70  
November 17, 2014
      50,000       50,000     $ 0.38  
August 21, 2015
                           
Lowell W. Giffhorn
    25,000       -     $ 1.30  
May 8, 2012
CFO
    40,000       -     $ 0.65  
June 25, 2013
      30,000       -     $ 0.31  
June 8, 2014
      55,000       55,000     $ 0.38  
August 21, 2015
                           
Derek Boosey
    30,000       -     $ 1.30  
May 8, 2012
Vice President
    30,000       -     $ 0.65  
June 25, 2013
      30,000       -     $ 0.31  
June 8, 2014
      95,000       95,000     $ 0.38  
August 21, 2015

Employment Contracts

Effective as of August 7, 2009, we entered into employment agreements with Mr. and Mrs. Spencer and Mr. Giffhorn to serve as our President and Chief Executive Officer, Secretary, and Chief Financial Officer, respectively (the Employees). These employment agreements have 24 month terms with automatic 24 month renewals. The employment agreements provide that the Employees may voluntarily terminate their employment with a thirty day written notice to us. The employment agreements also provide that if the Employees are involuntarily terminated (excluding for cause), we will pay the Employees twenty-four months’ salary as severance pay.

The employment agreements contain change of control provisions that provide severance pay and other benefits in the event of a change of control. The Agreements provide for severance payments of three times the executive’s annual base salary in the event the executive’s employment is terminated, either voluntarily with “good reason” or involuntarily, during the one-year period following a change in control. Severance payments to the Employees under the change of control provisions would be in lieu of any severance otherwise due them under their employment agreements discussed above.

DIRECTOR COMPENSATION

The Company's outside non-employee directors receive cash compensation, paid quarterly, for service as board members and additional cash compensation for committee chair services, as further detailed below.  Directors are reimbursed for all expenses incurred by them in attending board meetings.  Non-employee directors also receive stock options for their service as board members, with option grants awarded periodically, but not annually, as determined by the board of directors.  Employee directors receive compensation as employees and not for service as directors.

 
29

 

The following information outlines the compensation paid to our non-employee directors, including annual base retainer fees and option awards for the fiscal year ended March 31, 2011:

Name
 
Fees
Earned
or
Paid In
Cash
($)
   
Option
Awards
($)
   
Total
($)
 
[a]
 
[b]
   
(d)
   
[h]
 
Jeffrey McGonegal
  $ 10,000     $ 6,000     $ 16,000  
Barry King
  $ 4,800     $ 6,000     $ 10,800  
Robert Burg
  $ 7,500     $ 6,000     $ 13,500  

We provide director compensation for our outside directors as follows:

Board representation= $4,800 per year
Audit committee chair (Mr. McGonegal)= additional $5,200 per year
Compensation committee chair (Mr. Burg)= additional $2,700 per year

Option Grants.  All of our directors are eligible for grants of stock options under our 2000 Plan.  In August 2010, and pursuant to the 2000 Plan, we granted to Mssrs. McGonegal, King and Burg five year options to purchase 25,000 shares of our common stock at $0.38 per share as disclosed in the “Director Compensation” schedule above.

We estimate the fair value of the options issued to our officers and directors at the issuance date by using the Black-Scholes option-pricing model with the following weighted-average assumptions used for those options issued during the year ended March 31, 2011: dividend yield of zero percent; expected volatility of 78%, risk-free interest rates of 1.47%; and expected life of 5 years.

Liability and Indemnification of Officers and Directors

Our Articles of Incorporation provides that our directors will not be liable for monetary damages for breach of their fiduciary duty as directors, other than the liability of a director for:

 
A breach of the director’s duty of loyalty to our company or our stockholders;

 
Acts or omissions by the director not in good faith or which involve intentional misconduct or a knowing violation of law;

 
Willful or negligent declaration of an unlawful dividend, stock purchase or redemption; or

 
Transactions from which the director derived an improper personal benefit.

Our Articles of Incorporation require us to indemnify all persons whom we may indemnify pursuant to Nevada law to the full extent permitted by Nevada law.

 
30

 

Our bylaws require us to indemnify our officers and directors and other persons against expenses, judgments, fines and amounts incurred or paid in settlement in connection with civil or criminal claims, actions, suits or proceedings against such persons by reason of serving or having served as officers, directors, or in other capacities, if such person acted in good faith and in a manner such person reasonably believed to be in or not opposed to our best interests and, in a criminal action or proceeding, if he had no reasonable cause to believe that his/her conduct was unlawful. The termination of any action, suit or proceeding by judgment, order, settlement, conviction or upon a plea of no contest or its equivalent shall not, of itself, create a presumption that the person did not act in good faith and in a manner which he or she reasonably believed to be in or not opposed to our best interests or that he or she had reasonable cause to believe his or her conduct was unlawful. Indemnification as provided in our bylaws shall be made only as authorized in a specific case and upon a determination that the person met the applicable standards of conduct. Insofar as the limitation of, or indemnification for, liabilities arising under the Securities Act of 1933 may be permitted to directors, officers, or persons controlling us pursuant to the foregoing, or otherwise, we have been advised that, in the opinion of the Securities and Exchange Commission, such limitation or indemnification is against public policy as expressed in the Securities Act of 1933 and is, therefore, unenforceable.

ITEM 12.   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND  RELATED STOCKHOLDER MATTERS. 

The following table sets forth certain information concerning our common stock ownership as of July 11, 2011, by (1) each person who is known by us to be the beneficial owner of more than five percent of our common stock; (2) each of our executive officers and directors; and (3) all of our directors and executive officers as a group. The address of each such stockholder is in care of us at 10845 Rancho Bernardo Road, Suite 105, San Diego, California 92127.
 
 
Amount of Benefical
   
Percent of
 
Name of Beneficial Owner  
Ownership (1)(2)
   
Ownership
 
             
William P.and Debra L. Spencer (3)
    3,032,500       25.0 %
Gary J. McAdam (4)
    1,460,557       12.3 %
Barry S. King (5)
    42,500       *  
Robert Burg (6)
    47,500       *  
Jeffrey G. McGonegal (6)
    47,500       *  
Lowell W. Giffhorn (7)
    160,000       1.3 %
Derek C. Boosey (8)
    235,000       2.0 %
All officers and directors as a group (7 persons) (9)
    3,565,000       28.3 %

*
Represents less than 1%

(1)
Reflects amounts as to which the beneficial owner has sole voting power and sole investment power.
(2)
Includes stock options and common stock purchase warrants exercisable within 60 days from the date hereof.
(3)
Comprised of 2,705,000 shares and 327,500 stock options. William P. and Debra Spencer are husband and wife and are deemed to share beneficial ownership of these shares and options.
(4)
Comprised of 1,435,557 shares and 25,000 common stock purchase warrants, all of which are owned by entities controlled by Mr. McAdam.
(5)
Comprised of 42,500 stock options.
(6)
Comprised of 47,500 stock options.
(7)
Comprised of 10,000 shares and 150,000 stock options.
(8)
Comprised of 50,000 shares and 185,000 stock options.
(9)
Comprised of 2,765,000 shares and 800,000 stock options.
 
 
31

 
Equity Compensation Plan Information

               
Number of securities
 
               
remaining available
 
   
Number of securities
         
for issuance under
 
   
to be issued upon
   
Weighted average
   
equity compensaton
 
   
exercise of
   
exercise price of
   
plans (excluding
 
   
outstanding options,
   
outstanding options,
   
securities reflected in
 
   
warrants and rights
   
warrants and rights
   
column (a))
 
Plan Category
 
(a)
   
(b)
   
(c)
 
                   
Equity compensation plans approved by security holders
    1,890,000     $ 0.60       -  
                         
Equity compensation plans not approved by security holders
    1,301,341     $ 0.72       -  
                         
Total
    3,191,341     $ 0.65       -  
 
Common shares issuable on the exercise of common stock warrants have not been approved by the security holders and, accordingly, have been segregated in the above table.
 
ITEM 13.     CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.
 
In January 2005 we entered into a consulting agreement with Business Partners Operations, LLC, a company in which Mr. McAdam is an officer and principal stockholder. Under the agreement, Mr. McAdam provided us with business consulting in the areas of finance and marketing strategies. The agreement, which was verbally amended in February 2008 and November 2010, called for us to pay a fee of $3,500 to $6,500 per month.  The agreement was terminated by the company in January 2011.

We believe that the above transactions were fair, reasonable and upon terms at least as favorable to us as those we might have obtained from unaffiliated third parties.

ITEM 14.     PRINCIPAL ACCOUNTANT FEES AND SERVICES

The following is a summary of the fees billed to Imagenetix by its principal accountants for the fiscal years ended March 31, 2011 and 2010:

   
HJ Associates &
 
   
Consultants LLP
 
Fee category
 
2011
   
2010
 
             
Audit fees
  $ 61,200     $ 49,100  
                 
Audit-related fees
  $ -     $ -  
                 
Tax fees
  $ 1,781     $ 1,368  
                 
All other fees
  $ 1,080     $ -  
                 
Total fees
  $ 64,061     $ 50,468  
 
 
32

 

Audit fees. Consists of fees for professional services rendered by our principal accountants for the audit of our annual financial statements and the review of financial statements included in our Forms 10-Q or services that are normally provided by our principal accountants in connection with statutory and regulatory filings or engagements.

Audit-related fees. Consists of fees for assurance and related services by our principal accountants that are reasonably related to the performance of the audit or review of our financial statements and are not reported under "Audit fees."

Tax fees. Consists of fees for professional services rendered by our principal accountants for tax compliance, tax advice and tax planning.

All other fees. Consists of fees for products and services provided by our principal accountants, other than the services reported under "Audit fees," "Audit-related fees" and "Tax fees" above. The fees disclosed in this category include due diligence, preparation of pro forma financial statements as a discussion piece for a Board member, and preparation of letters in connection with the filing of Current Reports on Form 8-K.

Pre-Approval Policies and Procedures

All services provided by our independent registered public accounting firm, HJ Associates & Consultants LLP (“HJ”), are subject to pre-approval by our Audit Committee. The Audit Committee has authorized each of its members to approve services by HJ in the event there is a need for such approval prior to the next full Audit Committee meeting. The Audit Committee has also adopted policies and procedures that are detailed as to the particular service and that do not include delegation of the Audit Committee’s responsibilities to management under which management may engage HJ to render audit or non-audit services. Any interim approval given by an Audit Committee member and any such engagement by management must be reported to the Audit Committee no later than its next scheduled meeting. Before granting any approval, the Audit Committee (or a committee member if applicable) gives due consideration to whether approval of the proposed service will have a detrimental impact on HJ’s independence. The full Audit Committee pre-approved all services provided by HJ in fiscal 2011.

Based upon the Audit Committee's discussion with management and the independent auditors and the Audit Committee review of the representations of management and the report of the independent accountants to the Audit Committee, the Audit Committee recommended that the Board of Directors include our audited financial statements in our Annual Report on Form 10-K for the year ended March 31, 2011 filed with the Securities and Exchange Commission.

PART IV
 
ITEM 15.     EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
 
 
(a)
The following documents are filed as a part of this Report:

 
1.
Financial Statements. The following consolidated financial statements and Report of Independent Registered Certified Public Accounting Firm are included in Part II of this Report:
 
Report of HJ Associates & Consultants LLP, Independent Registered Public Accounting Firm

Consolidated Balance Sheets- As of March 31, 2011 and 2010

Consolidated Statements of Operation- Years Ended March 31, 2011 and 2010

 
33

 

Consolidated Statement of Stockholders' Equity- Years Ended March 31, 2011 and 2010

Consolidated Statements of Cash Flows- Years Ended March 31, 2011 and 2010

Notes to Consolidated Financial Statements

 
2.
Exhibits. The following Exhibits are filed as part of, or incorporated by reference into, this Report:
 
Exhibit No.
 
Title
   
         
3.01
 
Articles of Incorporation of the Registrant (1)
   
         
3.02
 
Bylaws of the Registrant (1)
   
         
3.03
 
Amendment to Articles of Incorporation (Name change) (2)
   
         
3.04
 
By laws, as amended (7)
   
         
4.01
 
2000 Stock Option Plan (6)
   
         
10.01
 
Celadrin® Supply Agreement with Organic Technologies (2)
   
         
10.19
 
Business Partners Operations Agreement (4)
   
         
10.20
 
Office Lease Agreement with Bernardo Gateway Partners (5)
   
         
10.21
 
Patent License with University of Minnesota (5)
   
         
10.22
 
Patent License with EHP Products, Inc. (5)
   
         
10.23
 
Employment Agreement with William P. Spencer dated August 7, 2009 (7)
   
         
10.24
 
Employment Agreement with Debra L. Spencer dated August 7, 2009 (7)
   
         
10.25
 
Engagement Agreement with Lowell W. Giffhorn dated August 7, 2009 (7)
   
         
10.26
 
Form of 7% Renewable Convertible Debenture dated May 2010 (8)
   
         
10.27
 
Business Financing Agreement with Bridge Bank dated June 2010 (8)
   
         
14
 
Code of Ethics (3)
   
         
31.1
 
302 Certification of William P. Spencer
   
         
31.2
 
302 Certification of Lowell W. Giffhorn
   
         
32.1
 
906 Certification of William P. Spencer
   
         
32.2
 
906 Certification of Lowell W. Giffhorn
   
 
 
34

 
 

 
(1)
Incorporated by reference to our Registration Statement on Form SB-1, file number 333-87535, filed on September 22, 1999.

 
(2)
Incorporated by reference to our Registration Statement on Form SB-2, File Number 333-71756, declared effective on July 26, 2002 and post-effective amendment No. 1 thereto declared effective on August 25, 2003.

 
(3)
Incorporated by reference to our Annual Report on Form 10-K for the year ended March 31, 2005.

 
(4)
Incorporated by reference to our Registration Statement on Form SB-2, File Number 333-123159, declared effective on March 18, 2005.

 
(5)
Incorporated by reference to our Annual Report on Form 10-K for the year ended March 31, 2006.

 
(6)
Incorporated by reference to our Registration Statement on Form S-8, File Number 333-146318, filed on September 26, 2007.

 
(7)
Incorporated by reference to our Quarterly Report on Form 10-Q for the quarter ended June 30, 2009.

 
(8)
Incorporated by reference to our Quarterly Report on Form 10-Q for the quarter ended June 30, 2010.
 
 
35

 

Index to Consolidated Financial Statements

Report of Independent Registered Public Accounting Firm
F-2
   
Consolidated Balance Sheets, March 31, 2011 and 2010
F-3
   
Consolidated Statements of Operations, for the years ended March 31, 2011 and 2010
F-4
   
Consolidated Statement of Stockholders' Equity, for the years ended March 31, 2011 and 2010
F-5
   
Consolidated Statements of Cash Flows, for the years ended March 31, 2011 and 2010
F-6
   
Notes to Consolidated Financial Statements
F-7 to F-23
 
 
F-1

 

Report of Independent Registered Public Accounting Firm

To the Board of Directors
Imagenetix, Inc.
San Diego, California

We have audited the accompanying consolidated balance sheets of Imagenetix, Inc. and subsidiaries as of March 31, 2011 and 2010, and the related consolidated statements of operations, stockholders' equity, and cash flows for the years 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 audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Imagenetix, Inc. and subsidiaries as of March 31, 2011 and 2010, and the results of their operations and their cash flows for the years then ended in conformity with U.S. generally accepted accounting principles.

/s/ HJ Associates & Consultants, LLP
Salt Lake City, Utah
July 11, 2011

 
F-2

 

Imagenetix, Inc.
Consolidated Balance Sheets

March 31,
 
2011
   
2010
 
             
ASSETS
           
             
Current assets:
           
Cash and cash equivalents
  $ 398,997     $ 981,510  
Accounts receivable, net
    669,976       1,049,047  
Receivable from sale of licenses and intellectual property
    1,250,000       -  
Inventories, net
    993,393       1,350,041  
Prepaid expenses and other current assets
    131,932       150,690  
Current deferred tax assets
    127,800       932,800  
Total current assets
    3,572,098       4,464,088  
                 
Property and equipment, net
    58,498       89,137  
Long-term prepaid expenses
    6,000       18,000  
Other assets
    80,240       99,998  
Long-term deferred tax assets
    2,203,000       24,600  
Total Assets
  $ 5,919,836     $ 4,695,823  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY
               
                 
Current liabilities:
               
Secured note payable to a bank
  $ 839,000     $ -  
Convertible notes
    300,000       -  
Accounts payable
    820,509       996,827  
Accrued liabilities
    71,857       82,392  
Customer deposits
    15,077       25,374  
Current deferred revenue
    1,750,000       -  
Contract payable
    42,347       85,972  
Total current liabilities
    3,838,790       1,190,565  
                 
Stockholders' equity
               
Preferred stock, $.001 par value; 5,000,000 shares authorized: none outstanding
    -       -  
Common stock, $.001 par value; 50,000,000 shares authorized: 11,811,288 and 11,010,788 issued and outstanding at March 31, 2011 and 2010, respectively
    11,810       11,010  
Capital in excess of par value
    13,543,753       12,801,171  
Accumulated deficit
    (11,474,517 )     (9,306,923 )
Total stockholders' equity
    2,081,046       3,505,258  
Total Liabilities and Stockholders' Equity
  $ 5,919,836     $ 4,695,823  

See accompanying report of independent registered public accounting firm, summary of accounting polices and notes to consolidated financial statements.

 
F-3

 

Imagenetix, Inc.
Consolidated Statements of Operations

Years Ended March 31,
 
2011
   
2010
 
             
Net sales
  $ 7,128,854     $ 6,596,071  
                 
Cost of sales
    4,062,157       3,732,252  
                 
Gross profit
    3,066,697       2,863,819  
                 
Operating expenses:
               
General and administrative expense
    1,024,960       1,209,281  
Selling expenses
    3,029,489       1,361,799  
Payroll expense
    994,157       1,089,597  
Consulting expense
    1,324,847       1,481,331  
Operating expenses
    6,373,453       5,142,008  
Operating (loss)
    (3,306,756 )     (2,278,189 )
Other income (expense):
               
Other income
    1,403       7,790  
Settlement income
    -       1,168,000  
Interest expense
    (235,641 )     (2,405 )
Other income (expense):
    (234,238 )     1,173,385  
Income (loss) before income taxes
    (3,540,994 )     (1,104,804 )
                 
Provision for (benefits from) income taxes
    (1,373,400 )     (407,700 )
                 
Net income (loss)
  $ (2,167,594 )   $ (697,104 )
                 
Basic and diluted income (loss) per share
  $ (0.19 )   $ (0.06 )

See accompanying report of independent registered public accounting firm, summary of accounting polices and notes to consolidated financial statements.

 
F-4

 

Imagenetix, Inc.
Consolidated Statements of Stockholders' Equity

   
Common Stock
   
Capital in excess
   
Retained Earnings
   
Stockholders'
 
Years Ended March 31, 2011 and 2010
 
Shares
   
Amount
   
of Par Value
   
(Deficit)
   
Equity
 
                               
Balance April 1, 2009
    11,010,788     $ 11,010     $ 12,651,936     $ (8,609,819 )   $ 4,053,127  
                                         
Value of stock options and warrants issued
    -       -       149,235       -       149,235  
Net loss for the year ended March 3l, 2010
    -       -       -       (697,104 )     (697,104 )
Balance March 31, 2010
    11,010,788       11,010       12,801,171       (9,306,923 )     3,505,258  
                                         
Common stock issued for cash at $0.50 per share
    800,000       800       399,200       -       400,000  
Non-cash value of stock options and warrants issued
    -       -       332,053       -       332,053  
Exercise of warrants at $0.45 per share
    500       -       224       -       224  
Debt discount on issuance of convertible debentures
    -       -       11,105       -       11,105  
Net loss for the year ended March 3l, 2011
    -       -       -       (2,167,594 )     (2,167,594 )
Balance March 31, 2011
    11,811,288     $ 11,810     $ 13,543,753     $ (11,474,517 )   $ 2,081,046  

See accompanying report of independent registered public accounting firm, summary of accounting policies and notes to consolidated finacial statements.

 
F-5

 

Imagenetix, Inc.
Consolidated Statements of Cash Flows

Years Ended March 31,
 
2011
   
2010
 
Operating activities:
           
Net loss
  $ (2,167,594 )   $ (697,104 )
Adjustments to reconcile net loss to cash provided (used) by operating activities:
               
Amortization and depreciation
    52,158       53,140  
Provision for doubtful accounts, returns and discounts
    7,000       75,000  
Provision for inventory obsolescence
    6,995       1,423  
Non cash expense related to debt discount on notes
    11,105       -  
Non cash expense related to issuance of warrants and stock options
    332,053       149,235  
Change in deferred taxes
    (1,373,400 )     (407,700 )
Changes in assets and liabilities:
               
(Increase) decrease in accounts receivables
    372,071       (28,101 )
(Increase) decrease in receivable from sale of licenses and intellectual property
    (1,250,000 )     -  
(Increase) decrease in inventory
    349,653       (14,223 )
(Increase) decrease in other assets
    30,758       (29,662 )
Increase (decrease) in accounts payable
    (176,318 )     722,516  
Increase (decrease) in accrued liabilities
    (10,535 )     1,696  
Increase (decrease) in income taxes payable
    -       (69,803 )
Increase in deferred revenue
    1,750,000       -  
Increase (decrease) in customer deposits
    (10,297 )     (33,476 )
Net cash provided (used in) operating activities
    (2,076,351 )     (277,059 )
Investing activities:
               
Purchases of property and equipment
    (1,761 )     (6,501 )
Net cash used in investing activities
    (1,761 )     (6,501 )
Financing activities:
               
Proceeds from contracts payable
    91,101       141,849  
Payments on contracts payable
    (134,726 )     (99,522 )
Proceeds from asset based line of credit
    1,390,000       -  
Payments on asset based line of credit
    (551,000 )     -  
Payments on patent license financed
    -       (2,980 )
Proceeds from bridge loans and convertible notes
    710,000       -  
Payments on bridge loans and convertible notes
    (410,000 )     -  
Proceeds from exericse of warrants
    224       -  
Proceeds from sale of common stock
    400,000       -  
Net cash provided by financing activities
    1,495,599       39,347  
Net decrease in cash
    (582,513 )     (244,213 )
Cash and cash equivalents, beginning of year
    981,510       1,225,723  
Cash and cash equivalents, end of year
  $ 398,997     $ 981,510  
                 
Supplemental Disclosure of Cash Flow Information:
               
Cash paid during the period for:
               
Interest
  $ 105,131     $ 2,405  
Income taxes
  $ -     $ 69,803  
Non Cash Investing and Financing Activities:
               
Debt discount on convertible notes
  $ 11,105     $ -  

See accompanying report of independent registered public accounting firm, summary of accounting policies and notes to consolidated financial statements.

 
F-6

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements
March 31, 2011 and 2010

NOTE 1 -    SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Organization

The accompanying consolidated financial statements represent the accounts of Imagenetix, Inc. [“Parent”] organized under the laws of the State of Nevada on March 28, 1988; and its subsidiary Imagenetix, Inc [“Subsidiary”] organized under the laws of the state of Colorado on July 26, 1996 and its subsidiary Imagenetix [“Imagenetix CA”] organized under the laws of the State of California on January 7, 1999. We are engaged in the business of developing and marketing nutritional supplements and skin care products primarily in domestic markets.

On March 23, 1999, Subsidiary completed an exchange agreement with Imagenetix CA wherein Subsidiary issued its common stock in exchange for all of the outstanding common stock of Imagenetix CA. The Acquisition was accounted for as a recapitalization of Imagenetix CA as the shareholders of the Imagenetix CA controlled the combined entity after the acquisition.  There was no adjustment to the carrying values of the assets or liabilities of the Subsidiary or Imagenetix CA as a result of the recapitalization.

During October 2000, the Subsidiary entered into a definitive merger agreement and plan of reorganization with Parent. The transaction was accounted for as a recapitalization of the Subsidiary, wherein the Subsidiary became a wholly owned subsidiary of the Parent. In connection with the reverse acquisition, the Parent changed its name to Imagenetix, Inc.

We have, at the present time, not paid any dividends, and any dividends that may be paid in the future will depend upon our financial requirements and other relevant factors.

Consolidation

All significant intercompany transactions between the Parent, Subsidiary, and Imagenetix CA have been eliminated in consolidation.

Accounting Estimates

The preparation of financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosures of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues
and expenses during the reporting period.  Actual results could differ from those estimated by management.

Cash and Cash Equivalents

For purposes of the financial statements, we consider all highly liquid debt investments purchased with a maturity of three months or less to be cash equivalents. At various times throughout the year, we have exceeded federally insured limits.

 
F-7

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

Accounts receivable

Accounts receivable are carried at the expected net realizable value. The allowance for doubtful accounts is based on management’s assessment of the collectability of specific customer accounts and the aging of the accounts receivable. If there were a deterioration of a major customer’s creditworthiness, or actual defaults were higher than historical experience, our estimates of the recoverability of amounts due to us could be overstated, which could have a negative impact on operations.

Inventories

Inventories are carried at the lower of cost or market. Cost is determined by the first-in first-out method.  Indirect overhead costs are allocated to inventory.

Property and Equipment

Property and equipment are stated at cost. Expenditures for major renewals and betterments that extend the useful lives of property and equipment are capitalized, upon being placed in service.  Expenditures for maintenance and repairs are charged to expense as incurred.  Depreciation is computed over the estimated useful life of three to seven years, except leasehold improvements which are depreciated over the lesser of the remaining lease life or the life of the asset, using the straight-line method. We follow the provisions of the Financial Accounting Standards Board Accounting Standards Codification ("ASC") No. 360.  Under ASC No. 360, long-lived assets and certain identifiable intangibles to be held and used by us are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We continuously evaluate the recoverability of our long-lived assets based on estimated future cash flows and the estimated fair value of such long-lived assets, and provide for impairment if such undiscounted cash flows are insufficient to recover the carrying amount of the long-lived asset.

Trademarks and Patents

Patents and trademarks are carried at cost less accumulated amortization and are amortized over their estimated useful lives of from 8 to 17 years for patents and 17 years for trademarks.   The carrying value of patents and trademarks is periodically reviewed and impairments, if any, are recognized when the expected future benefit to be derived from individual intangible assets is less than its carrying value determined based on the provisions of ASC No. 360 as discussed above.

Stock Based Compensation

We adopted ASC Nos.718 and 505, which require that share-based payments be reflected as an expense based upon the grant-date fair value of those awards. The expense is recognized over the remaining vesting periods of the awards. The Company estimates the fair value of these awards, including stock options and warrants, using the Black-Scholes model. This model requires management to make certain estimates in the assumptions used in this model, including the expected term the award will be held, volatility of the underlying common stock, discount rate and forfeiture rate. We develop our assumptions based on our past historical trends as well as consider changes for future expectations.

 
F-8

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010
 
Presentation

Certain amounts from the 2010 financial statements have been reclassified to match the 2011 presentation.

Revenue Recognition

We recognize revenue in accordance with the SEC’s Staff Accounting Bulletin No. 104, “Revenue Recognition in Financial Statements” (SAB 104) and ASC No. 605.  SAB 104 requires that four basic criteria be met before revenue can be recognized: 1) there is evidence that an arrangement exists; 2) delivery has occurred; 3) the fee is fixed or determinable; and 4) collectability is reasonably assured. ASC No. 605 states that revenue from sales transactions where the buyer has the right to return the product shall be recognized at the time of sale only if (1) the seller’s price to the buyer is substantially fixed or determinable at the date of sale; (2) the buyer has paid the seller, or the buyer is obligated to pay the seller and the obligation is not contingent on resale of the product; (3) the buyer’s obligation to the seller would not be changed in the event of theft or physical destruction or damage of the product; (4) the buyer acquiring the product for resale has economic substance apart from that provided by the seller; (5) the seller does not have significant obligations for future performance to directly bring about resale of the product by the buyer; and (6) the amount of future returns can be reasonably estimated. We recognize revenue upon determination that all criteria for revenue recognition have been met. The criteria are usually met at the time title passes to the customer, which usually occurs upon shipment. Revenue from shipments where title passes upon delivery is deferred until the shipment has been delivered.

We account for payments made to customers in accordance with ASC No. 605, which states that cash consideration (including a sales incentive) given by a vendor to a customer is presumed to be a reduction of the selling prices of the vendor’s products or services and, therefore, should be characterized as a reduction of revenue when recognized in the vendor’s income statement, rather than a sales and marketing expense. We have various agreements with customers that provide for discounts and rebates. These agreements are classified as a reduction of revenue. Certain other costs associated with customers that meet the requirements of ASC No. 605 are recorded as sales and marketing expense. Vendor considerations recorded as a reduction of sales were $979,000 and $1,185,000 for the years ended March 31, 2011 and 2010.

We guarantee customer satisfaction. Our policy requires the customer to return the unused product to the retailer from whom they originally purchased it.  We pay the retailer for the returned product plus a handling cost. We review gross revenue for estimated returns of private label contract manufacturing products and direct-to-consumer products. The estimated returns are based upon the trailing twelve months of private label contract manufacturing gross sales and our historical experience for both private label contract manufacturing and direct-to-consumer product returns. However, the estimate for product returns does not reflect the impact of a large product recall resulting from product nonconformance or other factors as such events are not predictable nor is the related economic impact estimable.   We periodically assess the adequacy of this policy and record a liability as necessary.   For the years ended March 31, 2011 and 2010, we recorded reserves of $118,000 and $86,000 for potential returns, allowances and product buy backs.

 
F-9

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

As part of the services we provide to our private label contract manufacturing customers, we may perform, but are not required to perform, certain research and development activities related to the development or improvement of their products. While our customers typically do not pay directly for this service, the cost of this service is included as a component of the price we charge to manufacture and deliver their products.

Royalties- we recognize revenue from royalties based on reports provided by our customers (typically 30 days after the end of the quarter on which the royalty payment is based.)

Licensing- we also derive license revenue from fees for the transfer of proven and reusable intellectual property components.  Generally, these payments will include a nonrefundable technology license fee, which will be payable upon the transfer of intellectual property.  License fees will be recognized upon the execution of the license agreement and transfer of intellectual property provided no further significant performance obligations exist and collectability is deemed probable.  If additional performance obligations are present, we defer revenue recognition until such time as the performance obligation is satisfied.

Income Taxes
We account for income taxes in accordance with ASC No. 740.  This statement requires an asset and liability approach for accounting for income taxes and prescribes a comprehensive model of how a company should recognize, measure, present, and disclose in its financial statements uncertain tax positions that the company has taken or expects to take on a tax return.  ASC No. 740 states that a tax benefit from an uncertain position may be recognized if it is "more likely than not" that the position is sustainable, based upon its technical merits. The tax benefit of a qualifying position is the largest amount of tax benefit that is greater than 50 percent likely of being realized upon ultimate settlement with a taxing authority having full knowledge of all relevant information.
 
Research and Development

We incur expenses to further develop our products and formulas, commission entities to perform clinical trials and evaluate potential products to expand our portfolio.  In addition, we recently received a new patent for a drug candidate which, if successful, will address periodontal diseases.  We have started the initial new drug process and have completed several animal studies.  During the years ended March 31, 2011 and 2010 we incurred research and development expenses of $22,681 and $127,540, respectively.

Earnings Per Share

The computation of earnings per share is based on the weighted average number of shares outstanding during the period presented in accordance with ASC No. 260 (See Note 13).

 
F-10

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

New Accounting Pronouncements

In October 2009, the Financial Accounting Standards Board (“FASB”) issued ASU 2010-13, “Revenue Recognition (Topic 605)Multiple-Deliverable Revenue Arrangements.” This ASU eliminates the requirement that all undelivered elements must have objective and reliable evidence of fair value before a company can recognize the portion of the consideration that is attributable to items that already have been delivered. This may allow some companies to recognize revenue on transactions that involve multiple deliverables earlier than under the current requirements. Additionally, under the new guidance, the relative selling price method is required to be used in allocating consideration between deliverables and the residual value method, will no longer be permitted. This ASU is effective prospectively for revenue arrangements entered into or materially modified beginning in fiscal 2011. A company may elect, but will not be required, to adopt the amendments in this ASU retrospectively for all prior periods. The adoption of this ASU did not have a material impact on the Company’s financial statements.

In April 2010, the FASB issued ASU 2010-17, “Revenue Recognition – Milestone Method (Topic 605):  Milestone Method of Revenue Recognition.”  This ASU is effective on a prospective basis for milestones achieved in fiscal years, and interim periods within those years, beginning January 1, 2011.   The adoption of this ASU did not have a material impact on the Company’s financial statements.

A variety of proposed or otherwise potential accounting standards are currently under study by standard-setting organizations and various regulatory agencies.  Because of the tentative and preliminary nature of these proposed standards, management has not determined whether implementation of such proposed standards would be material to the Company’s consolidated financial statements.

A variety of proposed or otherwise potential accounting standards are currently under study by standard-setting organizations and various regulatory agencies.  Because of the tentative and preliminary nature of these proposed standards, management has not determined whether implementation of such proposed standards would be material to the Company’s consolidated financial statements.

NOTE 2 –   ACCOUNTS RECEIVABLE

Accounts receivable are carried at the expected realizable value. Accounts receivable consisted of the following:

   
March 31,
 
   
2011
   
2010
 
             
Accounts receivable - trade
  $ 812,976     $ 1,185,047  
Allowance for doubtful accounts
    (25,000 )     (50,000 )
Allowance for returns and discounts
    (118,000 )     (86,000 )
                 
Accounts receivable, net
  $ 669,976     $ 1,049,047  
 
F-11

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010
NOTE 3 –   INVENTORY

Inventory consisted of the following:
 
   
March 31,
 
   
2011
   
2010
 
             
Raw materials
  $ 517,600     $ 1,032,817  
Finished products
    375,227       216,099  
Boxes, labels, tubes & bottles
    257,566       251,130  
      1,150,393       1,500,046  
Reserve for obsolescence
    (157,000 )     (150,005 )
                 
    $ 993,393     $ 1,350,041  

NOTE 4 -  PROPERTY AND EQUIPMENT

The following is a summary of equipment, at cost, less accumulated depreciation:

   
March 31,
 
   
2011
   
2010
 
             
Office equipment
  $ 74,393     $ 72,632  
Lease-hold improvements
    180,480       180,480  
      254,873       253,112  
                 
Less accumulated depreciation
    196,375       163,975  
                 
    $ 58,498     $ 89,137  

Depreciation expense for the year ended March 31, 2011 and 2010 was $32,401 and $33,281, respectively.

NOTE 5 –   OTHER ASSETS

The following is a summary of other assets included on the face of the balance sheet:

   
March 31,
 
   
2011
   
2010
 
             
Trademarks
  $ 13,032     $ 13,032  
Patent
    172,965       172,965  
      185,997       185,997  
                 
Less accumulated amortization
    105,757       85,999  
                 
    $ 80,240     $ 99,998  
 
 
F-12

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

For the year ended March 31, 2011 and 2010 amortization expense was $19,757 and $19,858, respectively. The estimated future amortization expense related to intangible assets as of March 31, 2011 is as follows:

Year Ended March 31.
 
Amount
 
       
2012
  $ 19,700  
2013
  $ 19,000  
2014
  $ 12,600  
2015
  $ 3,000  
2016
  $ 3,000  
Thereafter
  $ 22,800  
Total
  $ 80,100  

NOTE 6 - SECURED NOTE PAYABLE TO A BANK

In June 2010, we entered into an asset based line of credit with a bank.  The terms of the agreement enabled us to borrow up to 65% of our accounts receivables and up to $300,000 of our inventory subject to certain limitations.  The maximum amount we could borrow was $1,500,000 of which $839,000 was outstanding at March 31, 2011.  The interest rate on the outstanding balance was the greater of the prime rate plus 1.75% or 5% (10% when the line was in default) plus a monthly maintenance fee of 0.25% and an annual facility fee of 1% of the maximum borrowing amount.  The bank was given a secured position in the assets of the company.  At March 31, 2011, we were not in compliance with certain covenants under the line of credit.  We paid off the then remaining balance of the line of credit in May 2011 and closed the account.

NOTE 7 - CONVERTIBLE NOTES

Overview. In May 2010 and September 2010, we sold an aggregate of $710,000 of 7% convertible notes to a group of 6 individual investors.   The notes issued in May 2010 aggregating $410,000 were repaid by the Company in June 2010 under a call provision which included a 7% premium payment to the note holders.  The convertible notes entitle the note holder, unless a call provision was exercised by the Company before the initial maturity date of the note, to convert the principal into our common stock.  Interest on the notes  is payable quarterly in cash or at the earlier of maturity, conversion to common stock, or on the exercise of the call provision previous to maturity by  the Company.  The remaining $300,000 of the notes were amended and extended as disclosed below.

Number of Shares Notes May Be Converted Into. The notes can be converted into a number of our common shares at a conversion price equal to $0.50 per share.

Warrants. Concurrent with the issuance of the convertible notes, we issued to the note holders warrants to purchase shares of our common stock. These warrants are exercisable for five years from the date of issuance at an exercise price of $0.50 per share.  At the option of the note holder, at the conclusion of the initial six month term, the convertible notes may be renewed for additional six month terms.  Should the note be extended, an additional like warrant will be issued to the note holder.

 
F-13

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

Extension.  In May 2011, we entered into an amendment with the holders of the $300,000 of notes issued in September 2010 whereby the maturity date was extended to August 1, 2011, we agreed to make installments and amortize the principal balance over that four month period, and we issued an additional 150,000 warrants with terms as originally issued to the noteholders in 2010.

NOTE 8 – DEFERRED INCOME

During fiscal year 2011, we entered into a licensing arrangement that is contingent on future performance and obligations.  As of March 31, 2011, $1,750,000 is reflected as deferred income and $1,250,000 is reflected as a receivable from the sale of licenses and intellectual property, the recognition of which will be dependent on future performance and obligations.

NOTE 9 – LEASES OBLIGATIONS

Operating Leases

We entered into a seven-year building lease for our office commencing in January 2006 and expiring in December 2012. In addition we entered into a three-year lease for warehouse space commencing in September 2006, which was extended month to month in August 2010.  Lease expense for the years ended March 31, 2011 and 2010 amounted to $163,107 and $161,592, respectively. The following is a schedule of minimum annual rental payments for the next five years.

Years ending March 31,
     
       
2012
  $ 148,200  
2013
    114,100  
Thereafter
    -  
         
Total minimum lease payments
  $ 262,300  

NOTE 10 –  COMMITMENTS AND CONTINGINCIES

TriPharma Suit

On April 30, 2010, TriPharma, Inc., a customer of Imagenetix, filed a legal action in the United States Southern District Court of California, case number 10CV0933IEG, related to an Exclusive Marketing and Supply Agreement, as amended on June 19, 2008.   TriPharma asserts that Imagenetix breached the terms of the Agreement and seeks injunctive relief and unspecified damages.  The Company denies the allegations and believes the claims to be frivolous and totally devoid of merit. The Company has retained litigation counsel and intends to vigorously defend the claims. The amount, if any, of ultimate liability with respect to the foregoing cannot be determined. Despite the inherent uncertainties of litigation, the Company at this time does not believe that TriPharma's claim will have a material adverse impact on its financial condition, results of operations, or cash flows.

 
F-14

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

Nikken Suit

On April 29, 2011, Imagenetix filed a legal action in the United States Central District of California, case number CV11-3727GHK(VBKx), against Nikken Inc., Et. Al., including certain of Nikken’s affiliates and distributors.   Imagenetix claims that the defendants infringed on its U.S. Patent No. 5,596,676 entitled “Method for the Treatment of Osteoarthritis” and entered into unfair competition under the Lanham Act.  Imagenetix seeks damages of approximately $31,000,000 and injunctive relief among other claims.  Nikken has not yet responded to this action.

Contingencies

We are involved in litigation from time to time in the normal course of business.

Management believes there are no such claims, which would have a material effect on our financial position.

Other agreements

We routinely enter into contracts and agreements with suppliers, manufacturers, consultants, product marketing, and sales representatives in the normal course of doing business. These agreements can be either short or long term and are normally limited to specific products and
marketing opportunities.

NOTE 11 –  CAPITAL STOCK

Preferred Stock

We have authorized 5,000,000 shares of preferred stock, $.001 par value, with such rights, preferences and designations and to be issued in such series as determined by the Board of Directors. No shares are issued and outstanding at March 31, 2011 and 2010.

Common Stock

The Company has authorized 50,000,000 shares of common stock at $.001 par value. At March 31, 2011 and 2010, the Company had 11,811,288 and 11,010,788 shares of common stock issued and outstanding, respectively.

In May 2010, we issued 800,000 shares of restricted common stock to two institutional investors for an aggregated amount of $400,000, or $0.50 per share.

 
F-15

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

Warrants

A summary of the status of the warrants granted under various agreements at March 31, 2011 and 2010, and changes during the years then ended is presented below:

   
Warrants
       
         
Weighted
   
Weighted
 
         
Average
   
Average
 
         
Exercise
   
Fair
 
   
Shares
   
Price
   
Value
 
                   
Outstanding, April 1, 2009
    4,077,957     $ 1.18        
                       
Granted
    300,000       0.70     $ 0.23  
Expired
    (417,250 )     1.08          
Exercised
    -       -          
Outstanding, March 31, 2010
    3,960,707       1.15          
                         
Granted
    651,341       0.48     $ 0.26  
Expired
    (3,310,207 )     1.19          
Exercised
    (500 )     0.95          
Outstanding, March 31, 2011
    1,301,341     $ 0.72          
                         
Exercisable, March 31, 2010
    3,960,707     $ 1.15          
Exercisable, March 31, 2011
    1,301,341     $ 0.72          

During the year ended March 31, 2011, we issued warrants to thirteen individuals and one institutional investor related to debt financings valued at $171,464 of which we expensed $119,405 to interest expense during the current fiscal year and we will expense the balance over the remaining term of the financings. We estimated the fair value of each warrant at the issuance date by using the Black-Scholes option-pricing model with the following weighted-average assumptions used for the year ended March 31, 2011: dividend yield of zero percent; expected volatility of 77% to 79%, risk-free interest rates ranging from 1.79% to 2.23%; and expected lives of 5 years.

During the year ended March 31, 2010, we issued warrants to three individuals for services valued at $117,947 of which we expensed $63,033 to general and administrative expenses during the previous fiscal year and we amortized the balance over the remaining term of the service contracts. We estimated the fair value of each warrant at the issuance date by using the Black-Scholes option-pricing model with the following weighted-average assumptions used for the year ended March 31, 2010: dividend yield of zero percent; expected volatility of 78%, risk-free interest rates ranging from 2.16% to 2.20%; and expected lives of 5 years.
 
 
F-16

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010
 
A summary of the status of the warrants granted under the various agreements at March 31, 2011, are presented in the table below:

     
Outstanding
   
Exercisable
 
           
Weighted
                   
           
Average
   
Weighted
         
Weighted
 
Range of
         
Remaining
   
Average
         
Average
 
Exercise
   
Number
   
Contractual
   
Exercise
   
Number
   
Exercise
 
Prices
   
Outstanding
   
Life
   
Price
   
Exercisable
   
Price
 
                                 
Warrants
                               
                                 
$ 0.41       146,341       4.25     $ 0.41       146,341     $ 0.41  
$ 0.50       505,000       4.51     $ 0.50       505,000     $ 0.50  
$ 0.65       50,000       2.27     $ 0.65       50,000     $ 0.65  
$ 0.70       300,000       3.60     $ 0.70       300,000     $ 0.70  
$ 1.20-1.30       300,000       1.58     $ 1.26       300,000     $ 1.26  
          1,301,341       3.51     $ 0.72       1,301,341     $ 0.72  

Stock Option Plan
In August 2000 we adopted a Stock Option Plan, which we refer to as the "Plan," which provides for the grant of stock options intended to qualify as "incentive stock options" and "nonqualified stock options" (collectively "stock options") within the meaning of Section 422 of the United States Internal Revenue Code of 1986 (the "Code"). Stock options may be issued to any of our officers, directors, key employees or consultants. As of the ten year anniversary of the Plan, August 2010, the plan expired and no additional grants can be issued under the Plan.
 
Under the Plan, we had reserved 2.0 million shares underlying stock options for issuance, of which 1,900,000 options were granted to executive officers, employees and consultants at prices ranging from $0.31 to $1.30 per share. The Plan is administered by the Compensation Committee, who determined which individuals shall receive stock options, the time period during which the stock options may be exercised, the number of shares of common stock that may be purchased under each stock option and the stock option price.
 
The per share exercise price of incentive stock options may not be less than the fair market value of the common stock on the date the option is granted. The aggregate fair market value (determined as of the date the stock option is granted) of the common stock that any person may purchase under an incentive stock option in any calendar year pursuant to the exercise of incentive stock options will not exceed $100,000. No person who owns, directly or indirectly, at the time of the granting of an incentive stock option, more than 10% of the total combined voting power of all classes of our stock is eligible to receive incentive stock options under the Plan unless the stock option price is at least 110% of the fair market value of the common stock subject to the stock option on the date of grant.

 
F-17

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

No incentive stock options may be transferred by an optionee other than by will or the laws of descent and distribution, and, during the lifetime of an optionee, the stock option may only be exercisable by the optionee. Except as otherwise determined by the Board of Directors, stock options may be exercised only if the stock option holder remains continuously associated with us from the date of grant to the date of exercise. The exercise date of a stock option granted under the Plan may not be later than ten years from the date of grant. Any stock options that expire unexercised or that terminate upon an optionee's ceasing to be employed by us will become available once again for issuance. Shares issued upon exercise of a stock option will rank equally with other shares then outstanding. No stock options will be granted by us at an exercise price less than 85% of the fair market value of the stock underlying the option on the date the option is granted.  During the years ended March 31, 2011 and 2010 there were options granted to purchase up to 895,000 and 340,000, respectively, shares of common stock and there were no options exercised.  During the year ended March 31, 2011, options to purchase up to 594,000 shares of common stock were cancelled as a result of their reaching the expiration date.
 
A summary of the status of the options granted under the Company’s 2000 stock option plan at March 31, 2011 and 2010, and changes during the years then ended is presented below:

   
Options
       
         
Weighted
   
Weighted
 
         
Average
   
Average
 
         
Exercise
   
Fair
 
   
Shares
   
Price
   
Value
 
                   
Outstanding, April 1, 2009
    1,249,000     $ 1.49        
Granted
    340,000     $ 0.42     $ 0.23  
Cancelled
    -       -          
Exercised
    -       -          
Outstanding, March 31, 2010
    1,589,000     $ 1.49          
Granted
    895,000     $ 0.38     $ 0.24  
Cancelled
    (594,000 )   $ 2.04          
Exercised
    -       -          
Outstanding, March 31, 2011
    1,890,000     $ 0.60          
                         
Exercisable, March 31, 2010
    1,469,000     $ 1.34          
Exercisable, March 31, 2011
    1,442,500     $ 0.67          
 
 
F-18

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010
 
A summary of the status of the options granted under the stock option plan at March 31, 2011, are presented in the table below:

     
Outstanding
   
Exercisable
 
           
Weighted
                   
           
Average
   
Weighted
         
Weighted
 
Range of
         
Remaining
   
Average
         
Average
 
Exercise
   
Number
   
Contractual
   
Exercise
   
Number
   
Exercise
 
Prices
   
Outstanding
   
Life
   
Price
   
Exercisable
   
Price
 
                                 
Options
                               
                                 
$ 0.31       240,000       3.19     $ 0.31       240,000     $ 0.31  
$ 0.38       895,000       4.39     $ 0.38       447,500     $ 0.38  
$ 0.65-0.70       405,000       2.58     $ 0.66       405,000     $ 0.66  
$ 1.30       350,000       1.09     $ 1.30       350,000     $ 1.30  
          1,890,000       3.24     $ 0.60       1,442,500     $ 0.67  

NOTE 12 -  INCOME TAXES

At March 31, 2011 and 2010, the total of all deferred tax assets was approximately $2,330,800 and $957,400, respectively. There are no deferred tax liabilities for either year.

The temporary differences gave rise to the following deferred tax asset:

   
March 31,
 
   
2011
   
2010
 
             
Excess of financial accounting  over tax depreciation
  $ 33,700     $ 24,600  
State income tax benefits
    574,100       293,000  
Net operating loss carryforward
    1,511,400       435,300  
Allowance for obsolete inventory
    62,500       59,700  
Allowance for bad debts, returns and discounts
    57,000       54,200  
Research and development credit carryforwards
    73,900       73,900  
Charitable contribution carryforwards
    9,900       6,900  
Vacation accrual
    8,300       9,800  
Net deferred tax asset
  $ 2,330,800     $ 957,400  
 
 
F-19

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010
The reconciliation of income tax from continuing operations computed at the U.S. federal statutory tax rate to our effective rate is as follows for the year ended:
 
   
March 31,
 
   
2011
   
2010
 
             
Federal income tax benefit computed at the Federal statutory rate
  $ (1,203,900 )   $ (375,600 )
State income tax expense benefit net of Federal benefit
    (283,400 )     (83,300 )
Other- permanent differences
    113,900       51,200  
                 
Income tax benefit
  $ (1,373,400 )   $ (407,700 )

The components of federal income tax benefit from continuing operations consisted of the following for the year ended:

   
March 31,
 
   
2011
   
2010
 
             
Current income tax expense (benefit):
           
Federal
  $ -     $ -  
State
    -       -  
                 
Net current tax expense (benefit)
  $ -     $ -  
                 
Deferred tax expense (benefit) resulted from:
               
Difference between financial and tax depreciation
  $ (9,100 )   $ (10,100 )
State income tax benefits
    (281,000 )     (77,600 )
Net operating (loss) income
    (1,076,100 )     (278,000 )
Research and development credits
    -       (3,800 )
Allowance for obsolete inventory
    (2,800 )     (600 )
Charitable contributions
    (3,000 )     (6,900 )
Vacation accrual
    1,400       (800 )
Allowance for bad debts, returns and discounts
    (2,800 )     (29,900 )
                 
Net deferred tax benefit
  $ (1,373,400 )   $ (407,700 )
                 
    $ (1,373,400 )   $ (407,700 )

Deferred income tax benefit results primarily from the reversal of temporary timing differences between tax and financial statement income.

At March 31, 2011, the Company has net operating loss carry forwards for income tax reporting purposes of approximately $4,445,300 and $6,396,900 available to offset future federal and California taxable income, respectively. Based on current tax law, the Company’s federal net operating loss carry forward will begin to expire in the year ending March 31, 2029 and the state net operating loss carry forward will begin to expire in the year ending March 31, 2018.

 
F-20

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

We periodically evaluate the likelihood of the realization of deferred tax assets, and adjust the carrying amount of the deferred tax assets by the valuation allowance to the extent the future realization of the deferred tax assets is not judged to be more likely than not. We consider many factors when assessing the likelihood of future realization of our deferred tax assets, including our recent cumulative earnings experience by taxing jurisdiction, expectations of future taxable income or loss, the carry forward periods available to us for tax reporting purposes, and other relevant factors.

At March 31, 2011, based on the weight of available evidence, including current year taxable income and expectations of future taxable income, the Company determined that it was more likely that its deferred tax assets would be realized and has not recorded a valuation allowance associated with its deferred tax assets.

The Company has adopted ASC No. 740.  This statement requires an asset and liability approach for accounting for income taxes and prescribes a comprehensive model of how a company should recognize, measure, present, and disclose in its financial statements uncertain tax positions that the company has taken or expects to take on a tax return.  ASC No. 740 states that a tax benefit from an uncertain position may be recognized if it is "more likely than not" that the position is sustainable, based upon its technical merits. The tax benefit of a qualifying position is the largest amount of tax benefit that is greater than 50 percent likely of being realized upon ultimate settlement with a taxing authority having full knowledge of all relevant information.
 
Upon adoption of ASC No. 740, there was no impact to the Company's consolidated financial statements.  The Company estimates that the unrecognized tax benefit will not change significantly within the next twelve months.  The Company will continue to classify income tax penalties and interest as part of general and administrative expense in its statements of operations.  Accrued interest on uncertain tax positions is not significant.  There are no penalties accrued as of March 31, 2011.  The following table summarizes the open tax years for each major jurisdiction:

   
Open Tax
Jurisdiction
 
Years
Federal
 
2008 – 2011
California
 
2008 – 2011

As the Company has significant net operating loss carry forwards, even if certain of the Company’s tax positions were disallowed, it is not foreseen that the Company would have to pay any taxes in the near future. Consequently, the Company does not calculate the impact of interest or penalties on amounts that might be disallowed.

 
F-21

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

NOTE 13 –   EARNINGS PER SHARE

The following data show the amounts used in computing earnings per share of common stock for the period presented:

   
For the Year Ended
 
   
March 31,
 
   
2011
   
2010
 
             
Loss available to common shareholders (Numerator)
  $ (2,167,594 )   $ (697,104 )
                 
Weighted average number of common shares outstanding used in basic income per share during the period (Denominator)
    11,686,135       11,010,788  
                 
Weighted average number of common shares outstanding used in diluted income per share during the period (Denominator)
    11,686,135       11,010,788  

Basic loss per common share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding during each period.  Diluted income per share is computed by dividing net income by the weighted-average number of common shares and common equivalent shares outstanding during each period.  Common equivalent shares include stock options and warrants using the treasury stock method.  For periods which include a loss, the computation of diluted loss per share excludes the impact of stock options and warrants because they would be antidilutive and diluted loss per share is therefore the same as basic loss per share.

NOTE 14 –    CONCENTRATIONS

Sales

During the year ended March 31, 2011, we had two significant customers which accounted for 54% and 14% of sales.

During the year ended March 31, 2010, we had two significant customers which accounted for 42% and 15% of sales.

Supplier

We also have a single source and exclusive supplier arrangement with the supplier of a specific raw material, which is used as part of products which account for approximately 69% of our sales.  The interruption of raw materials provided by this supplier or the loss of a significant customer would adversely affect our business and financial condition.

 
F-22

 

IMAGENETIX, INC.
Notes to the Consolidated Financial Statements (Continued)
March 31, 2011 and 2010

During the year ended March 31, 2011, we had four significant vendors who accounted for 25%, 16%, 11% and 10% of cost of sales.

During the year ended March 31, 2010, we had three significant vendors who accounted for 13%, 12% and 10% of cost of sales.

Accounts Receivable

At March 31, 2011, we had two customers which accounted for 44% and 37% of our accounts receivable balances.

At March 31, 2010, we had three customers which accounted for 48%, 21%, and 10% of our accounts receivable balances.

NOTE 15 - FAIR VALUE OF FINANCIAL INSTRUMENTS

In January 2010, the Financial Accounting Standards Board (FASB) issued authoritative guidance for fair value measurements, which requires additional disclosures and clarifications to existing disclosures. This authoritative guidance requires a reporting entity to disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 investments and describe the reasons for these transfers. This authoritative guidance also requires enhanced disclosure of activity in Level 3 investments. The new disclosures and clarifications of existing disclosures became effective for Imagenetix in the first quarter of fiscal year 2011 and had no impact on our consolidated financial position, results of operations or cash flows.

NOTE 16 –    LITIGATION SETTLEMENT

In September 2009, we entered into an agreement with a company whereby they bought out the remaining order commitments under a supply agreement.  As part of the buyout agreement, we agreed to a one-time payment of $1,250,000 to satisfy their purchase commitments which were scheduled to continue through May 2013.  Also, as part of the agreement, we were not required to ship any product.  The negotiated amount was reflected as other income during the year ended March 31, 2010.  In April 2010, the Company settled a dispute with a sales distributor involved in this transaction by agreeing to pay $82,000 to the distributor over a six month period.  The $82,000 was recorded as a charge against settlement income during the fiscal year ended March 31, 2010.

NOTE 17 –   SUBSEQUENT EVENT

In May 2011, we entered into a promissory note with one institutional investor for $700,000 which is secured by certain intellectual property.

 
F-23

 
 
SIGNATURES
 
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 
IMAGENETIX, INC.
 
 
a Nevada corporation
 
     
 
By
: /s/ WILLIAM P. SPENCER
 
   
William P. Spencer
 
   
Chief Executive Officer
 

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated:

Signature
 
Title
 
Date
         
 /s/ WILLIAM P. SPENCER
 
Chief Executive Officer,
 
July 11, 2011
William P. Spencer
 
President and Director
   
         
/s/ BARRY S. KING
 
Director
 
July 11, 2011
Barry S. King
       
         
/s/ JEFFREY G. MC GONEGAL
 
Director
 
July 11, 2011
Jeffrey G. McGonegal
       
         
/s/ ROBERT BURG
 
Director
 
July 11, 2011
Robert Burg
       
         
/s/ WILLAIM A. TOOMEY
 
Director
 
July 11, 2011
William A. Toomey
       
         
/s/ LOWELL W. GIFFHORN
 
Chief Financial Officer (Principal
 
July 11, 2011
Lowell W. Giffhorn
  
Accounting Officer)