5
Human Pheromone Sciences, Inc.
Notes to Financial Statements
(unaudited)
September 30, 2010
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization and Nature of Operations
The Company, a California corporation, was founded in 1989 as EROX Corporation to develop and market a broad range of consumer products containing human pheromones as a component. On May 29, 1998, the shareholders of the Company voted to change the name of the Company to Human Pheromone Sciences, Inc. Human Pheromone Sciences, Inc. is alternatively referred to in this report as “we,” “us,” “our,” or the “Company”.
The Company believes that human pheromones and other naturally-occurring compounds, identified, tested and funded by the Company, create unique product development and marketing opportunities for consumer product companies. Product categories include, but are not limited, to fragrances, toiletry and consumer products, as well as other types of consumer products that do not require Food and Drug Administration (“FDA”) approval as pharmaceutical products. The Company believes that its related patents provide it a proprietary position in developing, licensing and marketing such products.
Basis of Presentation
The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and nine months ended September 30, 2010 are not necessarily indicative of the results that may be expected for the calendar year ending December 31, 2010. For further information, refer to the financial statements and footnotes thereto included in the Company’s annual report on Form 10-K for the year ended December 31, 2009.
Management’s Plans
The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. The Company has incurred net losses of $55,000 in the three months ended September 30, 2010, $62,000 in the three months ended June 30, 2010, $98,000 in the three months ended March 31, 2010, and $284,000 and $239,000 for the years ended December 31, 2009 and 2008, respectively. In addition, the Company has used cash in operations of $315,000 in the nine months ended September 30, 2010, and $557,000 and $530,000 for the years ended December 31, 2009 and 2008, respectively. As of September 30, 2010, the Company had a shareholders equity deficit of $157,000; cash and accounts receivable of $164,000 and no long-term debt.
Based on the Company’s current operating plans, management believes that the Company’s existing cash resources and cash forecasted by management to be generated by operations will be sufficient to meet working capital and capital requirements through December 31, 2010. In this regard, the Company must be successful in its current licensing of its compounds or raise additional operating capital to fund continuing operations and support the further development of identified compounds. The Company has been working to secure the financing to continue with on-going operations however, the Company may not be successful with its plans. If events and circumstances occur such that the Company does not meet its current operating plans, the Company is unable to raise sufficient additional equity or debt financing, the Company may be required to further reduce expenses or take other steps which could have a material adverse effect on its future performance, including but not limited to, the premature sale of some or all of its assets or product lines on undesirable terms, merger with or acquisition by another company on unsatisfactory terms, or the cessation of operations.
6
These factors raise a substantial doubt about the Company’s ability to continue as a going concern. The accompanying financial statements have been prepared on a going concern basis that contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The financial statements do not include adjustments relating to the recoverability of recorded asset amounts or the amounts or classification of liabilities that might be necessary should the Company be unable to continue as a going concern.
Use of Estimates
The preparation of the financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.
Revenue Recognition
Revenue is recorded at the time of merchandise shipment, net of provisions for returns. The Company records revenue from sales initiated by sales agents, net of the sales commissions earned, following the interpretative guidance provided by FASB Accounting Standards Codification (ASC) Topic 605 – Revenue Recognition. License fees are earned over the license period according to the terms of the license agreement and interpretative guidance provided by ASC 605
.
The Company records multiple-element arrangements in accordance with ASC 605-25
Revenue Arrangements with Multiple Deliverables
.
Multiple-element arrangements are assessed to determine whether they can be separated into more than one unit of accounting. A multiple-element arrangement is separated into more than one unit of accounting if all of the following criteria are met.
● The delivered items or service has value to the customer on a stand alone basis.
● There is objective and reliable evidence of the fair value of the undelivered items or service.
● The delivery or performance of the undelivered items or service is considered probable and substantially in our control.
If these criteria are not met, then revenues are deferred until such criteria are met or until the period(s) over which the last undelivered element is delivered. If there is objective and reliable evidence of fair value for all units of accounting in an arrangement, the consideration is allocated to the separate units of accounting based on each unit’s relative fair value.
The Company’s agreement with Personal Products Company (hereinafter referred to as “PPC”) represents a multiple-element arrangement and includes post signing consulting support to PPC as needed to assist them in claims development and manufacturing processes, an exclusive right of first discussion for new compounds that the Company develops and for which we document supportable claims of effectiveness, and an exclusive right to our existing patented compounds in specific consumer product fields. A portion of the initial payment received as part of the PPC agreement is being recognized as the Company incurs expenses and expends resources towards fulfilling the obligations to PPC, based on guidance provided by ASC 605-25.
The PPC agreement was entered into on August 18, 2006 and will expire when the initial patents on the licensed technology expire, in March 2012. For the services and rights granted in the agreement, the Company received an initial payment of $1,750,000 in September 2006 and would earn royalties on any products developed and sold by PPC until the patents expire. The Company records revenue for the consulting services and right of first discussions as the Company incurs expenses and expends resources towards fulfilling its obligations to PPC. License revenue is being recognized on a straight-line basis over the life of the agreement of sixty-seven months and when periodic direct costs are incurred to maintain the license. The Company began recognizing revenue from all three units during the quarter ending September 30, 2006.
7
A summary of the revenue recognized for these multiple units of accounting follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ending
September 30,
|
|
|
Nine months ending
September 30,
|
|
|
|
|
2010
|
|
|
2009
|
|
|
2010
|
|
|
2009
|
|
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
Right of first discussion
|
|
$
|
18
|
|
$
|
30
|
|
$
|
18
|
|
$
|
105
|
|
Exclusive license
|
|
|
32
|
|
|
35
|
|
|
118
|
|
|
121
|
|
Consulting services
|
|
|
8
|
|
|
2
|
|
|
8
|
|
|
4
|
|
Total
|
|
$
|
58
|
|
$
|
67
|
|
$
|
144
|
|
$
|
230
|
The deferred revenue from the PPC license agreement as of September 30, 2010 was $190,000.
The Company has granted two additional license agreements for the development, manufacture, sale and distribution of consumer personal care products using the Company’s patented technology. License fees received and attributed to these agreements are being recognized on a straight-line basis over the initial life of the license periods ranging from fifteen to thirty-six months.
A summary of the revenue recognized from these additional licenses and royalty revenues follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ending
September 30,
|
|
|
Nine months ending
September 30,
|
|
|
|
|
2010
|
|
|
2009
|
|
|
2010
|
|
|
2009
|
|
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
Royalty revenues
|
|
$
|
69
|
|
$
|
142
|
|
$
|
219
|
|
$
|
197
|
|
License fee
|
|
|
4
|
|
|
8
|
|
|
18
|
|
|
13
|
|
Total
|
|
$
|
73
|
|
$
|
150
|
|
$
|
237
|
|
$
|
210
|
The deferred revenue from these licenses has been completely recognized as of September 30, 2010.
Inventories
Inventories are stated at the lower of cost (first in - first out method) or market. A summary of inventories follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010
|
|
|
|
|
|
|
|
(unaudited)
|
|
|
December 31, 2009
|
|
Components (raw materials)
|
|
$
|
26
|
|
$
|
51
|
|
Finished goods
|
|
|
4
|
|
|
7
|
|
Total
|
|
$
|
30
|
|
$
|
58
|
Earnings (Loss) Per Share
The Company follows the provisions of SFAS No. 128,
Earnings Per Share
. SFAS No. 128 provides for the calculation of “Basic” and “Diluted” earnings per share. Basic earnings (loss) per share is computed using the weighted-average number of common shares outstanding. Diluted earnings (loss) per share is computed using the weighted-average number of common shares and dilutive common shares outstanding during the period. For the three months ended September 30, 2010 options to purchase 900,000 shares of common stock were excluded from the computation of diluted earnings per share since their effect would be antidilutive. For the nine months ended September 30, 2010 and 2009, options to purchase 906,000 and 862,000 shares of common stock, respectively, were excluded from the computation of diluted earnings per share since their effect would be antidilutive.
8
As of September 30, 2010 and 2009, the unaudited components of basic and diluted earnings per share are as follows (in thousands):
A summary of the non-vested options activity under the Nonstatutory Stock Option Agreements is as follows (in thousands except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nonstatutory Stock Options
Non-vested Options
|
|
|
Three months ending September 30, 2010
|
|
|
Nine months ending
September 30, 2010
|
|
|
|
|
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
Outstanding, beginning of period
|
|
|
-
|
|
$
|
-
|
|
|
18
|
|
$
|
0.45
|
|
Options Granted
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Vested
|
|
|
-
|
|
|
-
|
|
|
(18)
|
|
$
|
0.45
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding, September 30, 2010
|
|
|
-
|
|
$
|
-
|
|
|
-
|
|
$
|
-
|
Non-Employee Directors’ Stock Option Plan (Directors’ Plan)
In June 1993, the Company’s Board of Directors adopted a Non-Employee Directors’ Stock Option Plan (“Directors’ Plan”) covering a total of 158,333 shares of common stock, which provides for a one-time automatic grant of options to purchase 8,333 shares of common stock upon director’s election to the board and annual grants thereafter of options to purchase 3,333 shares of common stock to each non-employee director at an exercise price equal to the fair market value of the stock on the date of grant. This Directors’ Plan has expired, but stock options issued under this Directors’ Plan are still outstanding.
10
A summary of the activity under the Directors’ Plan is as follows (in thousands except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Directors’ Plan
|
|
|
Three months ending
September 30, 2010
|
|
|
Nine months ending
September 30, 2010
|
|
|
|
|
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
Outstanding, beginning of period
|
|
|
20
|
|
$
|
0.33
|
|
|
30
|
|
$
|
0.62
|
|
Options Granted
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Canceled or Expired
|
|
|
-
|
|
|
-
|
|
|
(10)
|
|
$
|
1.19
|
|
Outstanding, September 30, 2010
|
|
|
20
|
|
$
|
0.33
|
|
|
20
|
|
$
|
0.33
|
At September 30, 2010, no shares of the Company’s common stock were reserved for future grants under the Directors’ Plan, and options to purchase 20,000 shares were exercisable, at a weighted average exercise price of $0.33.
2003 Non-Employee Directors’ Stock Option Plan
On June 25, 2003, the Board of Directors adopted the 2003 Non-Employee Directors’ Stock Option Plan (the “2003 Plan”). On June 20, 2007 the Board increased the maximum number of authorized shares of common stock which may be issued on exercise of the options granted pursuant to the 2003 Plan from 300,000 shares to 600,000 shares. The 2003 Plan expired on June 24, 2010. This plan replaces the Directors’ Plan which expired on June 13, 2003. The 2003 Plan provides for annual grants of options to purchase 20,000 shares of common stock to each non-employee director at an exercise price equal to the fair market value of the stock on the date of the grant.
A summary of the activity under the 2003 Plan is as follows (in thousands except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2003 Plan
|
|
Three months ending
September 30, 2010
|
|
|
Nine months ending
September 30, 2010
|
|
|
|
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
Outstanding, beginning of period
|
|
480
|
|
$
|
0.44
|
|
|
480
|
|
$
|
0.44
|
|
Options Granted
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Canceled or Expired
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Outstanding, September 30, 2010
|
|
480
|
|
$
|
0.44
|
|
|
480
|
|
$
|
0.44
|
At September 30, 2010, 120,000 no shares of the Company’s common stock were reserved for future grants under the expired 2003 Plan, and options to purchase 480,000 shares were exercisable, at a weighted average exercise price of $0.44.
A summary of the non-vested options activity under the 2003 Plan is as follows (in thousands except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2003 Plan
Non-vested Options
|
|
Three months ending
September 30, 2010
|
|
|
Nine months ending
September 30, 2010
|
|
|
|
Shares
|
|
|
Weighted Average Exercise Price
|
|
|
Shares
|
|
|
Weighted Average Exercise Price
|
|
Outstanding, beginning of period
|
|
-
|
|
$
|
-
|
|
|
40
|
|
$
|
0.21
|
|
Options Granted
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
Vested
|
|
-
|
|
|
-
|
|
|
(40)
|
|
$
|
0.21
|
|
Outstanding, September 30, 2010
|
|
-
|
|
$
|
-
|
|
|
-
|
|
$
|
-
|
11
Income Taxes
A provision for income taxes for the three month period ended September 30, 2010 was recorded for minimum tax liabilities incurred.
The Company believes that all of its tax positions are sustainable and that no significant adjustment to its unrecognized tax benefits is expected. The majority of the unrecognized tax benefits relate to positions where only the timing of a deduction item is in question. Such liabilities are offset by deferred tax assets and the only effect on the Company's statements of operations relates to the interest accrued on such liabilities.
2. SEGMENT INFORMATION
Sales by geographic markets for the three and nine months ended September 30, 2010 and 2009 were as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ending
September 30,
|
|
Nine months ending
September 30,
|
|
|
|
2010
|
|
2009
|
|
2010
|
|
2009
|
|
|
|
(unaudited)
|
|
(unaudited)
|
|
(unaudited)
|
|
(unaudited)
|
|
Markets:
|
|
|
|
|
|
|
|
|
|
U.S. markets
|
$
|
63
|
$
|
21
|
$
|
143
|
$
|
108
|
|
International markets
|
|
16
|
|
35
|
|
57
|
|
114
|
|
Net product revenue
|
|
79
|
|
56
|
|
200
|
|
222
|
|
|
|
|
|
|
|
|
|
|
|
License revenue (worldwide)
|
|
131
|
|
217
|
|
381
|
|
440
|
|
|
|
|
|
|
|
|
|
|
|
Net sales
|
$
|
210
|
$
|
273
|
$
|
581
|
$
|
662
|
3. NEW ACCOUNTING PRONOUNCEMENTS
The Company has reviewed the recently issued Accounting Standard Updates and have determined that none of the recent pronouncements are currently applicable to the Company and therefore they are not anticipated to have a material effect on the financial position or results of operations of the Company. For a listing of new accounting pronouncements previously disclosed, see Form 10-K for the year ended December 31, 2009.
Item 2
.
Management’s Discussion and Analysis of Financial Conditions and Results of Operations
This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Except for the historical information contained in this discussion and analysis of financial condition and results of operations, the matters discussed herein are forward-looking statements. These forward-looking statements include but are not limited to the Company’s requirement this year for additional working capital to fund continuing operations. These matters involve risks and uncertainties that could cause actual results to differ materially from the statements made. In addition to the risks and uncertainties described in “Risk Factors” in our annual report
on Form 10-K for the year ended December 31, 2009, these risks and uncertainties may include consumer trends, business cycles, scientific developments and the ability to obtain additional working capital or successfully complete financing to support continuing operations. These and other factors may cause actual results to differ materially from those anticipated in forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof.
12
CRITICAL ACCOUNTING POLICIES
The Company’s discussion and analysis of its financial conditions and results of operations are based upon financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses and disclosures on the date of the financial statements. On an on-going basis, we evaluate our estimates, including, but not limited to, those related to revenue recognition and license fees. We use authoritative pronouncements, historical experience and other assumptions as the basis for making judgments. Actual results could differ from those estimates. We believe that the following critical accounting policies affect our more significant judgments and estimates in the preparation of our financial statements.
Stock Option Policy
The Company adopted ASC 718 “
Compensation – Stock Compensation”
, for accounting for its stock options effective with the fiscal year beginning January 1, 2006. The fair value of each option granted is estimated on the date of the grant using the Black-Scholes option-pricing model. The Black-Scholes pricing model has assumptions for the risk free interest rates, dividends, stock volatility and expected life of an option grant. The risk free interest rate is based on the U.S. Treasury Bill rate with a maturity based on the expected life of the options and on the closest day to an individual stock option grant. Dividend rates are based on the Company’s dividend history. The stock volatility factor is based on the past seven years of market prices of the Company’s common stock. The expected life of an option grant is based on various factors including historical exercise rates in addition to the life of the stock option. The Company adjusts compensation expense by a forfeiture factor based on historical experience. The fair value of each option grant is recognized as compensation expense over the vesting period of the option on a straight line basis.
The Company did not record the stock compensation expense net of taxes since there was no material provision for income taxes for the period ended September 30, 2010 as the Company incurred net operating losses for which no benefit was recognized, or utilized tax loss carryforwards. The tax benefit is a component of the deferred tax asset disclosed under the heading “Income Taxes” below.
Use of Estimates
The preparation of the financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.
Revenue Recognition
Revenue is recorded at the time of merchandise shipment, net of provisions for returns. The Company records revenue from sales initiated by sales agents, net of the sales commissions earned, following the interpretative guidance provided by FASB Accounting Standards Codification (ASC) Topic 605 – Revenue Recognition. License fees are earned over the license period according to the terms of the license agreement and interpretative guidance provided by ASC 605
.
The Company records multiple-element arrangements in accordance with ASC 605-25
Revenue Arrangements with Multiple Deliverables
.
Multiple-element arrangements are assessed to determine whether they can be separated into more than one unit of accounting. A multiple-element arrangement is separated into more than one unit of accounting if all of the following criteria are met.
● The delivered items or service has value to the customer on a stand alone basis.
● There is objective and reliable evidence of the fair value of the undelivered items or service.
● The delivery or performance of the undelivered items or service is considered probable and substantially in our control.
If these criteria are not met, then revenues are deferred until such criteria are met or until the period(s) over which the last undelivered element is delivered. If there is objective and reliable evidence of fair value for all units of accounting in an arrangement, the consideration is allocated to the separate units of accounting based on each unit’s relative fair value.
13
The Company’s agreement with Personal Products Company (hereinafter referred to as “PPC”) represents a multiple-element arrangement and includes post signing consulting support to PPC as needed to assist them in claims development and manufacturing processes, an exclusive right of first discussion for new compounds that the Company develops and for which we document supportable claims of effectiveness, and an exclusive right to our existing patented compounds in specific consumer product fields. A portion of the initial payment received as part of the PPC agreement is being recognized as the Company incurs expenses and expends resources towards fulfilling the obligations to PPC, based on guidance provided by ASC 605-25.
The PPC agreement was entered into on August 18, 2006 and will expire when the initial patents on the licensed technology expire, in March 2012. For the services and rights granted in the agreement, the Company received an initial payment of $1,750,000 in September 2006 and would earn royalties on any products developed and sold by PPC until the patents expire. The Company records revenue for the consulting services and right of first discussions as the Company incurs expenses and expends resources towards fulfilling its obligations to PPC. License revenue is being recognized on a straight-line basis over the life of the agreement of sixty-seven months and when periodic direct costs are incurred to maintain the license. The Company began recognizing revenue from all three units during the quarter ending September 30, 2006.
A summary of the revenue recognized for these multiple units of accounting follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ending
September 30,
|
|
|
Nine months ending
September 30,
|
|
|
|
|
2010
|
|
|
2009
|
|
|
2010
|
|
|
2009
|
|
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
Right of first discussion
|
|
$
|
18
|
|
$
|
30
|
|
$
|
18
|
|
$
|
105
|
|
Exclusive license
|
|
|
32
|
|
|
35
|
|
|
118
|
|
|
121
|
|
Consulting services
|
|
|
8
|
|
|
2
|
|
|
8
|
|
|
4
|
|
Total
|
|
$
|
58
|
|
$
|
67
|
|
$
|
144
|
|
$
|
230
|
The deferred revenue from the PPC license agreement as of September 30, 2010 was $190,000.
The Company has granted two additional license agreements for the development, manufacture, sale and distribution of consumer personal care products using the Company’s patented technology. License fees received and attributed to these agreements are being recognized on a straight-line basis over the initial life of the license periods ranging from fifteen to thirty-six months.
A summary of the revenue recognized from these additional licenses and royalty revenues follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ending
September 30,
|
|
|
Nine months ending
September 30,
|
|
|
|
|
2010
|
|
|
2009
|
|
|
2010
|
|
|
2009
|
|
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
Royalty revenues
|
|
$
|
69
|
|
$
|
142
|
|
$
|
219
|
|
$
|
197
|
|
License fee
|
|
|
4
|
|
|
8
|
|
|
18
|
|
|
13
|
|
Total
|
|
$
|
73
|
|
$
|
150
|
|
$
|
237
|
|
$
|
210
|
The deferred revenue from these licenses has been completely recognized as of September 30, 2010.
Inventories
Inventories are stated at the lower of cost (first in - first out method) or market. A summary of inventories follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010
|
|
|
|
|
|
|
|
(unaudited)
|
|
|
December 31, 2009
|
|
Components (raw materials)
|
|
$
|
26
|
|
$
|
51
|
|
Finished goods
|
|
|
4
|
|
|
7
|
|
Total
|
|
$
|
30
|
|
$
|
58
|
14
Income Taxes
The Company accounts for income taxes under ASC 740 “
Accounting for Income Taxes
”. Deferred tax assets are recognized for deductible temporary differences and operating loss and tax credit carryforwards, and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities in the Company’s financial statements and their tax bases. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that all or some portion of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.
When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that would ultimately be sustained. The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more-likely-than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any. The evaluation of a tax position taken is considered by itself and not offset or aggregated with other positions. Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority. The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above is reflected as a liability for unrecognized tax benefits in the accompanying balance sheet along with any associated interest and penalties that would be payable to the taxing authorities upon examination.
Interest and penalties associated with unrecognized tax benefits are classified as interest expense and additional income taxes in the statements of operations.
COMPANY OVERVIEW
The Company is engaged in the research, development, manufacturing and marketing of consumer products containing synthetic human pheromones and other mood enhancing compounds. The Company initiated commercial operations in late 1994 with a line of fine fragrances and toiletries. Licensing of the Company’s technology is currently the core business of the Company while the Company directly manages the on-going development of identified compounds for potential new products. The Company’s patented compounds are sold to licensed customers and included as components in their fragranced consumer products. The Company also offers private label manufacturing services for third party consumer product licensees. The Company has been unable to sustain profitability and will need additional financing to support our operations. The Company is looking at all sources of funding, raising capital, financing, asset sales and potential merger with desirable companies.
Results of Operations
Net revenue for the three months ended September 30, 2010 and 2009 were as follows (in thousands):
|
|
|
|
|
|
|
|
Three months ending September 30,
|
|
|
|
2010
|
|
2009
|
|
|
|
(unaudited)
|
|
(unaudited)
|
|
Net product revenue by markets:
|
|
|
|
|
|
U.S. markets
|
$
|
63
|
$
|
21
|
|
International markets
|
|
16
|
|
35
|
|
Net product revenue
|
|
79
|
|
56
|
|
|
|
|
|
|
|
License revenue (worldwide)
|
|
131
|
|
217
|
|
|
|
|
|
|
|
Net Revenues
|
$
|
210
|
$
|
273
|
15
Net revenues for the three months ended September 30, 2010 were $210,000, a $63,000 decrease from the net revenues of $273,000 for the three months ending September 30, 2009. Domestic net revenues for the three months ended September 30, 2009 were $63,000, a $42,000 increase from the domestic net revenues of $21,000 for the three months ended September 30, 2009. The increase in domestic revenues is primarily attributable to the timing of reorders from a U.S. licensee. International net revenues for the three months ended September 30, 2010 of $16,000 were $19,000 less than the $35,000 of international net revenues for the three months ended September 30, 2009 which is due to a timing variance of orders from a single licensee. Neither the domestic nor international customers’ purchasing patterns are on a seasonal or cyclical pattern which results in inconsistent revenue.
License revenues for the three months ended September 30, 2010 and 2009 were $131,000 and $217,000, respectively, a decrease of $86,000 or 40%. The decreased license revenue is primarily due to the initial product launch royalties earned from a body wash product which were $69,000 higher in the three months ended September 30, 2009 than in the three months ended September 30, 2010.. The PPC license revenues totaled $58,000 in the three months ending September 30, 2010, compared to $67,000 in the three months ending September 30, 2009. PPC license revenues in the three months ending September 30, 2009 consisted of $18,000 for first discussion work, $32,000 from license fee amortization and $8,000 for consulting services. In the three months ending September 30, 2009 the PPC license revenues consisted of $30,000 for first discussion work, $35,000 from license fee amortization and $2,000 for consulting services. The Company has completed all of the first discussion and consulting work and recognized the remaining deferred revenue for these services. The additional licenses produced $13,000 of license revenue for the three months ending September 30, 2010 compared to $21,000 of license revenue for the three months ended September 30, 2009.
Gross profit for the three months ended September 30, 2009 of $165,000 is 30% less than the gross profit of $236,000 for the three months ended September 30, 2009. As a percentage of revenue, gross profit of 79% for the three months ended September 30, 2010 was less than gross profit of 86% for the three months ended September 30, 2009. Gross margin on product sales decreased to 41% for the three months ended September 30, 2010 from 73% for the three months ended September 30, 2009. The reductions were due to a higher percentage of sales to royalty based customers in the current quarter. The decrease in the total gross margin was due to the lower revenue earned due to timing and the launch of a new product line in 2009 which did not occur in 2010.
|
|
|
|
|
|
|
|
|
|
|
Three months ending September 30,
|
|
|
|
|
2010
|
|
|
2009
|
|
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
Gross Profit by Revenue Type:
|
|
|
|
|
|
|
|
Net product gross profit
|
|
$
|
33
|
|
$
|
41
|
|
License gross profit
|
|
|
132
|
|
|
195
|
|
Total Gross Profit
|
|
$
|
165
|
|
$
|
236
|
Research and development expenses for the three months ended September 30, 2009 and 2009 were $7,000 and $17,000, respectively. Research expenditures have been curtailed, to the extent possible, until the Company’s liquidity issues have been resolved. Research expenditures of $18,000 that were incurred for the three months ended September 30, 2009 to support the PPC license have been charged as cost of goods sold. The total research and development costs incurred for the quarters, including the amount recorded as cost of goods sold, were $7,000 for the three months ended September 30, 2010, which was $28,000 less than the $35,000 incurred for the three months ended September 30, 2009. Decreased consultant costs accounted for the reduced total research and development spending.
Selling, general and administrative expenses for the three months ended September 30, 2009 of $213,000 are $4,000 higher than the selling general and administrative expenses of $209,000 incurred for the three months ended September 30, 2009. Selling, marketing and distribution expenses were consistent with the prior year and general and administrative and facility costs increased by $3,000. The slight increase in costs is the result of increased legal and insurance costs which were partially offset by reductions in salaries and benefit and stock option compensation costs.
The Company did not record any net interest income for the three months ended September 30, 2010 or 2009.
The Company did not record a minimum tax provision for the quarters ended September 30, 2010 and 2009, due primarily to a valuation allowance on deferred tax assets being recorded and the expected utilization of net operating losses carried forward from prior years to offset any significant tax liability.
16
Nine Months ended September 30, 2010 as compared to the Nine Months ended September 30, 2009
Net revenue for the nine months ended September 30, 2010 and 2009 were as follows:
|
|
|
|
|
|
|
|
|
|
|
Nine months ending
September 30,
|
|
|
|
|
2010
|
|
|
2009
|
|
|
|
|
(unaudited)
|
|
|
(unaudited)
|
|
Net product revenue by markets:
|
|
|
|
|
|
|
|
U.S. markets
|
|
$
|
143
|
|
$
|
108
|
|
International markets
|
|
|
57
|
|
|
114
|
|
Net product revenue
|
|
|
200
|
|
|
222
|
|
|
|
|
|
|
|
|
|
License revenue (worldwide)
|
|
|
381
|
|
|
440
|
|
Net Revenues
|
|
$
|
581
|
|
$
|
662
|
Net revenue for the nine months ended September 30, 2010 was $581,000. This was a 12% decrease from net revenue of $662,000 for the nine months ended September 30, 2009.
Domestic product sales for the nine months ended September 30, 2010 of $143,000 were $35,000 more than the $108,000 for the nine months ended September 30, 2009. The increase is attributable to a higher level of reorders from existing licensees. International revenues of $57,000 for the nine months ended September 30, 2010 decreased by $57,000 as compared to the international revenue of $114,000 for the nine months ended September 30, 2009. The decrease in international sales is due to the fact that the revenue for the nine months ended September 30, 2009 included revenue an initial shipment to our Taiwan licensee that took place during the period, which will not be shipped until the fourth quarter of the current year, and slightly lower revenues from a customer in Latin America.
License revenues for the nine months ending September 30, 2010 and 2009 were $381,000 and $440,000, respectively, a decrease of $59,000 or 13%. Revenues attributable to the PPC license totaled $144,000 in the nine months ending September 30, 2010, compared to $230,000 in the nine months ending September 30, 2009, an $86,000 decrease. PPC license revenues in the nine months ending September 30, 2009 consisted of $18,000 for first discussion work, $118,000 from license fee amortization and $8,000 for consulting services. In the nine months ending September 30, 2009 the PPC license revenues consisted of $105,000 for first discussion work, $121,000 from license fee amortization and $4,000 for consulting services. The Company has completed all of the first discussion and consulting work and recognized the remaining deferred revenue for these services. The additional licenses produced $237,000 for the nine months ending September 30, 2010 compared to $210,000 of license revenue for the nine months ended September 30, 2009, an increase of $27,000, or 13%.
Gross profit for the nine months ending September 30, 2010 decreased, 21,000, or 4%, to $474,000 from $495,000 for the first nine months ended September 30, 2009. Gross margin was 82% and 75% for the nine months ended September 30, 2010 and 2009, respectively. Although net revenues decreased 12% for the first nine months of 2010 compared to 2009, gross profit decreased by 4% due to the increase in the higher gross margin from license revenue.
Gross margin on product sales decreased to 56% for the nine months ended September 30, 2010 from 66% for the nine months ended September 30, 2009. The decreased product gross profit and declining gross margin on product sales is attributable to both the decreased product sales and sales of products at a lower price that are subject to royalty payments based on the licensee sales price. Gross margin on license revenue increased to 95% for the nine months ended September 30, 2010 from 79% for the nine months ended September 30, 2009.
|
|
|
|
|
|
|
|
Nine months ending September 30,
|
|
|
|
2010
|
|
2009
|
|
|
|
(unaudited)
|
|
(unaudited)
|
|
Gross Profit by Revenue Type:
|
|
|
|
|
|
Net product gross profit
|
$
|
112
|
$
|
146
|
|
License gross profit
|
|
362
|
|
349
|
|
Total Gross Profit
|
$
|
474
|
$
|
495
|
17
Research and development expenses for the nine months ended September 30, 2010 and 2009 were $40,000 and $55,000, respectively. Research expenditures of $46,000 that were incurred in the nine months ended September 30, 2009 to support the PPC license have been charged as cost of goods sold and there were no similar expenditures made in 2010. The total research and development cost incurred for the first nine months of 2010 was $40,000 and $101,000 for the nine months in 2009. The reduction in spending is the result of reduced consultant costs due to the Company’s liquidity issue.
Selling, general and administrative expenses for the nine months ending September 30, 2010 were $647,000 and $696,000 for the nine months ended September 30, 2010, a $49,000 reduction. Selling, marketing and distribution expenses are $1,000 less than the prior year as the Company continues to focus on product licensing which is less capital intensive. General, administrative and facility costs have been reduced by $48,000 by reductions in salaries and benefits, professional fees and stock compensation recognition and other areas.
The Company had no net interest income for the nine months ended September 30, 2010 and earned $2,000 and in net interest income during the nine months ending September 30, 2009. The decreased earnings were due to lower cash balances.
The Company recorded a $2,000 and $1,000 minimum tax provision for the nine months ended September 30, 2010 and 2009, respectively, due primarily to a valuation allowance on deferred tax assets being recorded and the expected utilization of net operating losses carried forward from prior years to offset any significant tax liability.
Off-Balance Sheet Arrangements.
None.
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 2010, the Company had cash of $35,000, accounts receivable of $129,000 with no outstanding bank borrowings. At December 31, 2009, it had cash of $350,000 with no outstanding bank borrowings. For the first nine months of 2010, net cash used in on-going activities was $315,000 as compared to the prior year’s $537,000, a decrease of $222,000.
The Company’s current cash position and projected results of operations for the year 2010 requires that additional sources of funding be obtained. Unless the Company raises additional funding by debt or equity issuances, asset sales or a significant increase in product and licensing revenues accompanied by reductions in corporate spending, the Company’s current cash on hand will be insufficient to cover its working capital requirements. The Company is actively working on securing the required funding and it is not known how successful those efforts might be.
Based on the Company’s current operating plans, management believes that the Company’s existing cash resources and cash forecasted by management to be generated by operations may be sufficient to meet working capital and capital requirements through December 31, 2010. In this regard, the Company must be successful in its current licensing strategy of its compounds or raising additional operating capital to fund continuing operations and support the further development of identified compounds. The Company has been working to secure the financing to continue with on-going operations however, the Company may not be successful with its plans. If events and circumstances occur such that the Company does not meet its current operating plans, the Company is unable to raise sufficient additional equity or debt financing, the Company may be required to further reduce expenses or take other steps which could have a material adverse effect on its future performance, including but not limited to, the premature sale of some or all of its assets or product lines on undesirable terms, merger with or acquisition by another company on unsatisfactory terms, or the cessation of operations.
These factors raise a substantial doubt about the Company’s ability to continue as a going concern. The accompanying financial statements have been prepared on a going concern basis that contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The financial statements do not include adjustments relating to the recoverability of recorded asset amounts or the amounts or classification of liabilities that might be necessary should the Company be unable to continue as a going concern.
18
Item 3.
Quantitative and Qualitative Disclosures about Market Risk.
Not required for smaller reporting companies.
Item 4.
Controls and Procedures
Evaluation of Disclosure Controls and Procedures. Based on our evaluation as of the end of the period covered by this Quarterly Report on Form 10-Q, our chief executive officer and chief financial officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934) were effective.
Changes in Internal Control Over Financial Reporting. There were no changes in our internal control over financial reporting identified in connection with our evaluation that occurred during the fiscal quarter ended September 30, 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
19
PART II
OTHER INFORMATION
Item 1
.
Legal Proceedings
The Company is not party to any pending legal proceedings.
Item 1A
.
Risk Factors
Not required for smaller reporting companies.
Item 2
.
Unregistered Sales of Equity Securities and Use of Proceeds
In December 2007, the Board of Directors approved a stock repurchase program for the Company to buy back up to 400,000 shares of the Company’s common stock. No shares were repurchased in the quarter ended September 30, 2010.
Item 3.
Defaults Upon Senior Securities
None.
Item 4.
(Removed and Reserved)
Item 5.
Other Information
None.
Item 6
.
Exhibits
Exhibits
Exhibit 31.1 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act
Exhibit 31.2 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act
Exhibit 32 Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18
U.S.C. 1350
20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on behalf by the undersigned thereunto duly authorized.
HUMAN PHEROMONE SCIENCES, INC.
Date: November 12, 2010
/s
/ William P. Horgan
William P. Horgan
Chairman and Chief Executive Officer
(Principal Executive Officer)
Date: November 12, 2010
/s
/ Gregory S. Fredrick
Gregory S. Fredrick
Chief Financial Officer
(Principal Financial Officer and
Principal Accounting Officer)
21