-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, LsiUpd1Z6Dhzl+xQHibZ0YuJ9ICriW/qOwh7tcn7g0uo9U0n3bAwZUfJ2lTklYlm 4m0CaSLVqz58w1MvZ3X3Qw== 0001108890-03-000053.txt : 20030317 0001108890-03-000053.hdr.sgml : 20030317 20030317140811 ACCESSION NUMBER: 0001108890-03-000053 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 20021231 FILED AS OF DATE: 20030317 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SPECTRUM ORGANIC PRODUCTS INC CENTRAL INDEX KEY: 0001034992 STANDARD INDUSTRIAL CLASSIFICATION: CANNED, FRUITS, VEG & PRESERVES, JAMS & JELLIES [2033] IRS NUMBER: 943076294 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-22231 FILM NUMBER: 03605624 BUSINESS ADDRESS: STREET 1: 133 COPELAND ST CITY: PETALUMA STATE: CA ZIP: 94952 BUSINESS PHONE: 7077788900 MAIL ADDRESS: STREET 1: 133 STREET 2: COPELAND STREET CITY: PETALUMA STATE: CA ZIP: 94952 FORMER COMPANY: FORMER CONFORMED NAME: ORGANIC FOOD PRODUCTS INC DATE OF NAME CHANGE: 19970304 10-K 1 spectrum10k123102.txt DATED 12-31-02 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 (Mark One) [X] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended December 31, 2002 [ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from _______________ to________________ Commission File No. 333-22997 Spectrum Organic Products, Inc. -------------------------------------------- (Name of Registrant as specified in its Charter) California 94-3076294 ---------------------- -------------------- (State of incorporation) (I.R.S. Employer Identification Number) 5341 Old Redwood Highway Petaluma, California 94954 -------------------------------------- -------- (Address of principal executive offices) (Zip Code) Issuer's telephone number: (707) 778-8900 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Without Par Value Common Stock -------------- (Title of Class) Check whether the Registrant (1) 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 [ ] Check if there is no disclosure contained herein of delinquent filers pursuant to Item 405 of Regulation S-K, and will not be contained, to the best of the Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or by amendment to this Form 10-K. (|X|) As of March 10, 2003 there were 45,705,571 shares of the Registrant's common stock outstanding. As of March 10, 2003 the aggregate market value of the Registrant's no par value common stock, excluding shares held by affiliates, was $2,774,520 based upon a closing bid price of $0.31 per share of common stock on the OTC Bulletin Board System. PART I ITEM 1. BUSINESS - ---------------- Introduction Spectrum Organic Products, Inc. ("SPOP" or "the Company") competes in three main areas: natural and organic foods under the Spectrum Naturals(R) brand, essential fatty acids nutritional supplements under the Spectrum Essentials(R) brand, and industrial ingredients for use by other manufacturers sold under the Spectrum Ingredients name. The vast majority of the Company's products are oil-based and the Company has positioned itself as the good fats Company. Within the natural and organic foods category, the Company's products include olive oils and other culinary oils, salad dressings, condiments and butter-substitutes such as Spectrum Organic Margarine(R) and Spectrum Spread(R). All of the Company's culinary products feature healthy fats, contain no hydrogenated or trans fats and are offered in a variety of sizes and flavors in both organic and conventional, non-GMO offerings. Within the nutritional supplement category, the Company's products include organic flax oils, borage oil, Norwegian fish oil and other essential fatty acids in both liquid and capsule forms. The Spectrum Essentials(R) products are cold-pressed, nutritionally rich sources of Omega-3 and Omega-6 essential fatty acids and are also offered in a variety of sizes and styles. The Spectrum Ingredients(R) (formerly known as Spectrum Commodities, Inc.) product lines include organic and conventional non-GMO culinary oils, organic vinegar and nutritional oils offered to other manufacturers for use in their products. In addition, they bring incremental purchasing power to the Company resulting in higher margins for the consumer branded products. This Form 10-K contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially. Business Combination and Subsequent Divestitures The Company was formed on October 6, 1999 by the four-way reverse merger of three private companies: Spectrum Naturals, Inc. ("SNI"), its affiliate Spectrum Commodities, Inc. ("SCI") and Organic Ingredients, Inc. ("OI"), into the public company Organic Food Products, Inc. ("OFPI"). OFPI was the registrant prior to the merger, but since a controlling interest in the Company is held by former SNI stockholders, the merger was accounted for as a reverse acquisition, with SNI and SCI as acquirer and OI and OFPI as acquirees. On June 11, 2001 the Company sold the OFPI tomato-based product lines to Acirca, Inc., an unrelated third party. Accordingly, operating results for 2001 include the results associated with the OFPI disposed product lines from January 1 until the date of sale. On April 25, 2002 the Company sold the OI industrial ingredient product lines in fruits, vegetables, concentrates and purees to Acirca. Accordingly, operating results for 2002 include the operating results associated with the OI disposed product lines from January 1 until the date of sale. The two dispositions have significantly strengthened the Company from a liquidity and working capital standpoint. Additionally, the Company can now focus its resources on its core business in healthy fats, butter substitutes and essential fatty acid nutrition. - -------------------------------------------------------------------------------- Page 2 History SNI was incorporated in 1980 to bring nutrition and quality into the vegetable oil category. In the beginning natural oils were manufactured and distributed in bulk. Six years later the Spectrum Naturals(R) brand was launched. Over time SNI expanded its product lines to include condiments and salad dressings under the Spectrum Naturals(R) brand and nutritional supplements under the Spectrum Essentials(R) brand. The brands are positioned as premium, healthy alternatives to conventional products as a result of the organic sourcing of raw ingredients and the chemical-free extraction of the oils utilizing mechanical (expeller) pressing techniques. SNI has been a leading innovator in the development and marketing of expeller-pressed and certified organic vegetable oils. The Company has also been a leading proponent of testing and verifying the absence of genetically modified organisms in its culinary oils. SNI has produced and marketed canola mayonnaise since 1987, organic vinegar since 1989 and healthy fat salad dressings since 1996. Spectrum Spread(R), a healthy alternative to butter or margarine was introduced in 1993. Expanding into the nutritional supplement product category, SNI participated in areas of nutritional research and product development, becoming the first company to market organic flax oil in the United States. SNI also implemented the proprietary technologies trademarked as SpectraVac and LOCET. SpectraVac, created in 1989, is an organic method of fresh oil extraction without the use of chemicals, that eliminates the impact of oxygen, light and heat. The result is a true cold pressed nutritionally rich product. LOCET (or low oil content extraction technology), brought on line in 2000, enables the Company to extract oil from rare oil bearing nutraceuticals such as saw palmetto, evening primrose and DHA from algae. LOCET employs conventional and certified organic benign extraction methods to concentrate the lipid healing compounds in these increasingly popular nutritional supplements. In 1995 the Company formed Spectrum Commodities, Inc. to serve other natural food manufacturers with similar bulk ingredient needs. SCI's mission was to improve the integrity of ingredients used in food manufacturing. SCI offered expeller-pressed oils in place of those made with petroleum solvents. Organic and non-GMO oils are often preferred over their conventional counterparts. SCI also secured exclusive distribution rights to new products such as organic palm and coconut oils. SCI works with a distribution network that has railcar pumping stations and warehouses on both coasts. SCI provides industrial quantities of organic and expeller-pressed culinary and nutritional oils and organic vinegar to manufacturers, co-packers, private label and food service accounts, both domestically and for export. The SCI product lines are now offered for sale under the Spectrum Ingredients ("SI") name. OFPI went public in August 1997 and was traded on the NASDAQ Small Cap Market until being delisted in May 1999 due to non-compliance with the net tangible assets requirement. Since then the Company's common stock has traded on the OTC Bulletin Board System under the ticker symbol "SPOP". The Company offers its products here in the U.S. as well as internationally to natural and mainstream retailers and manufacturers. Retail products are sold in, but not limited to, stores such as Whole Foods, Wild Oats, Raley's and Trader Joe's. SPECTRUM NATURALS(R)CULINARY PRODUCT LINES The Company introduces and discontinues products on a regular basis, consistent with customary practices of other firms in the processed food industry. The Company's current culinary product lines, which include organic and Orthodox Union Certified products, include the following: Culinary Oils The Company's largest culinary product line is olive oil. SPOP markets organic and conventional extra virgin olive oil in various sizes. The Company also offers olive oils from various geographic regions including Greece, Spain, Italy and California. - -------------------------------------------------------------------------------- Page 3 SPOP also markets other refined, unrefined, blended and organic cooking oils under the Spectrum Naturals(R) brand. The other culinary oils include almond, apricot, avocado, canola, coconut, corn, peanut, grapeseed, safflower, sesame, soy, sunflower and walnut. Condiments The Company also markets condiments under the Spectrum Naturals brand name. There is both a "lite" and a regular mayonnaise made from expeller-pressed canola oil. The Company introduced the first organic mayonnaise during 2000. SPOP also markets a vinegar line that is third party certified organic which includes: apple cider, brown rice, red wine, white wine and balsamic. There is also non-organic balsamic vinegar from Modina, Italy. SPOP also markets two types of spreads for use as a healthy alternative to butter or margarine: Spectrum Naturals Canola Spread and Essential Omega Spread made with organic flax and soy oils. SPOP also introduced the first organic margarine during 2000. Salad Dressings The Company also markets organic salad dressings in full-fat, low-fat and fat free versions in various flavors and sizes. The salad dressing line also includes three Omega-3 vinaigrettes, which are functional full-fat dressings made with organic flax and soy oil to help consumers achieve recommended daily allowances of Omega-3 essential fatty acids in a tasteful product. During 2002 the Company introduced eight new flavors of dressings and dips in new packaging. Cooking Sprays There are five six-ounce cooking sprays that compete with their mass-market counterpart "Pam". The Spectrum Super Canola Spray Oil is made from high oleic canola oil and the Extra Virgin Olive Spray Oil is made from a blend of extra virgin olive oil and canola oil. Recently introduced in the six-ounce size are Canola Spray Oil with Butter Flavor, Grapeseed Spray Oil and Extra Virgin Olive Spray Oil with Garlic Flavor. There is also a 16-ounce version of the Spectrum Super Canola Spray Oil. Shortening SPOP markets a non-hydrogenated organic palm shortening that can be used in any cooking application where butter, margarine or shortening is called for. The Spectrum Naturals(R) shortening is a healthy alternative to hydrogenated shortening and partially hydrogenated oils. IQF Whole Frozen Fruits and Vegetables There are eight Individually Quick Frozen whole frozen fruits offered by the Company for sale in foodservice sizes: bananas, raspberries, strawberries, peaches, mango, papaya, blueberries and pineapple. IQF whole vegetables include peas and corn. SPECTRUM ESSENTIALS(R)NUTRITIONAL SUPPLEMENT PRODUCT LINES SPOP markets essential fatty acid nutritional supplements under the Spectrum Essentials(R) brand. The supplements are available in both liquid and capsule forms. The essential fatty acid supplement oils include Flax, Borage, Evening Primrose, Norwegian Fish and Wheat Germ oils in various sizes, flavors and blends. The Spectrum Essentials(R) brand also includes two fiber supplements for colon care. SPECTRUM INGREDIENTS PRODUCT LINES The Company offers a wide variety of certified organic and non-organic industrial ingredients to other food manufacturers, which include the following: - -------------------------------------------------------------------------------- Page 4 Culinary Oils Included in this product line are olive oils and numerous other vegetable cooking oils in both organic and conventional forms as well as refined and unrefined states. Condiments Included in this product line are vinegar, mayonnaise and spread products in both organic and conventional forms. Nutritional Oils This product line consists mainly of flax oil sold in institutional sizes and bulk capsules. PRIVATE LABEL PRODUCT LINES The private label product lines include programs for natural and organic food retailers such as Wild Oats and Tree of Life. These programs include canola oil, mayonnaise, olive oil, various fruit juices and tomato-based products. Sales and Distribution SPOP sells its consumer branded products primarily through distributors, independent commissioned food brokers and specialty food brokers to natural food and specialty food stores, retail chains and independent grocery stores. Currently SPOP products are offered in over 6,000 health food stores nationwide and 2,000 grocery stores located throughout the U.S. and in the Far East and Canada. In order to increase its distribution and sales, SPOP offers special promotional pricing and occasionally may pay "slotting fees", which are payments made by food processors and distributors to retail stores in order to acquire retail shelf space for their food products. In 2002 United Natural Foods, Inc. accounted for approximately 50% of the Company's net sales, versus 39% in 2001 and 29% in 2000. The loss of this customer would have a material adverse effect on SPOP's operations. This customer's percentage of sales continues to increase as a result of acquisitions and their overall success as the largest distributor in the organic and all-natural foods industry. The Spectrum Ingredient product lines historically have been sold to domestic food manufacturers. A broker incentive plan has been implemented based on semi-annual quotas to motivate brokers to increase their sales of SPOP products. SPOP has also entered into arrangements with certain retail store chains to obtain closer working relationships and enhanced retail merchandising and promotional support. To date the Company has focused on its core natural foods distribution network. SPOP will enter into new distribution arrangements with mass-market accounts where profitable. Management believes there is an opportunity to enter conventional supermarkets as they become more committed to providing a variety of organic and natural food products, and as consumers become more health conscious. Marketing and New Product Development SPOP's product marketing emphasizes organic, all natural and healthy fat products containing no hydrogenated fats as a healthful and tasteful alternative to similar traditional food products. Each brand is targeted toward specific consumer segments with appropriate products, flavor variations, images and messages. SPOP promotes all its brands to natural food and health food stores and the specialty or gourmet departments of grocery stores. SPOP utilizes a pricing strategy in which its organic food products are offered at prices only slightly higher than their non-organic counterparts through strategic everyday value pricing programs with key retailers. - -------------------------------------------------------------------------------- Page 5 The Company primarily uses outside resources in developing its new consumer branded products. Research and development expenses are included in general and administrative expense. Manufacturing Facilities and Suppliers SPOP manufactures and bottles the Spectrum Essentials product line and bottles the Company's culinary oils in a leased facility located at 133 Copeland Street, Petaluma, California. The Company's corporate headquarters is a leased facility located at 5341 Old Redwood Highway, Suite 400, Petaluma, which houses the sales, marketing, finance, human resource, administration, operations personnel and executive offices. SPOP uses co-packers to process and package its vinegars, condiments, dressings, mayonnaise, shortening, spreads and encapsulated nutritional products. In July 2002 the Company's third party warehousing and distribution provider closed its facility in Lathrop, California and relocated the warehousing and distribution of the Company's consumer products to its facility in Rancho Cucamonga, California. Warehousing and distribution of the Spectrum Ingredients industrial oils continues to be handled at the Copeland Street facility. The Company's primary co-packer of branded products represented approximately 11% of the cost of goods sold in 2002 versus 6% in 2001 and 9% in 2000. While a change in co-packers could cause a delay in production and a possible loss of sales, the Company believes other manufacturers are available who could provide processing at similar prices and terms. Organic raw materials are available from a limited number of sources. The Company had one vendor of canola oil that supplied approximately 11% of SPOP's raw material purchases in 2002 versus 6% in 2001 and 9% in 2000. The Company believes that other suppliers are available who could provide products at similar prices and terms. A change in suppliers, however, could cause a delay in manufacturing and a possible loss of sales, which could adversely affect operating results. Competition The natural food and health food industries in general and the condiment, culinary oil and nutritional supplement businesses in particular, are highly competitive and there are numerous multinational, regional and local firms that currently compete, or are capable of competing, with SPOP. In the natural foods category SPOP's principal competitors are private label offerings and Hain Pure Foods. SPOP competes with numerous brands in the non-organic vegetable oil category including Puritan and Wesson. In the organic culinary oil category, competitors include Colavita, Hain and Dal Raccolto. The nutritional supplement competitors include Health From The Sun and Barleans. The Company also faces competition in the natural food condiment market from Eden, Canoleo, Nasoya, Annie's and Braggs. Competitors in the non-organic condiments market include H.J. Heinz Company and International Home Foods, which markets Best Foods Mayonnaise. Competitive factors in the specialty foods industry include price, quality, brand image and flavor. SPOP positions its product lines to be slightly more expensive than their non-organic food counterparts but consistent with prices charged by other organic food marketers. Management believes its products compete favorably against other organic foods with respect to quality and flavor. Trade Names and Trademarks The Company has federal registration for its Spectrum Naturals, Spectrum Essentials, Spectrum Spread and Veg Omega-3 trademarks. However, there can be no assurance that any trademark or trade name will not be copied or challenged by others. Government Regulation The Company is subject to various federal, state and local regulations relating to cleanliness, maintenance of food production equipment, food storage and food handling and the Company is subject to unannounced on-site inspections of its - -------------------------------------------------------------------------------- Page 6 manufacturing facilities. As a manufacturer and distributor of foods, the Company is subject to regulation by the U.S. Food and Drug Administration ("FDA"), the Federal Trade Commission ("FTC"), the United States Department of Agriculture ("USDA") and the Occupational Safety and Health Administration ("OSHA") in connection with the manufacture, sale, safety, advertising, handling, storage, transportation, labeling and processing of food products. In order to offer organic and kosher food products, the Company is also subject to inspection and regulation by third party certification agencies. Regulations in new markets and future changes in the regulations may adversely impact the Company by raising the cost to manufacture and deliver the Company's products or by affecting the perceived healthfulness of the Company's products. A failure to comply with one or more regulatory requirements could interrupt the Company's operations and result in a variety of sanctions, including fines and the withdrawal of the Company's products from store shelves. The Company holds all material licenses and permits required to conduct its operations. The USDA adopted regulations with respect to the labeling and certification of organic foods which were implemented on October 21, 2002. The Company has made the required label revisions and is in compliance with the additional requirements for third party organic certification. The Spectrum Essentials(R) brand of nutritional supplements are subject to the Dietary Supplement Health and Education Act of 1994 or "DSHEA", which went into effect in March 1999. DSHEA defines dietary supplements as a new category of food, separate from conventional food. DSHEA requires specific nutritional labeling requirements for dietary supplements and permits substantiated, truthful and non-misleading statements of nutritional support to be made in labeling, such as statements describing general well-being resulting from consumption of a dietary ingredient, or the role of a nutrient or dietary ingredient in affecting or maintaining a structure or function of the body. The Company is also subject to federal and state laws establishing minimum wages and regulating overtime and working conditions. Employees As of March 10, 2003 SPOP had 70 full-time employees. SPOP's employees are not covered by a collective bargaining agreement and the Company considers its employee relations to be satisfactory. ITEM 2. PROPERTY - ---------------- The Company leases two facilities in Petaluma, California to house manufacturing, warehousing, administrative offices and the corporate headquarters. The Petaluma facilities occupy a total of 59,000 square feet at a combined monthly rate of $36,500. In December 2002 the Company consolidated its office space into its new headquarters facility at 5341 Old Redwood Highway, Petaluma, California. Management believes that these facilities are adequate for the Company's needs. ITEM 3. LEGAL PROCEEDINGS - ------------------------- In October 2000 the Company was notified by counsel for GFA Brands, Inc. that nutritional claims pertaining to Spectrum Naturals Organic Margarine were infringing upon two patents issued in the United States that pertain to particular fat compositions suitable for human ingestion. The patent holder exclusively licensed each of these patents to GFA Brands. Management believes that the margarine does not infringe upon either patent, and further, that the patents are unenforceable. Management engaged legal counsel that specialize in this area and received an opinion letter in February 2001 confirming that, in the opinion of counsel, the manufacture or sale of Spectrum Naturals Organic Margarine does not infringe upon the GFA patents, either literally or under the doctrine of equivalents. - -------------------------------------------------------------------------------- Page 7
The Company filed a complaint against GFA Brands for declaratory judgment of non-infringement and invalidity of the two patents on August 28, 2001 in the U.S. District Court of Northern California. The Complaint requests a declaratory judgment that the margarine does not infringe either patent, a declaratory judgment that both patents are invalid, that GFA Brands be enjoined from threatening or asserting any action for infringement of either patent, and attorney's fees. GFA subsequently filed a motion to transfer venue to the U.S. District Court of New Jersey. The Company filed its opposition to that motion, however, the motion to transfer venue was granted in January 2002. The case is currently in the discovery phase. A trial date had not been set as of the date of this report. Management believes the Company has meritorious defenses and that a loss is not probable on the patent infringement complaint at this time. Accordingly, no provision for loss has been recorded at December 31, 2002. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - ----------------------------------------------------------- An annual meeting of shareholders was held on November 6, 2002 at the Company's headquarters in Petaluma, California. A definitive proxy statement was filed with the SEC on October 9, 2002 and is incorporated herein by reference. There were four matters brought before the shareholders for their approval: 1. To approve a revision to Section 15 of the Company's Bylaws increasing the authorized number of directors from five to a minimum of five and a maximum of nine. 2. To elect five Director Nominees to another term and to elect two Director Nominees to their initial terms. 3. To approve an amendment to the Company's Amended and Restated 1995 Stock Option Plan (the "Plan") increasing the number of shares of common stock reserved for issuance under the Plan from 4,500,000 to 7,000,000 shares. 4. To ratify the appointment of BDO Seidman, LLP as the Company's independent public accountants for the current fiscal year. All four matters were approved by the shareholders. The following table summarizes the results of the voting: For Against Abstain Total Votes --- ------- ------- ----------- 1. Bylaw Revision 39,975,847 41,130 3,800 40,020,777 2. Election of Director Nominees: Jethren P. Phillips 42,684,257 4,880 78,401 42,767,538 John R. Battendieri 42,686,457 2,680 78,401 42,767,538 Phillip L. Moore 42,686,457 2,680 78,401 42,767,538 Charles A. Lynch 42,686,457 2,680 78,401 42,767,538 Thomas B. Simone 42,686,457 2,680 78,401 42,767,538 Neil G. Blomquist 42,686,457 2,680 78,401 42,767,538 Conrad W. Hewitt 42,686,457 2,680 78,401 42,767,538 3. Amend Stock Option Plan 39,701,153 260,400 4,200 39,965,753 4. Reappoint BDO Seidman, LLP 42,745,838 10,500 6,000 42,762,338 - -------------------------------------------------------------------------------------------------------- Page 8
PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS - ------------------------------------------------------------------------- The Company's common stock was traded on the NASDAQ Small Cap Market under the symbol "OFPI" from August 1997 to May 1999 when it was delisted due to non-compliance with the minimum net book value requirement. Thereafter it traded on the OTC Bulletin Board System and still does under the new symbol "SPOP". The following table sets forth the range of high and low closing prices of the Company's common stock as reported by the OTC Bulletin Board for the periods indicated. Price ----- High Low ---- --- Fiscal Year Ended December 31, 2002: First Quarter $0.44 $0.18 Second Quarter 0.48 0.24 Third Quarter 0.60 0.36 Fourth Quarter 0.47 0.28 Fiscal Year Ended December 31, 2001: First Quarter 0.50 0.25 Second Quarter 0.41 0.22 Third Quarter 0.27 0.19 Fourth Quarter 0.48 0.14 The last recorded sale price of the Company's common stock was $0.31 per share on the OTC Bulletin Board System on March 4, 2003. As of March 10, 2003 the Company had approximately 550 record and beneficial stockholders. Dividend Policy The Company has not in the past nor does it intend to pay cash dividends on its common stock in the future. The Company intends to retain earnings, if any, for use in the operation and expansion of its business. The amount of future dividends, if any, will be determined by the Board of Directors based upon the Company's earnings, financial condition, capital requirements, general economic conditions and such other factors as the Board deems relevant. Moreover, the Company's Credit and Security Agreement with its primary lender, Wells Fargo Business Credit, Inc. prohibits the payment of dividends without the prior approval of the lender. - -------------------------------------------------------------------------------- Page 9
Shares Issued During the Years Ended December 31, 2002, 2001 and 2000 During the years ended December 31, 2002, 2001 and 2000, the Company issued shares of its common stock as follows for the reasons indicated: Cash and Month Shares Non-Cash Issued Issued Proceeds ------ ------ -------- Year Ended December 31, 2002: Shares issued for the exercise of common stock purchase warrants under the private placement notes Nov 2002 6,910 $ -- ========= ======== Year Ended December 31, 2001: Shares issued to Thomas B. Simone, a non- executive Director of the Company, under a private sale Feb 2001 160,000 $ 50,000 Shares issued to Charles A. Lynch and Phillip L. Moore, both non-executive Directors of the Company, in lieu of cash compensation for Board fees earned during CY 2000 Feb 2001 64,000 20,000 Shares issued to four note holders under the private placement conversion offer to convert the notes to equity Various 630,000 168,200 Common stock purchase warrants exercised by the note holders under the private placement completed in October 1999 Various 230,883 -- Shares issued to the Chapter 7 estate of Sunny Farms Corp. in final settlement of litigation Dec. 2001 117,950 93,700 --------- -------- Totals for Year Ended December 31, 2001 1,202,833 $331,900 ========= ======== Year Ended December 31, 2000: Shares issued to Global Natural Brands, Ltd. in connection with the settlement of litigation April 2000 400,000 $318,800 Common stock purchase warrants exercised by the note holders under the private placement completed in October 1999 Various 181,642 1,400 --------- -------- Totals for Year Ended December 31, 2000 581,642 $320,200 ========= ======== All the shares except those issued to the Chapter 7 estate of Sunny Farms Corp. were issued under Regulation D of the Securities Act of 1933 (the "Act"), with resale of such shares permitted only pursuant to Rule 144 of the Act. All certificates representing the unregistered shares were endorsed with restrictive legends identifying them as unregistered under the Act. - ------------------------------------------------------------------------------------------------ Page 10
Shares Authorized for Issuance Under Equity Compensation Plans The following table provides information regarding compensation plans under which equity securities of the Company are authorized for issuance as of December 31, 2002: Available Shares Shares to be Issued Weighted Average Remaining for Future Plan Category Upon Exercise of Exercise Price of Issuance Under Equity Outstanding Options Outstanding Options Compensation Plans - ------------------ ------------------- ------------------- ------------------- Equity Compensation Plans Approved by Security Holders 3,898,115 $ 0.34 3,101,885 Equity Compensation Plans not Approved by Security Holders -- -- -- --------- ------ --------- Totals 3,898,115 $ 0.34 3,101,885 ========= ====== ========= - -------------------------------------------------------------------------------------------------------- Page 11
ITEM 6. SELECTED FINANCIAL DATA - ------------------------------- The selected consolidated financial data set forth below should be read in conjunction with "Management's Discussion and Analysis of Financial Conditions and Results of Operations" and the consolidated financial statements of the Company and the notes thereto included in Item 8 of this Form 10-K. Years Ended December 31, ------------------------ 2002 2001 2000 1999 1998 ---- ---- ---- ---- ---- (in thousands, except per share data) Operating Data: Net Sales $40,660 $41,051 $42,199 $29,619 $22,187 Gross Profit 10,583 11,041 10,175 8,660 6,500 EBITDA, as Adjusted 2,274 2,442 1,189 1,421 1,492 Income (Loss) from Operations 1,776 (4,251) (688) 762 1,144 Net Income (Loss) 1,120 (5,206) (2,002) (113) 403 Weighted Average Shares Outstanding 45,700 45,279 44,234 35,095 32,336 Net Income (Loss) per Share $ 0.02 $ (0.12) $ (0.05) $ (0.00) $ 0.01 Cash Dividends Declared per Share $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 0.00 Cash Flow Data: Cash Provided by (Used in) Operating Activities $ 690 $ (907) $ 360 $ (172) $ 701 Cash Provided by (Used in) Investing Activities 2,372 2,343 20 (1,530) (597) Cash Provided by (Used in) Financing Activities (3,062) (1,436) (379) 1,702 (258) As of December 31, ------------------ 2002 2001 2000 1999 1998 ---- ---- ---- ---- ---- Balance Sheet Data: Working Capital (Deficit) $ 597 $(1,030) $(4,257) $(3,323) $ 413 Total Tangible Assets 12,145 12,776 13,057 14,654 6,866 Total Assets 12,187 14,300 22,841 24,974 7,226 Total Long-term Debt 1,084 1,708 2,001 2,788 2,811 Total Stockholders' Equity 3,274 2,098 6,850 8,413 141 As described in Note 1 to the financial statements, the Company was formed on October 6, 1999 by the merger of Spectrum Naturals, Inc., its affiliate Spectrum Commodities, Inc. and Organic Ingredients, Inc. with and into Organic Food Products, Inc. Effective with the merger the newly combined entity changed its name to Spectrum Organic Products, Inc. Since a controlling interest in the combined Company is held by former SNI stockholders, the merger was accounted for as a reverse acquisition, with SNI as accounting acquirer and OI and OFPI as accounting acquirees. The number of shares outstanding and per-share amounts have been retroactively restated where applicable for all periods presented. Accordingly, the selected financial data presented above reflects the historical results of SNI and SCI only for all periods presented through October 5, 1999 and the combined entity from the October 6, 1999 merger date forward. On June 11, 2001 the Company sold the OFPI product lines to a third party, accordingly, results for 2001 include the OFPI product lines from January 1 to the date of sale. On April 25, 2002 the Company sold the OI product lines to a third party, accordingly, results for 2002 include the OI product lines from January 1 to the date of sale. EBITDA, as adjusted reflects earnings from operations before interest, taxes, depreciation, amortization, non-cash losses on asset writedowns, the sales of product lines and the industrial accident. Management believes this is the most relevant measure of the Company's operating performance, however, EBITDA, as adjusted may not be comparable to similar measures presented by other companies. - ------------------------------------------------------------------------------------------------- Page 12
The calculations for EBITDA, as adjusted are detailed in the following table ($ in thousands): Years Ended December 31, ------------------------ 2002 2001 2000 1999 1998 ---- ---- ---- ---- ---- Income (loss) from operations $ 1,776 $(4,251) $ (688) $ 762 $ 1,144 (Gain) loss on sales of product lines (210) 4,803 -- -- -- Loss on industrial accident, asset impairment writedown and plant closure 254 950 436 -- -- Amortization of goodwill -- 521 910 222 -- Depreciation and amortization 454 419 531 437 348 -------- -------- -------- -------- -------- EBITDA, as adjusted $ 2,274 $ 2,442 $ 1,189 $ 1,421 $ 1,492 ======== ======== ======== ======== ======== ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - ------------------------------------------------------------------------------- The following discussion should be read in conjunction with the financial statements and related notes and other information included in this report. The financial results reported herein are not necessarily indicative of the financial results that may be achieved by the Company in any future period. The Company's operating results could vary from period to period as a result of a number of factors. These factors include, but are not limited to, the purchasing patterns of significant customers, the timing of new product introductions by the Company and its competitors, the amount of slotting fees, new product development and advertising expenses incurred by the Company, variations in sales by distribution channel, fluctuations in market prices of raw materials, competitive pricing policies and situations that the Company cannot foresee. These factors could cause the Company's performance to differ from investor expectations, resulting in volatility in the price of its common stock. Investors should carefully consider the following information as well as other information contained in this Report. Information included in this Report contains forward-looking statements which can be identified by the use of forward-looking terminology such as "believes", "expects", "may", "should" or "anticipates" or the negative thereof or other variations thereon or comparable terminology, or by discussions of strategy. No assurance can be given that the future results covered by the forward-looking statements will be achieved. The following matters constitute cautionary statements identifying important factors with respect to such forward-looking statements, including certain risks and uncertainties that could cause actual results to vary materially from the future results covered in such forward-looking statements. Other factors could also cause actual results to vary materially from the future results covered in the forward-looking statements. Introduction Spectrum Organic Products, Inc. ("SPOP" or "the Company") competes in three main product categories: natural and organic foods under the Spectrum Naturals(R) brand, nutritional supplements under the Spectrum Essentials(R) brand, and industrial ingredients sold by the Spectrum Ingredients sales force for use by other manufacturers. The vast majority of the Company's products are oil-based and the Company has positioned itself as the good fats Company. Within the Spectrum Naturals(R) brand, the Company's products include olive oils and other culinary oils, salad dressings, condiments and butter-substitutes such as Spectrum Organic Margarine(R) and Spectrum Spread(R). All of the Company's culinary products feature healthy fats, contain no hydrogenated fats and are offered in a variety of sizes and flavors in both organic and conventional offerings. - -------------------------------------------------------------------------------- Page 13
Within the Spectrum Essentials(R) brand, the Company's products include organic flax oils, borage oil, Norwegian fish oil and other essential fatty acids in both liquid and capsule forms. The Spectrum Essentials(R) products are cold-pressed, nutritionally rich sources of Omega-3 and Omega-6 essential fatty acids and are also offered in a variety of sizes and styles. The Spectrum Ingredients (formerly known as Spectrum Commodities, Inc.) sales force offers organic culinary oils, vinegar and nutritional oils to other manufacturers for use in their products. In addition, they bring incremental purchasing power to the Company resulting in higher margins for the consumer branded products. The Company was formed on October 6, 1999 by the four-way reverse merger of Spectrum Naturals, Inc. ("SNI"), its affiliate Spectrum Commodities, Inc. ("SCI"), Organic Ingredients, Inc. ("OI"), with and into Organic Food Products, Inc. ("OFPI"). OFPI was the registrant prior to the merger, but since a controlling interest in the Company is held by former SNI stockholders, the merger was accounted for as a reverse acquisition, with SNI as accounting acquirer and OI and OFPI as accounting acquires. In early 2001 it became clear to Management that the Company was severely under-capitalized and cash constrained as a result of the merger. Furthermore, the synergies anticipated at the date of the merger were elusive and the difficulties of combining four disparate entities were greater than anticipated. Therefore, on June 11, 2001 the Company sold the OFPI tomato-based product lines to Acirca, Inc., an unrelated third party. Accordingly, results for the year ended December 31, 2001 include the operating results associated with the OFPI disposed product lines until the date of sale. On April 25, 2002 the Company sold the OI industrial ingredient business in fruits, vegetables, concentrates and purees to Acirca. Accordingly, results for the year ended December 31, 2002 include the operating results associated with the OI disposed product lines until the date of sale. The two dispositions have significantly strengthened the Company from a liquidity and working capital standpoint. The Company plans to focus its future resources on its core business in healthy fats, butter substitutes and essential fatty acid nutrition. Critical Accounting Policies and Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires Management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. The Company bases its estimates on historical experience and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for the carrying values of assets and liabilities that are not readily apparent from other sources. On an on-going basis, the Company re-evaluates all of its estimates utilizing the most recent information available to it. Actual results may differ materially from these estimates under different assumptions or conditions and as additional information becomes available in future periods. The most significant estimates made by the Company are those concerning reserves against accounts receivable and inventory, the industrial accident reserve and the deferred tax asset valuation allowance. The following discussion provides further detail on those estimates. Accounts Receivable Allowances - The Company provides allowances against accounts receivable for estimated bad debts, returns and deductions by customers for trade promotions and programs. These allowances are based upon the Company's historical experience with bad debt write-offs and customer deductions, customer creditworthiness, payment trends and general economic conditions. Allowances for bad debts and customer deductions were $416,000 at December 31, 2002 on gross trade accounts receivable of $3,306,800. While this estimate is one of the more significant estimates the Company makes in the preparation of its financial statements, Management does not consider it to be highly uncertain. - -------------------------------------------------------------------------------- Page 14 Inventory Reserves - The Company provides reserves for obsolete, excess and slow-moving inventories in order to properly value its inventory at the lower of cost or market. The reserve estimates are based upon historical inventory usage, spoilage, current market conditions and anticipated future demand. Reserves for obsolete inventories were $548,000 at December 31, 2002 on total inventories of $5,817,600. While this estimate is one of the more significant estimates the Company makes in the preparation of its financial statements, Management does not consider it to be highly uncertain. Deferred Tax Asset Valuation Allowance - As of December 31, 2002 the Company had net deferred tax assets of $1,997,900 primarily resulting from net operating loss carryforwards ("NOLS"). At December 31, 2002 the NOLS consisted of approximately $5,200,000 of Federal NOLS that expire at various times through 2021, and $2,800,000 of state NOLS that expire at various times through 2012. The majority of the NOLS originated from the pre-merger operations of OFPI. As a result of OFPI's acquisition by SNI, OFPI experienced an ownership change in excess of 50% for federal and state income tax purposes. Therefore, an annual limitation is placed by the taxing authorities on the Company's right to realize the benefit of the pre-merger NOLS. Management is unable to determine whether it is more likely than not that the net deferred tax assets will be realized. Accordingly, Management maintains a 100% valuation allowance against the net deferred tax assets for all periods presented in the financial statements. This valuation allowance is highly uncertain because its value depends upon the future taxable income of the Company. Industrial Accident Reserve - During June 2002 the Company established a reserve of $200,000 to cover anticipated future expenses associated with an industrial accident that occurred on April 25, 2002 (see Note 3). The reserve was established to cover anticipated citations and fines from CAL-OSHA, applications to the Workers Compensation Appeals Board of the State of California for serious and willful misconduct penalties to be levied against the Company, and attorney's fees. As of December 31, 2002 there was $153,700 remaining in the industrial accident reserve. This reserve is highly uncertain because the CAL-OSHA proposed fines of $137,900 have been appealed and the applications for serious and willful misconduct penalties, if litigated, are an all-or-nothing proposition under which the Company will either be liable for $125,000 in total or nothing. Furthermore, the reserve does not cover potential criminal penalties against the Company which the Sonoma County District Attorney's office can levy for up to three years following the accident. Management does not believe the Company or any of its employees were guilty of criminal behavior in connection with the industrial accident. There have been no criminal actions filed against the Company as of the date of this report. - -------------------------------------------------------------------------------- Results of Operations for the Year Ended December 31, 2002 Compared to the Year Ended December 31, 2001 - -------------------------------------------------------------------------------- Summary of Results: Management believes that earnings before interest, taxes, depreciation, amortization, gains or losses on the sales of product lines and the industrial accident ("EBITDA as adjusted") is an important measure of the Company's operating performance. For the year ended December 31, 2002 EBITDA as adjusted was $2,273,600 compared to $2,442,100 for the prior year, a decrease of $168,500 or 7%. The lower performance in 2002 was primarily attributable to increased spending on marketing programs for the consumer branded product lines and unabsorbed manufacturing overhead as a result of a shortage of flax seed due to drought conditions in much of Canada during 2002 and the West Coast port shutdown, which hampered the Company's ability to secure glass, partially offset by reduced general and administrative expenses. Revenues: SPOP's net sales for the year ended December 31, 2002 were $40,660,200 compared to $41,051,000 for 2001, a decrease of $390,800 or 1%. The decrease was attributable to the lost sales associated with the disposed product lines, partially offset by healthy sales growth in each of the Company's three major product lines. Comparable net sales (after eliminating the sales of disposed or discontinued product lines from both periods) increased by 20%. - -------------------------------------------------------------------------------- Page 15
During the years ended December 31, 2002 and 2001, net sales by product line were as follows: 2002 2001 % Change ---- ---- -------- Spectrum Naturals(R)Culinary Products $ 18,487,800 $ 15,944,400 +16% Spectrum Essentials(R)Nutritional Supplements 9,524,400 8,030,100 +19% Spectrum Ingredients/Private Label Products 9,433,200 7,348,800 +28% ------------ ------------ ----- Comparable Net Sales 37,445,400 31,323,300 +20% Disposed/Discontinued Product Lines 3,214,800 9,727,700 -67% ------------ ------------ ----- Total Net Sales $ 40,660,200 $ 41,051,000 -1% ============ ============ ===== Within the Spectrum Naturals(R) brand, net sales increased substantially versus the prior year in culinary oils (+11%), mayonnaise (+16%) and vinegar (+18%). The Spectrum Essentials(R) brand net sales increased by 19%, driven by increased demand for flax oil as consumer awareness of the importance of essential fatty acids to overall health continued to rise. Net sales growth in the Spectrum Essentials line would have been substantially higher in the absence of the flax seed shortage during the fourth quarter, which left the Company unable to meet demand until December. The Company has identified alternative sources of supply for 2003 and does not expect to experience difficulty in meeting demand for flax oil. The Spectrum Ingredients net sales growth was driven by strong demand for industrial culinary oils, particularly in the baked goods trade. Cost of Goods Sold: The Company's cost of goods sold increased as a percent of net sales for the year ended December 31, 2002 to 74.0% compared to 73.1% for the same period in 2001. The increase was primarily due to the effects of the April 2002 industrial accident which included $254,100 of expenses directly attributable to the accident, plus the impact of unabsorbed overhead as a result of the plant shutdown following the accident. The directly attributable expenses of $254,100 included a remaining reserve at December 31, 2002 of $153,700 to cover anticipated citations and fines from CAL-OSHA, worker's compensation appeals and attorney's fees. The balance of $100,400 represented cash expenditures for attorney's fees, safety consultants and assistance to the families of the deceased employees. Also contributing to the increase in cost of goods sold as a percent of net sales versus the prior year was unabsorbed manufacturing overhead due to two other factors beyond the Company's control. The West Coast port shutdown, as a result of the longshoremen's strike, hampered the Company's ability to secure glass to keep its bottling line running at full capacity and the flax seed shortage, due to drought conditions in much of the growing area, shut down the SpectraVac flax oil production system for much of the fourth quarter. The Company has secured an adequate supply of flax seed for 2003, however, the cost will be significantly higher. Gross Profit: Gross profit as a percent of net sales (gross margin) was 26.0% for 2002 versus 26.9% for the prior year. The reduction was primarily due to the effects of the industrial accident and the unabsorbed manufacturing overhead detailed above. Sales and Marketing Expenses: The Company's sales and marketing expenses for the year ended December 31, 2002 were $6,068,400 or 14.9% of net sales, versus $5,823,100 or 14.2% of net sales for 2001. The increase in spending of $245,300 was primarily attributable to higher spending on advertising, broker commissions, sampling and public relations, partially offset by the elimination of eleven full time employees formerly associated with the OI product lines disposed of on April 25, 2002. - -------------------------------------------------------------------------------- Page 16
General and Administrative Expenses: The Company's general and administrative expenses for the year ended December 31, 2002 were $2,949,500 or 7.3% of net sales, versus $3,194,900 or 7.8% of net sales for 2001. The decrease in spending of $245,400 was primarily attributable to reduced incentive compensation expense, lower professional fees, reduced bad debt expense and lower telephone expense. Amortization of Goodwill: In accordance with SFAS 142, the Company ceased the amortization of goodwill effective January 1, 2002. All remaining unamortized goodwill at January 1, 2002 was written-off in connection with the sale of the OI product lines on April 25, 2002. Amortization expense for the prior year was $520,700 based on an estimated useful life of twelve years. Gain or Loss on Sales of Product Lines: The Company recorded a net gain from the sales of product lines during the year ended December 31, 2002 of $210,300 and a non-cash loss of $4,803,200 during the prior year. The computations for both years are detailed in Note 2 to the financial statements. Loss on Asset Impairment Writedown: As described in Note 4 to the Financial Statements, the Company determined that the net goodwill associated with the Organic Ingredients product lines was impaired at December 31, 2001. Accordingly, the Company recorded a non-cash writedown of $950,000 during 2001 to reduce the goodwill to its net realizable value of $1,470,200. Interest Expense: The Company's interest expense for the year ended December 31, 2002 was $480,600 versus $912,800 for 2001. The reduction of $432,200 or 47% was primarily attributable to lower borrowing levels under the line of credit as a result of the sales of product lines and significant reductions in the prime rate during 2001. Non-cash interest expense of $49,500 and $96,100 was incurred during 2002 and 2001, respectively, for the value of the common stock purchase warrants issued to the private placement note holders. Provision for Income Tax Expense: During the year ended December 31, 2002 the Company recorded a provision for income taxes of $189,800 which represented final 2001 income taxes paid to the State of California of $7,200 plus estimated state income taxes due for 2002 of $182,600. The Company has federal net operating loss carryovers sufficient to offset all federal income taxes due on its estimated taxable income for 2002. However, the State of California recently announced a two year moratorium on the use of net operating loss carryovers, as a result of a budget crisis, effective January 1, 2002. Consequently, the Company will owe state income taxes estimated at $189,800 for 2002 as a result of the moratorium and alternative minimum taxes. The Company will also be liable for state income taxes for 2003. Net Income (Loss): The Company reported net income of $1,120,000 for the year ended December 31, 2002 versus a net loss of $5,205,800 for the prior year. The improvement in 2002 was primarily due to the non-cash loss during the prior year on the sale of product lines, the elimination of goodwill amortization effective January 1, 2002 and lower interest expense, partially offset by increased marketing spending in 2002 and the expenses associated with the industrial accident. - -------------------------------------------------------------------------------- Page 17 Deferred Tax Assets: Since the Company could not determine that it was more likely than not that the deferred tax benefits would be realized, a 100% valuation allowance has been maintained against the deferred tax assets for all periods presented. Seasonality: Historically, the Company has experienced little seasonal fluctuation in revenues. With regards to product purchasing, the Company will seasonally contract for certain raw materials for the entire year at harvest time or at planting time. These purchases take place annually from early spring to mid-summer and are affected to reduce the risk of price swings due to demand fluctuations. These annual purchases can create temporary overages and shortages in inventory. Liquidity and Capital Resources: The Company maintains a credit facility (the "Credit Agreement") with its primary lender, Wells Fargo Business Credit ("WFBC"), consisting of term debt and a $9,000,000 revolving line of credit that is secured by substantially all assets of the Company and bears interest at prime plus 1% to 1.25% per annum. Advances under the revolving line of credit are limited to a borrowing base consisting of certain eligible accounts receivable and inventory. The Company could not operate its business without the Credit Agreement with WFBC or one similar to it. At December 31, 2002 the Company satisfied all financial covenants and other requirements under the Credit Agreement except for one covenant setting a limit on capital expenditures for 2002 of $600,000. Actual spending on capital expenditures was $631,500 in 2002. WFBC has granted the Company a waiver with regards to their default rights in connection with that covenant breach. Based on its prior experience with WFBC, Management believes the Company will continue to meet future financial covenants. Should the Company fail to meet future financial covenants (a "technical default"), WFBC would have certain rights, including the right to call all amounts due immediately. However, Management believes it would be unlikely for WFBC to exercise its right to terminate the Credit Agreement and call all amounts due in the event of a technical default by the Company. At December 31, 2002 the Company had working capital of $596,700 which reflected an improvement of $1,626,400 versus the prior year. As described in Note 2 to the financial statements, the Company sold certain assets in April 2002 which has substantially improved the Company's liquidity and capital resources. The assets sold included inventories and goodwill associated with the Organic Ingredients business in fruits, vegetables, concentrates, purees and certain private label products sold to key retailers. Trade accounts receivable associated with the disposed product lines were not sold. The disposed product lines represented approximately 20% of the Company's net sales for the year ended December 31, 2001 and approximately 12% of its gross profit. The impact of the disposed product lines on EBITDA, as adjusted for the year ended December 31, 2001 was immaterial. Further details on the disposition can be found in the Company's Current Report on Form 8-K filed with the SEC on May 9, 2002. The Company's bank overdraft as of December 31, 2002 was $589,300 compared to $546,400 at December 31, 2001. During 2002 the Company generated $689,600 in cash from operating activities, compared to using $906,900 in cash during 2001. The improvement was primarily due to the one-time reduction in trade payables made during the prior year with the cash proceeds from the sale of the tomato-based product lines. That sale enabled the Company to bring its vendors current for the first time since the merger. Cash provided by investing activities during 2002 was $2,371,700 compared to $2,342,900 in 2001. There were no significant variances between years as both periods included cash proceeds from the sales of product lines and related inventories of approximately $3,000,000. Cash used in financing activities was $3,061,500 in 2002 versus $1,435,700 in 2001. The increase was primarily due to the sharp reduction in the outstanding borrowings under the Company's line of credit with the cash proceeds from the - -------------------------------------------------------------------------------- Page 18 sale of the OI product lines in April 2002. The second product line sale enabled the Company to reduce its dependency on the line of credit for day-to-day operations. At December 31, 2002 the Company had $1,696,700 in available borrowing capacity under its line of credit versus $955,800 at December 31, 2001 primarily as a result of the proceeds from the sale of the OI product lines. Also contributing to the increased use of cash in financing activities during 2002 was the early retirement of the private placement notes and the repayment of the loan outstanding against the cash surrender value of executive life insurance. Management believes that future cash flows from operations should provide adequate funds to meet the Company's estimated cash requirements for the foreseeable future. The Company competes primarily in the organic and all natural foods industry and in the nutritional supplements category. While an economic downturn could decrease demand for the Company's products, which in turn could impact the Company's ability to meet its obligations to its creditors, Management believes that to be unlikely. Recent history has shown the three primary categories the Company competes in to be recession-resistant. Each category features double-digit annual sales growth and Management believes the Company's product offerings compete favorably with regards to taste and overall quality. The Company has contractual cash obligations for future periods primarily with regards to debt service and non-cancelable leases. The following table discloses the Company's expected contractual cash obligations for future periods: Contractual Cash Obligations ($ Thousands) 2003 2004 2005 2006 2007 2011 ---- ---- ---- ---- ---- ---- Long-term Debt $ 481 $ 461 $ 265 $ 16 $ -- $ 513 Capital Leases (1) 63 52 20 -- -- -- Operating Leases 186 246 250 250 250 -- ----- ----- ----- ----- ----- ----- Total Contractual Cash Obligations $ 730 $ 759 $ 535 $ 266 $ 250 $ 513 ===== ===== ===== ===== ===== ===== (1) Includes amounts representing interest Related Party Transactions and Other Financing Arrangements: During the year ended December 31, 2002 there were two significant transactions with related parties. An investment banking fee for the sale of the OI product lines of $79,000 was paid to Moore Consulting, a sole proprietorship owned and operated by Phillip Moore, a non-executive Director of the Company. Moore Consulting has provided merger, acquisition and divestiture services to the Company for several years. The fee paid represented 2.5% of the total transaction value. There were also consulting fees of $66,000 paid to Running Stream Food and Beverage, Inc. ("RSFB") for private label sales and management services. RSFB is owned and operated by John Battendieri, a non-executive Director of the Company. The RSFB fees were negotiated by the Company as part of the sale of the OI product lines and mirror the arrangements made between RSFB and Acirca, Inc. (an unrelated party) for similar consulting services. The consulting contract between the Company and RSFB covers the period April 16, 2002 through April 16, 2004 and calls for monthly consulting fees of $8,300 plus expenses incurred. In the opinion of Management, both of these transactions were fair, reasonable and consistent with terms the Company could have obtained from unaffiliated third parties. The Company does not utilize off-balance sheet financing arrangements. There were no transactions with special purpose entities that gave the Company access to assets or additional financing or carry debt that is secured by the Company. The Company does not engage in trading activities of any kind involving commodity contracts. - -------------------------------------------------------------------------------- Page 19 New Applicable Accounting Pronouncements: In July 2002 the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 146, "Accounting for Costs Associated with Exit or Disposal Activities". SFAS 146 requires that a liability for expenses associated with an exit or disposal activity be recognized when the liability is incurred. SFAS 146 also establishes that fair value is the objective for initial measurement of the liability. Severance pay under SFAS 146, in many cases, would be recognized over time rather than up front. The provisions of SFAS 146 are effective for exit or disposal activities that are initiated after December 31, 2002 with early application encouraged. Management does not expect the adoption of SFAS 146 to have a material impact on the Company's financial condition or results of operations. In December 2002 the FASB issued SFAS 148, "Accounting for Stock-Based Compensation Transition and Disclosure", which provides alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation as prescribed in SFAS 123, "Accounting for Stock-Based Compensation." Additionally, SFAS 148 requires more prominent and more frequent disclosures in financial statements about the effects of stock-based compensation. The provisions of SFAS 148 are effective for fiscal years ending after December 15, 2002 with early application permitted in certain circumstances. Management has evaluated the benefits of changing to the fair value method of accounting for stock-based compensation and has elected to continue to use the intrinsic value method. Accordingly, Management does not expect the adoption of SFAS 148 to have a material impact on the Company's financial condition or results of operations, but will comply with the additional disclosure provisions. In November 2002 the FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others", which is effective for financial statements issued after December 15, 2002. The Company has various guarantees included in contracts in the normal course of business, primarily in the form of indemnities. However, these guarantees do not represent significant commitments or contingent liabilities in connection with the indebtedness of others. In January 2003 the FASB issued Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"), which requires the consolidation of certain special purpose or variable interest entities. FIN 46 is applicable to financial statements issued after 2002, however, disclosures are required currently if the Company expects to consolidate any variable interest entities. There are no entities that will be consolidated with the Company's financial statements as a result of FIN 46. - -------------------------------------------------------------------------------- Results of Operations for the Year Ended December 31, 2001 Compared to the Year Ended December 31, 2000 - -------------------------------------------------------------------------------- Summary of Results: Management believes that earnings before interest, taxes, depreciation, amortization, losses on the sale of product lines and asset writedowns ("EBITDA as adjusted") is an important measure of the Company's operating performance. For the year ended December 31, 2001 EBITDA as adjusted was $2,442,100 compared to $1,189,400 for the prior year, an increase of $1,252,700 or 105%. The improved performance in 2001 was primarily attributable to improved gross margins and reduced operating expenses. Revenues: SPOP's net sales for the year ended December 31, 2001 were $41,051,000 compared to $42,198,800 for 2000, a decrease of $1,147,800, or 2.7% versus 2000. The decrease in 2001 was primarily due to the lost sales associated with the disposed product lines, partially offset by higher sales of branded culinary products and nutritional supplements. Within the branded culinary products, sales were significantly higher than the prior year in packaged oil (+12%), packaged mayonnaise (+15%) and individually quick frozen fruits and vegetables (a new product category in 2001). Branded nutritional supplement sales increased 12% versus the prior year. - -------------------------------------------------------------------------------- Page 20
Comparable net sales (after eliminating sales of disposed or discontinued product lines from both years) increased by 10% versus the prior year. During the years ended December 31, 2001 and 2000, net sales by product line were as follows: 2001 2000 % Change ---- ---- -------- Spectrum Naturals(R)Culinary Products $15,944,400 $13,727,100 +16% Spectrum Essentials(R)Nutritional Supplements 8,030,100 7,181,600 +12% Spectrum Ingredients/Private Label Products 7,348,800 7,509,400 - 2% ----------- ----------- ------ Comparable Net Sales 31,323,300 28,418,100 +10% Disposed/Discontinued Product Lines 9,727,700 13,780,700 -29% ----------- ----------- ------ Total Net Sales $41,051,000 $42,198,800 - 3% =========== =========== ====== Cost of Goods Sold: The Company's cost of goods sold decreased as a percent of net sales for the year ended December 31, 2001 to 73.1% compared to 75.9% for 2000. The decrease was due primarily to lower costs on the nutritional supplement oils and packaged dairy case products, as well as lower cost of goods associated with the disposed product lines as a result of the Morgan Hill plant closure in July 2000. Gross Profit: Gross profit for the year ended December 31, 2001 was $11,041,300 versus $10,175,100 for 2000, an increase of $866,200 or 8.5%. Gross profit as a percent of net sales (gross margin) was 26.9% for 2001 versus 24.1% for 2000, primarily due to the improved margins on the nutritional supplement products, packaged dairy case products and the lower cost of goods associated with the disposed tomato-based product lines as a result of the Morgan Hill shutdown. Also contributing to the improvement in 2001 was the change in the sales mix which featured higher sales of the higher-margin culinary and nutritional supplement branded product lines. Sales and Marketing Expenses: The Company's sales and marketing expenses for the year ended December 31, 2001 were $5,823,100 or 14.2% of net sales, versus $5,974,000 or 14.2% of net sales for 2000. The decrease in spending of $150,900 was primarily attributable to reduced spending on trade shows and consulting fees, partially offset by increased advertising. General and Administrative Expenses: The Company's general and administrative expenses for the year ended December 31, 2001 were $3,194,900 or 7.8% of net sales, versus $3,542,700 or 8.4% of net sales for 2000. The decrease in spending of $347,800 was primarily attributable to lower banking, accounting and legal fees, partially offset by increased insurance and utility costs. Amortization of Goodwill: The Company recorded goodwill of $10,848,200 in connection with the merger. Amortization expense for the year ended December 31, 2001 was $520,700 versus $909,600 of amortization expense for 2000. The decrease in 2001 was attributable to the sale of the tomato-based product lines in June 2001. Since this comprised all of the remaining assets of OFPI, the balance of unamortized goodwill associated with the reverse acquisition of OFPI in October 1999 of $6,776,200 was written-off as part of the entry to record the sale. The goodwill associated with the acquisition of OI was amortized over a twelve-year life during both years. - -------------------------------------------------------------------------------- Page 21
Gain or Loss on Sales of Product Lines: As described in Note 2 to the Financial Statements, the Company sold its tomato-based product lines for $2,350,000 plus saleable inventories to Acirca, Inc., an unrelated third party, in June 2001. Since the product lines sold comprised all of the remaining assets of OFPI, the remaining net goodwill associated with the reverse acquisition of OFPI in October 1999 of $6,776,200 was written-off as part of the entry to record the sale. Accordingly, after accounting for transaction costs and eliminating escrowed funds not collected prior to December 31, 2001 from the consideration received, the Company recorded a non-cash loss on the sale of the OFPI product lines of $4,803,200 during 2001. Loss on Asset Writedowns and Plant Closure: As a result of negotiations that were underway at December 31, 2001 for the sale of the Organic Ingredients product lines, the Company determined that the net goodwill associated with the OI product lines was impaired. Accordingly, the Company recorded a non-cash writedown of $950,000 to reduce the goodwill carrying amount at December 31, 2001 to $1,470,200, its estimated net realizable value. Also as described in Note 4 to the Financial Statements, the Company closed its leased manufacturing facility in Morgan Hill, California during 2000 and transferred the production of the tomato-based product lines (which were subsequently sold to Acirca, Inc.) to a third party co-packer. A loss on the sale of the production equipment and the abandonment of leasehold improvements at the Morgan Hill facility of $436,500 was recorded in 2000. Interest Expense: The Company's interest expense for the year ended December 31, 2001 was $912,800 versus $1,381,500 for 2000. The reduction of $468,700 or 34% was primarily attributable to lower borrowing levels following the sale of the OFPI product lines, significant reductions in the prime rate during 2001 and lower non-cash interest expense associated with the private placement notes. Non-cash interest expense of $96,100 was recorded during the year ended December 31, 2001 versus $118,700 for 2000 for the value of the common stock purchase warrants issued to the private placement note holders. Net Loss: The Company reported a net loss of $5,205,800 and $2,002,300 for the years ended December 31, 2001 and December 31, 2000, respectively. Excluding the non-cash losses on the disposed product lines, asset writedowns and plant closure, the Company reported pro-forma net income of $547,400 versus a pro-forma net loss of $1,565,800 for the prior year. The improvement in 2001 was primarily due to improved gross margins, reduced interest expense and lower operating expenses. Related Party Transactions and Other Financing Arrangements: During the year ended December 31, 2001 there were three significant transactions with related parties. The Company paid consulting fees of $70,000 for management advisory services rendered by Moore Consulting, a sole proprietorship owned and operated by Phillip Moore, a non-executive Director of the Company. Also, an investment banking fee for the sale of the OFPI product lines of $78,200 was paid to Moore Consulting. The fee paid represented 2.5% of the total transaction value which, in the opinion of Management, was fair, reasonable and consistent with terms the Company could have obtained from an unaffiliated investment banker. In February 2001 the Company sold 160,000 restricted shares under Regulation D of the Securities Act of 1933 to a non-executive Director of the Company for $0.3125 per share, the closing price of the Company's common stock as quoted on the OTC Bulletin Board system on the day the transaction was approved by the Company's disinterested members of the Board of Directors. The Company applied the proceeds of $50,000 toward the expansion of its proprietary SpectraVac technology. In addition, the Company issued 160,000 common stock purchase warrants to the non-executive Director at an exercise price of $0.3125 per share, which expire in February 2006. - -------------------------------------------------------------------------------- Page 22
The Company does not utilize off-balance sheet financing arrangements. There were no transactions with special purpose entities that gave the Company access to assets or additional financing or carry debt that is secured by the Company. The Company does not engage in trading activities of any kind involving commodity contracts. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK - -------------------------------------------------------------------- The Company does not hold market risk sensitive trading instruments, nor does it use financial instruments for trading purposes. All sales, operating items and balance sheet data are denominated in U.S. dollars, therefore, the Company has no foreign currency exchange rate risk. Throughout the course of its fiscal year, the Company utilizes a variable interest rate line of credit at various borrowing levels. For the year ended December 31, 2002 the average outstanding balance under the line of credit was approximately $3,153,000 with a weighted average interest rate of 6.5%. The line of credit agreement calls for the interest rate to float at the prime rate plus 100 basis points. Certain Company debt items are sensitive to changes in interest rates. The following table summarizes principal cash flows and related weighted average interest rates by expected maturity date for long-term debt, excluding capital leases ($ thousands): Expected Maturity Date Outstanding (Years Ended December 31) Dec. 31, 2002 2003 2004 2005 2006 2007 2011 ------------- ---- ---- ---- ---- ---- ---- Long Term Debt: Fixed Rate $1,080.4 $275.2 $275.2 $228.2 $ 15.6 -- $286.2 Avg. Int. Rate 8.5% 9.3% 9.3% 9.2% 9.0% -- 6.5% Variable Rate $429.0 $206.4 $185.8 $ 36.8 -- -- -- Avg. Int. Rate 5.5% 6.3% 5.9% 6.8% -- -- -- In the ordinary course of its business, the Company enters into commitments to purchase raw materials over a period of time, generally six months to one year, at contracted prices. At December 31, 2002 these future commitments were not at prices in excess of current market, or in quantities in excess of normal requirements. The Company does not utilize derivative contracts either to hedge existing risks or for speculative purposes. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA - --------------------------------------------------- Spectrum Organic Products, Inc. Financial Statements Years Ended December 31, 2002, 2001 and 2000 Statement of Management Responsibility Report of Independent Certified Public Accountants Financial Statements: Balance Sheets Statements of Operations Statement of Stockholders' Equity Statements of Cash Flows Summary of Significant Accounting Policies Notes to Financial Statements Financial Statement Schedule: Schedule II - Valuation and Qualifying Accounts ================================================================================ - -------------------------------------------------------------------------------- Page 23
Statement of Management Responsibility Spectrum Organic Products' management is responsible for the preparation, integrity and objectivity of the financial statements and other financial information presented in this report. The accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America and reflect the effects of certain estimates and judgments made by management. Management maintains an effective system of internal control that is designed to provide reasonable assurance that assets are safeguarded and transactions are properly recorded and executed in accordance with management's authorization. The system is continuously monitored by management. We select and train qualified people who are provided with and expected to adhere to Spectrum Organic Products' standards of business conduct. These standards, which set forth strong principles of business ethics and conduct, are a key element of our control system. Our financial statements have been audited by BDO Seidman, LLP, independent accountants. Their audits were conducted in accordance with auditing standards generally accepted in the United States of America, and included a review of financial controls and tests of accounting records and procedures as they considered necessary in the circumstances. Their report follows this statement by management. The Audit Committee of the Board of Directors, which consists entirely of outside directors, meets regularly with management and the independent accountants to review accounting, reporting, auditing and internal control matters. The Committee has direct and private access to both the Chief Financial Officer and the independent accountants. /s/ Neil G. Blomquist /s/ Robert B. Fowles - --------------------------- ------------------------------------ Neil G. Blomquist Robert B. Fowles President and Chief Chief Financial Officer Executive Officer and Secretary - -------------------------------------------------------------------------------- Page 24 Report of Independent Certified Public Accountants To the Stockholders and Board of Directors of Spectrum Organic Products, Inc. We have audited the accompanying balance sheets of Spectrum Organic Products, Inc. as of December 31, 2002 and 2001 and the related statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2002. We have also audited the schedule listed in the accompanying index. These financial statements and the schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and the schedule based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements and the schedule are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements and the schedule. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements and the schedule. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Spectrum Organic Products, Inc. as of December 31, 2002 and 2001 and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2002 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the schedule presents fairly in all material respects, the information set forth therein. As discussed in note 8 to the financial statements, effective January 1, 2002 the Company adopted the provisions of SFAS No. 142, "Goodwill and Other Intangible Assets", as required for the accounting of its goodwill and other intangible assets. /s/ BDO Seidman, LLP - ---------------------------------- BDO Seidman, LLP San Francisco, California February 21, 2003 - -------------------------------------------------------------------------------- Page 25
Spectrum Organic Products, Inc. Balance Sheets ===================================================================================================== As of December 31, 2002 2001 - ----------------------------------------------------------------------------------------------------- Assets Current Assets: Cash $ 1,000 $ 1,200 Accounts receivable, net (Note 5) 3,075,200 3,427,900 Inventories, net (Note 6) 5,269,600 5,966,600 Prepaid expenses and other current assets 79,600 68,900 ------------ ------------ Total Current Assets 8,425,400 9,464,600 ------------ ------------ Property and Equipment, net (Notes 4, 7 and 13) 3,447,400 3,239,000 ------------ ------------ Other Assets: Goodwill, net (Notes 2, 4 and 8) -- 1,470,200 Other intangible assets, net (Note 9) 42,000 54,000 Other assets 271,900 72,000 ------------ ------------ Total Other Assets 313,900 1,596,200 ------------ ------------ Total Assets $ 12,186,700 $ 14,299,800 ============ ============ Liabilities and Stockholders' Equity Current Liabilities: Bank overdraft $ 589,300 $ 546,400 Line of credit (Note 10) 2,479,800 4,598,800 Accounts payable, trade (Note 6) 3,330,000 3,676,600 Accrued expenses (Note 18) 722,500 904,300 Income taxes payable (Note 14) 176,000 -- Current maturities of notes payable, former stockholder (Note 11) 187,500 281,300 Current maturities of notes payable, stockholders (Note 12) 87,600 111,700 Current maturities of notes payable & capital lease obligations (Note 13) 256,000 375,200 ------------ ------------ Total Current Liabilities 7,828,700 10,494,300 Notes payable, former stockholder, less current maturities (Note 11) 676,800 811,200 Notes payable, stockholders, less current maturities (Note 12) 128,400 225,500 Notes payable & capital lease obligations, less current maturities (Note 13) 278,900 671,300 ------------ ------------ Total Liabilities 8,912,800 12,202,300 ------------ ------------ Commitments and Contingencies (Notes 10 and 18) Stockholders' Equity (Notes 1, 16, 17, 18 and 19): Preferred stock, 5,000,000 shares authorized, no shares issued or outstanding -- -- Common stock, without par value, 60,000,000 shares authorized, 45,705,571 and 45,698,661 issued and outstanding at December 31, 2002 and 2001 9,430,100 9,373,700 Accumulated deficit (6,156,200) (7,276,200) ------------ ------------ Total Stockholders' Equity 3,273,900 2,097,500 ------------ ------------ Total Liabilities and Stockholders' Equity $ 12,186,700 $ 14,299,800 ============ ============ See accompanying summary of significant accounting policies and notes to financial statements. - ----------------------------------------------------------------------------------------------------- Page 26
Spectrum Organic Products, Inc. Statements of Operations ========================================================================================= For the years ended December 31, 2002 2001 2000 - ----------------------------------------------------------------------------------------- Net Sales (Note 5) $ 40,660,200 $ 41,051,000 $ 42,198,800 Cost of Goods Sold (Notes 3, 4, 6 and 18) 30,077,100 30,009,700 32,023,700 ------------ ------------ ------------ Gross Profit 10,583,100 11,041,300 10,175,100 ------------ ------------ ------------ Operating Expenses: Sales and Marketing 6,068,400 5,823,100 5,974,000 General and Administrative 2,949,500 3,194,900 3,542,700 Amortization of Goodwill (Notes 2 and 8) -- 520,700 909,600 ------------ ------------ ------------ Total Operating Expenses 9,017,900 9,538,700 10,426,300 Gain (Loss) on Sales of Product Lines (Note 2) 210,300 (4,803,200) -- Loss on Asset Impairment Writedown and Plant Closure Notes 4 and 7) -- (950,000) (436,500) ------------ ------------ ------------ Income (Loss) From Operations 1,775,500 (4,250,600) (687,700) ------------ ------------ ------------ Other Income (Expense): Interest Expense (Notes 10, 11, 12 and 13) (480,600) (912,800) (1,381,500) Other, Net 14,900 (42,400) 70,800 ------------ ------------ ------------ Total Other Expense, Net (465,700) (955,200) (1,310,700) ------------ ------------ ------------ Income (Loss) Before Taxes 1,309,800 (5,205,800) (1,998,400) Provision for Income Taxes (Note 14) (189,800) -- (3,900) ------------ ------------ ------------ Net Income (Loss) $ 1,120,000 $ (5,205,800) $ (2,002,300) ------------ ------------ ------------ Basic and Fully Diluted Income (Loss) Per Share (Note 16) $ 0.02 $ (0.12) $ (0.05) ============ ============ ============ Weighted Average Shares Outstanding 45,699,627 45,278,517 44,234,378 ============ ============ ============ See accompanying summary of significant accounting policies and notes to financial statements. - ----------------------------------------------------------------------------------------- Page 27
Statement of Stockholders' Equity For the years ended December 31, 2000, 2001 and 2002 =============================================================================================================== Retained Total Earnings Stockholders' Common Stock (Accumulated Equity Shares Amount Deficit) (Deficit) - --------------------------------------------------------------------------------------------------------------- Balances, January 1, 2000 43,914,186 $ 8,481,500 $ (68,100) $ 8,413,400 Restricted common shares issued in connection with the settlement of litigation 400,000 318,800 -- 318,800 Exercise of warrants issued in connection with the private placement notes (Notes 13 and 17) 181,642 1,400 -- 1,400 Warrants issued in connection with the private placement notes (Notes 13 and 17) -- 118,700 -- 118,700 Net loss for the year -- -- (2,002,300) (2,002,300) ----------- ----------- ----------- ----------- Balances, December 31, 2000 44,495,828 $ 8,920,400 $(2,070,400) $ 6,850,000 Restricted common shares issued to a non-executive Director of the Company, under a private sale (Note 19) 160,000 50,000 -- 50,000 Restricted common shares issued to non-executive Directors of the Company, in lieu of cash compensation for Board fees earned during CY 2000 64,000 20,000 -- 20,000 Restricted common shares issued to four note holders under the private placement conversion offer to convert the notes to equity (Note 13) 630,000 168,200 -- 168,200 Warrants net exercised by the note holders under the private placement (Notes 13 and 17) 230,883 -- -- -- Warrants issued in connection with the private placement notes (Notes 13 and 17) -- 96,100 -- 96,100 Options issued to Global Natural Brands, Ltd. in final settlement of litigation -- 25,300 -- 25,300 Shares issued to the Trustee for the Chapter 7 estate of Sunny Farms in final settlement of litigation 117,950 93,700 -- 93,700 Net loss for the year -- -- (5,205,800) (5,205,800) ----------- ----------- ----------- ----------- Balances, December 31, 2001 45,698,661 $ 9,373,700 $(7,276,200) $ 2,097,500 Warrants net exercised by the note holders under the private placement notes (Notes 13 and 17) 6,910 -- -- -- Warrants issued in connection with the private placement notes (Notes 13 and 17) -- 49,500 -- 49,500 Non-qualified stock options issued -- 6,900 -- 6,900 Net income for the year -- -- 1,120,000 1,120,000 ----------- ----------- ----------- ----------- Balances, December 31, 2002 45,705,571 $ 9,430,100 $(6,156,200) $ 3,273,900 =========== =========== =========== =========== See accompanying summary of significant accounting policies and notes to financial statements. - --------------------------------------------------------------------------------------------------------------- Page 28
Spectrum Organic Products, Inc. Statements of Cash Flows ============================================================================================================= For the years ended December 31, 2002 2001 2000 - ------------------------------------------------------------------------------------------------------------- Net Income (Loss) $ 1,120,000 $ (5,205,800) $ (2,002,300) Adjustments to Reconcile Net Income (Loss) to Net Cash Provided by (Used in) Operating Activities: Provision for allowance against receivables 47,000 68,300 294,900 Provision for reserves for inventory obsolescence 262,200 300,500 614,500 Depreciation and amortization 454,300 418,800 531,000 Amortization of goodwill -- 520,700 909,600 Loss on asset writedowns and plant closure -- 950,000 436,500 (Gain) Loss on sale of product lines (210,300) 4,803,200 -- (Gain) Loss on sale of assets -- 84,100 (50,000) Imputed interest on notes payable and warrants issued 71,300 107,600 169,300 Capitalized interest on construction in progress (27,800) (49,200) (54,800) Increase in cash surrender value of life insurance (21,800) (18,900) (21,200) Imputed expense on non-qualified stock options 6,900 -- -- Directors fees paid in common stock -- 20,000 -- Professional fees paid via issuance of notes payable -- -- 75,000 Amortization of original issue discount on unsecured subordinated notes -- -- 55,200 Changes in Assets and Liabilities: Accounts receivable 430,400 (524,500) 284,800 Inventories (1,057,700) (420,600) (704,000) Income tax refunds receivable -- -- 31,100 Prepaid expenses and other current assets (10,700) 42,900 103,400 Other assets (21,800) 11,000 112,100 Accounts payable (346,600) (2,203,900) 24,000 Accrued expenses (181,800) 188,900 (436,300) Income taxes payable 176,000 -- (13,300) ------------ ------------ ------------ Net Cash Provided by (Used in) Operating Activities 689,600 (906,900) 359,500 ------------ ------------ ------------ Cash Flows From Investing Activities: Purchase of property and equipment (631,500) (473,500) (308,500) Proceeds from sale of product lines and related inventories 3,215,200 2,953,100 50,000 Transaction fees on sale of product lines (152,000) (139,700) -- Proceeds from sale of assets -- 3,000 383,000 Merger and related transaction costs -- -- (105,000) Packaging development costs (60,000) -- -- ------------ ------------ ------------ Net Cash Provided by Investing Activities 2,371,700 2,342,900 19,500 ------------ ------------ ------------ Cash Flows From Financing Activities: Increase in checks drawn against future deposits 42,900 7,400 309,700 Proceeds from lines of credit 43,931,000 43,677,700 44,317,300 Repayment of lines of credit (46,050,000) (44,511,000) (43,823,100) Repayment of notes payable, former stockholder (250,000) (265,600) (381,300) Repayment of notes payable to stockholders (121,200) (160,800) (264,000) Proceeds of notes payable -- 132,700 276,100 Repayment of notes payable (442,600) (287,500) (754,300) Repayment of life insurance loan (102,600) -- -- Repayment of capitalized lease obligations (69,000) (78,600) (61,000) Restricted shares purchased by board member -- 50,000 -- Warrants exercised -- -- 1,400 ------------ ------------ ------------ Net Cash Used in Financing Activities (3,061,500) (1,435,700) (379,200) ------------ ------------ ------------ Net Increase (Decrease) in Cash (200) 300 (200) Cash, beginning of the year 1,200 900 1,100 ------------ ------------ ------------ Cash, end of the year $ 1,000 $ 1,200 $ 900 ------------ ------------ ------------ Supplemental Disclosure of Cash Flow Information: Cash paid for income taxes $ 13,800 $ 800 $ 15,700 Cash paid for interest $ 446,300 $ 805,200 $ 1,031,500 Non-Cash Financing Activities: Conversion of notes payable to common stock $ -- $ 168,200 $ -- ============ ============ ============ See accompanying summary of significant accounting policies and notes to financial statements. - ------------------------------------------------------------------------------------------------------------- Page 29
Spectrum Organic Products, Inc. Summary of Significant Accounting Policies ================================================================================ Business Divestitures and Basis of Presentation - ----------------------------------------------- The Company was formed on October 6, 1999 by the four-way reverse merger of Spectrum Naturals, Inc. ("SNI"), its affiliate Spectrum Commodities, Inc. ("SCI"), Organic Ingredients, Inc. ("OI") with and into Organic Food Products, Inc. ("OFPI"). On June 11, 2001 and April 25, 2002 the Company divested the OFPI and OI product lines, respectively, in order to raise working capital and focus on its core business in healthy fats and oils. Accordingly, results of operations for the years ended December 31, 2001 and 2002 include the operating results of the disposed product lines until the dates of sale. Nature of Operations - -------------------- The Company manufactures, packages and sells nutritional supplements and organic and natural food products, including cooking and nutritional oils, condiments, dressings and spreads on a wholesale basis to distributors throughout the United States, Canada, Europe and the Far East and to other manufacturers as industrial organic ingredients. Company headquarters, principal manufacturing facilities and industrial ingredient warehousing and distribution are located in Petaluma, California. Warehousing and distribution of the Company's branded product lines has been consolidated at a third-party facility in Rancho Cucamonga, California. Business Segments - ----------------- The Company does not presently manage its operations by business segment and does not prepare internal financial statements by business segment for use by Management. Accordingly, the Company's results of operations and financial position have not been disaggregated and reported by business segment since the information is presently unavailable to the Company's chief operating decision maker. Critical Accounting Estimates - ----------------------------- The preparation of financial statements in conformity with generally accepted accounting principles requires Management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. The Company bases its estimates on historical experience and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for the carrying values of assets and liabilities that are not readily apparent from other sources. On an on-going basis, the Company re-evaluates all of its estimates utilizing the most recent information available to it. Actual results may differ materially from these estimates under different assumptions or conditions and as additional information becomes available in future periods. The most significant estimates made by the Company are those concerning reserves against accounts receivable and inventory, the industrial accident reserve and the deferred tax asset valuation allowance. Stock-Based Compensation - ------------------------ Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), established a fair value method of accounting for stock-based compensation plans and for transactions in which an entity acquires goods or services from non-employees in exchange for equity instruments. As permitted under SFAS 123, the Company has chosen to continue to account for - -------------------------------------------------------------------------------- Page 30
employee stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"). Accordingly, compensation expense for employee stock options is measured as the excess, if any, of the fair market price of the Company's stock at the date of grant over the amount an employee must pay to acquire the stock. Options granted to non-employees are recorded over the service period at the estimated fair value of the option granted. All stock options issued to employees have an exercise price not less than the fair market value of the Company's common stock on the date of grant. In accordance with the accounting for such options utilizing the intrinsic value method, there is no related compensation expense recorded in the Company's financial statements. Had compensation cost for stock-based compensation been determined based on the fair value of the options at the grant dates consistent with SFAS 123, the Company's net income or loss and net income or loss per share for the years ended December 31, 2002, 2001 and 2000 would have been adjusted to the pro-forma amounts presented below: Years ended December 31, 2002 2001 2000 - ------------------------------------------------------------------------------------------------------------ Net income (loss) as reported $ 1,120,000 $(5,205,800) $(2,002,300) Less: Total compensation expense under fair value method for all stock-based awards, net of related tax effects (109,700) (93,300) (46,200) ----------- ----------- ----------- Pro-forma net income (loss) $ 1,010,300 $(5,299,100) $(2,048,500) =========== =========== =========== Basic and diluted income (loss) per share: As reported $ 0.02 $ (0.12) $ (0.05) Pro-forma $ 0.02 $ (0.12) $ (0.05) ============================================================================================================ The fair value of option grants for 2002 was estimated on the date of grant utilizing the Black-Scholes option-pricing model, with the following assumptions: expected life of five years, risk-free interest rate of 2.5%, no dividend yield and volatility of 142% to 214%. The fair value of option grants for 2001 was estimated on the date of grant utilizing the Black-Scholes option-pricing model, with the following assumptions: expected life of five years, risk-free interest rates of 2.5% to 4.25%, no dividend yield and volatility of 188% to 201%. The fair value of option grants for 2000 was estimated on the date of grant utilizing the Black-Scholes option-pricing model, with the following assumptions: expected life of five years, risk-free interest rate of 5.0%, no dividend yield and volatility of 214%. Accounts Receivable Allowances - ------------------------------ The Company provides allowances for estimated credit losses, product returns, spoilage and other customer adjustments (for advertising allowances, etc.) at a level deemed appropriate to adequately provide for known and inherent risks related to such amounts. These allowances are based upon the Company's historical experience with bad debt write-offs and customer deductions, customer creditworthiness, payment trends and general economic conditions. Inventory - --------- Inventory is stated at the lower of cost (first-in, first-out method) or market. Reserves are maintained for obsolete or unsaleable inventories to reduce the carrying cost of such inventories to market value. The reserve estimates are based upon historical inventory usage, spoilage, current market conditions and anticipated future demand. - -------------------------------------------------------------------------------- Page 31
Property and Equipment - ---------------------- Property and equipment are recorded at cost. Depreciation is provided using the straight-line method over the estimated useful lives of the assets, ranging from three to 25 years. Maintenance and repairs that neither significantly add to the value of the property nor appreciably prolong its life are charged to expense as incurred. Betterment or renewals are capitalized when incurred. Goodwill and Intangible Assets - ------------------------------ The excess of purchase consideration including transaction costs over the identifiable tangible and intangible net assets of businesses acquired is recorded as goodwill. Through December 31, 2001 goodwill was amortized under the straight-line method over the estimated useful life of twelve years. In accordance with SFAS 142, the Company ceased the amortization of goodwill as of January 1, 2002. On April 25, 2002 the Company sold the Organic Ingredients product lines and related goodwill which reduced goodwill to zero. Trademark, label development and other intangible assets without an indefinite life are amortized under the straight-line method over their estimated useful lives, generally five years. Long-Lived Assets - ----------------- Long-lived assets including property and equipment, goodwill and other intangible assets are assessed for possible impairment whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable, or whenever Management has committed to a plan to dispose of the assets. Such assets are carried at the lower of cost or fair market value as estimated by Management based on appraisals, current market value or comparable sales value, as appropriate. Long-lived assets to be retained that are affected by such impairment losses are depreciated or amortized at their new carrying amount over the remaining estimated life. Long-lived assets to be sold or otherwise disposed of are not subject to further depreciation or amortization. Income Taxes - ------------ The Company accounts for corporate income taxes in accordance with SFAS No. 109, "Accounting for Income Taxes", which requires an asset and liability approach. This approach results in the recognition of deferred tax assets (future tax benefits) and deferred tax liabilities for the expected future tax consequences of temporary timing differences between the financial statement amounts and the tax basis of assets and liabilities. Deferred tax assets are subject to a valuation allowance in the event Management believes there is risk that the future tax benefits may not be realized. Revenue Recognition - ------------------- In accordance with Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" ("SAB 101"), the Company recognizes revenue once there is evidence of an arrangement (such as a customer purchase order), the price and terms are final, delivery has occurred and collectibility is reasonably assured. Accordingly, sales and cost of goods sold are recognized when goods are shipped, at which time title and risk of loss have passed to the customer. The vast majority of the Company's sales are shipped under customer-arranged freight terms. In all other cases, shipping charges to customers are included in revenue with an offsetting expense included in cost of sales. - -------------------------------------------------------------------------------- Page 32 Advertising Costs - ----------------- Magazine advertising is expensed at the on-stand date when the consumer or trade is first exposed to the ad. Costs associated with the production of pamphlets and similar advertising literature are expensed in the initial period of distribution. Other advertising costs are expensed as incurred. Advertising expenses for the years ended December 31, 2002, 2001 and 2000 were $1,241,600, $810,300 and $660,000, respectively. Fair Value of Financial Instruments - ----------------------------------- The Company's notes payable and capital lease obligations approximate fair value based on rates currently available for debt with similar terms and maturities. The fair value of the line of credit approximates book value because the interest rate fluctuates with changes in the prime rate. The Company's commitments to purchase inventory approximate fair value because they do not differ materially from current market prices available to the Company and they do not exceed 12 months in duration. Net Income or Loss per Share - ---------------------------- Basic income or loss per share is computed by dividing net income or loss attributable to common shares by the weighted average number of common shares outstanding during each period. Fully diluted income or loss per share is similar to basic income or loss per share except that the weighted average number of common shares outstanding is increased to reflect the dilutive effect of potential common shares, such as those issuable upon the exercise of stock options or warrants, as if they had been issued. For fiscal year 2002 there was no difference between basic and fully diluted income per common share because the dilutive effect of the exercise of common stock options and warrants is insignificant. For the fiscal years 2001 and 2000 there was no difference between basic and fully diluted loss per common share because the effects of the exercise of common stock options and warrants were anti-dilutive, given the net loss incurred in those years. For each year presented, the following potential convertible common shares were outstanding: Number of Potential Convertible Shares -------------------------------------- 2002 2001 2000 ---- ---- ---- Stock Options 3,898,115 3,225,315 2,010,115 Stock Warrants 682,606 843,156 608,156 --------- --------- --------- Total Potential Convertible Shares 4,580,721 4,068,471 2,618,271 ========= ========= ========= New Applicable Accounting Pronouncements - ---------------------------------------- In May 2000 the Emerging Issues Task Force ("EITF") of the Financial Accounting Standards Board ("FASB") reached a consensus on Issue 00-14, "Accounting for Certain Sales Incentives". In April 2001 the EITF reached a consensus on Issue 00-25, "Vendor Income Statement Characterization of Consideration to a Purchaser of the Vendor's Products or Services". Both Issue 00-14 and 00-25 have been codified under Issue 01-09, "Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's Products". The Company adopted this Issue effective with the first quarter of 2002. EITF 01-09 requires the characterization of certain vendor sales incentives such as promotions, trade ads, slotting fees, and coupons as reductions of revenue. Certain of these expenses, previously classified as sales and marketing costs, are now characterized as offsets to revenue. Reclassifications have been made to prior - -------------------------------------------------------------------------------- Page 33 period financial statements to conform to the current year presentation. Total vendor sales incentives now characterized as reductions of revenue that previously would have been classified as sales and marketing costs were $341,600, $333,000 and 291,300 for 2002, 2001 and 2000, respectively. In June 2001 the FASB finalized SFAS 141, "Business Combinations," and SFAS 142, "Goodwill and Other Intangible Assets". SFAS 141 requires the use of the purchase method of accounting and prohibits the use of the pooling-of-interests method of accounting for business combinations initiated after June 30, 2001. SFAS 141 also requires the recognition of acquired intangible assets apart from goodwill if the acquired intangible assets meet certain criteria. SFAS 141 applies to all business combinations initiated after June 30, 2001 and for purchase business combinations completed on or after July 1, 2001. SFAS 142 changes the way that companies account for goodwill, in that goodwill is no longer amortized but instead is tested (along with any other unamortized intangible assets) for impairment at least annually. The Company adopted the provisions of SFAS 142 effective January 1, 2002 (see Note 8). In August 2001 SFAS 144, "Accounting for the Impairment or Disposal of Long-lived Assets" was issued, superseding SFAS 121, "Accounting for the Impairment of Long-lived Assets to be Disposed of". SFAS 144 provides guidance on how long-lived assets used as part of a group should be evaluated for impairment, establishes criteria for when long-lived assets are held for sale, and prescribes the accounting for long-lived assets that will be disposed of other than by sale. SFAS 144 is effective for fiscal years beginning after December 15, 2001. The Company's financial position and results of operations have not been affected by the adoption of SFAS 144. In July 2002 the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standard No. 146 ("SFAS 146"), "Accounting for Costs Associated with Exit or Disposal Activities". SFAS 146 requires that a liability for expenses associated with an exit or disposal activity be recognized when the liability is incurred. SFAS 146 also establishes that fair value is the objective for initial measurement of the liability. Severance pay under SFAS 146, in many cases, would be recognized over time rather than up front. The provisions of SFAS 146 are effective for exit or disposal activities that are initiated after December 31, 2002 with early application encouraged. Management does not expect the adoption of SFAS 146 to have a material impact on the Company's financial condition or results of operations. In December 2002 the FASB issued SFAS 148, "Accounting for Stock-Based Compensation-Transition and Disclosure", which provides alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation as prescribed in SFAS 123, "Accounting for Stock-Based Compensation". Additionally, SFAS 148 requires more prominent and more frequent disclosures in financial statements about the effects of stock-based compensation. The provisions of SFAS 148 are effective for fiscal years ending after December 15, 2002 with early application permitted in certain circumstances. Management has evaluated the benefits of changing to the fair value method of accounting for stock-based compensation and has elected to continue to use the intrinsic value method. Accordingly, Management does not expect the adoption of SFAS 148 to have a material impact on the Company's financial condition or results of operations. In November 2002 the FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others", which is effective for financial statements issued after December 15, 2002. The Company has various guarantees included in contracts in the normal course of business primarily in the form of indemnities. However, these guarantees do not represent significant commitments or contingent liabilities in connection with the indebtedness of others. In January 2003 the FASB issued Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"), which requires the consolidation of certain special purpose or variable interest entities. FIN 46 is applicable to financial statements issued after 2002, however, disclosures are required currently if the Company expects to consolidate any variable interest entities. There are no entities that will be consolidated with the Company's financial statements as a result of FIN 46. - -------------------------------------------------------------------------------- Page 34 Reclassifications - ----------------- Certain reclassifications have been made to the prior year financial statements to be consistent with the current year presentation. These reclassifications had no impact on prior years net income or retained earnings. - -------------------------------------------------------------------------------- Page 35 Spectrum Organic Products, Inc. Notes to Financial Statements ================================================================================ 1. Business Combination and Subsequent Divestitures - ---------------------------------------------------- The Company was formed on October 6, 1999 by the four-way reverse merger of Spectrum Naturals, Inc. ("SNI"), its affiliate Spectrum Commodities, Inc. ("SCI"), Organic Ingredients, Inc. ("OI"), with and into Organic Food Products, Inc. ("OFPI"). OFPI was the registrant prior to the merger, but since a controlling interest in the Company is held by former SNI stockholders, the merger was accounted for as a reverse acquisition, with SNI as accounting acquirer and OI and OFPI as accounting acquirees. On June 11, 2001 the Company sold the OFPI tomato-based product lines to Acirca, Inc., an unrelated third party. Accordingly, results for the year ended December 31, 2001 include the operating results associated with the OFPI disposed product lines until the date of sale. On April 25, 2002 the Company sold the OI industrial ingredient product lines in fruits, vegetables, concentrates and purees to Acirca. Accordingly, results for the year ended December 31, 2002 include the operating results associated with the OI disposed product lines until the date of sale. 2. Sales of Product Lines - -------------------------- On April 25, 2002 the Company entered into an Asset Purchase Agreement with Acirca, Inc. pursuant to which the Company sold certain product lines from the Company's Aptos-based industrial ingredients business. The product lines sold included the Organic Ingredients ("OI") business in fruits, vegetables, concentrates and purees as well as certain key retailer private label product lines. The Spectrum Ingredients product lines consisting of culinary oils, vinegars and nutritional supplements were not part of the sale. The total consideration was $3,167,000 in cash, which included $1,417,000 for saleable inventory sold to Acirca. Also included in the total consideration received was $250,000 that was deposited into an escrow account to be applied towards indemnity claims of Acirca or, to the extent not utilized for any indemnity claims of Acirca, to be released to the Company in two equal installments on August 30, 2002 and December 31, 2002. The first installment of $125,000 was received in full on September 3, 2002. The final installment of $124,700 was received on January 31, 2003 and consisted of $125,000 plus interest earned on the escrowed funds less the escrow agent fees. On June 11, 2001 the Company sold its tomato-based consumer product lines to Acirca for $3,128,100 in cash which included $778,100 for saleable inventory and $350,000 that was deposited into an escrow account to be applied towards indemnity claims of Acirca. To the extent the escrowed funds were not utilized for any indemnity claims of Acirca, they were to be released to the Company in two equal installments at the six month and one year anniversaries of the sale. The first installment of $175,000 was received in full in December 2001. The final installment of $173,200 was received on July 17, 2002 and consisted of $175,000 plus interest earned on the escrowed funds less $6,700 paid to Acirca in full satisfaction of their indemnity claims. Due to the contingent nature of the escrowed funds, they were not recorded as consideration until constructive receipt. Since both product line sales comprised all of the remaining assets of both OI and OFPI, the remaining net goodwill associated with the reverse acquisition of both companies in October 1999 was written off as a result of the sales. Accordingly, the Company recorded the following gains and losses on the product line sales for the years ended December 31, 2002 and 2001: - -------------------------------------------------------------------------------- Page 36
----Sales of Product Lines---- 2002 2001 ----------- ----------- Total consideration $ 3,167,000 $ 3,128,100 Less escrowed funds included above (250,000) (350,000) ----------- ----------- Net cash proceeds from sales 2,917,000 2,778,100 Assets sold: Inventories (1,417,000) (778,100) Fixed assets, net of accumulated depreciation (8,600) (10,500) Goodwill, net of accumulated amortization (1,470,200) (6,776,200) Other assets (6,300) -- Transaction costs (152,000) (139,700) Reserve for remaining inventories not purchased (75,500) (51,800) ----------- ----------- Loss before collection of previously escrowed funds (212,600) (4,978,200) Subsequent collection of escrowed funds 422,900 175,000 ----------- ----------- Net Gain (Loss) on Sales of Product Lines $ 210,300 $(4,803,200) =========== =========== In both cases the Company applied the cash proceeds received against the outstanding borrowings under its revolving line of credit. Included in accounts receivable at December 31, 2002 was $124,700 of the escrowed funds on the sale of OI, which was contractually due at December 31, 2002 and received on January 31, 2003 after final negotiations between the parties were completed. After accounting for the escrowed funds and the OI goodwill impairment writedown recorded in December 2001 (see Note 4), the final net loss on the sale of OI was $912,900. After accounting for the final collection of the escrowed funds and related interest on the 2001 sale of the OFPI product lines, which were not recorded at the time of the sale due to their contingent nature, the final net loss on the sale of the OFPI product lines was $4,630,000. The transaction costs represented investment banking, legal fees and other expenses associated with closing the sales. Investment banking fees totaling $157,200 were paid to Moore Consulting, a sole proprietorship owned and operated by Phillip L. Moore, a non-executive Director of the Company. The fees were 2.5% of the total consideration on both sales. The reserve recorded for remaining inventories represented losses incurred or anticipated on inventories previously sold by the Company under the disposed product lines that were not purchased by Acirca. 3. Industrial Accident - ----------------------- On April 25, 2002 a tragic industrial accident occurred at the Company's manufacturing facility located in Petaluma, California in which two employees died from asphyxiation during regular routine maintenance of empty oil tanks. An investigation has been completed by the State of California Division of Occupational Safety and Health ("CAL-OSHA") and the Petaluma Police Department. On October 18, 2002 Management met with CAL-OSHA and received their report and notice of proposed penalties. There were nine citations for safety violations with total proposed penalties of $137,900. There were no willful citations and the CAL-OSHA report acknowledged that all the safety violations have been 100% abated by the Company. Management has filed a formal appeal with CAL-OSHA in the hopes of reducing the citations and proposed penalties. - -------------------------------------------------------------------------------- Page 37
Included in cost of goods sold for the year ended December 31, 2002 was $254,100 in expenses directly attributable to the accident. Included in that amount was a remaining reserve at December 31, 2002 of $153,700 to cover anticipated citations and fines from CAL-OSHA, workers compensation appeals and attorneys fees. The remaining $100,400 represented cash expenses associated with the accident for attorney's fees, safety consultants and assistance to the families of the deceased employees. There have been no criminal actions filed against the Company at the time of this report. 4. Asset Impairment Writedown and Plant Closure - ----------------------------------------------- As a result of negotiations that were underway at December 31, 2001 for the sale of the Organic Ingredients product lines, the Company determined that the net goodwill associated with the Organic Ingredients product lines was impaired. Accordingly, the Company recorded a non-cash writedown of $950,000 to reduce the goodwill carrying amount at December 31, 2001 to its estimated net realizable value of $1,470,200 (see Note 8). In May 2000 the Company committed to a plan to close its leased manufacturing facility in Morgan Hill, California and transfer the production of the OFPI brands to a third-party co-packer. Production at the Morgan Hill facility and depreciation of the Morgan Hill assets ceased as of July 31, 2000. Included in cost of sales for the year ended December 31, 2000 was $53,100 of severance and shutdown expenses associated with the closing of the facility. In addition, a loss on the disposal of property and equipment of $436,500 was recorded in 2000 on the sale of surplus bottling equipment and the abandonment of leasehold improvements at the Morgan Hill facility. 5. Sales and Accounts Receivable - -------------------------------- During the years ended December 31, 2002, 2001 and 2000, net sales by product line were as follows: 2002 2001 2000 ---- ---- ---- Spectrum Naturals(R)Culinary Products $ 18,487,800 $ 15,944,400 $ 13,727,100 Spectrum Essentials(R)Nutritional Supplements 9,524,400 8,030,100 7,181,600 Spectrum Ingredients/Private Label Products 9,433,200 7,348,800 7,509,400 ------------ ------------ ------------ Comparable Net Sales 37,445,400 31,323,300 28,418,100 Disposed/Discontinued Product Lines 3,214,800 9,727,700 13,780,700 ------------ ------------ ------------ Total Net Sales $ 40,660,200 $ 41,051,000 $ 42,198,800 ============ ============ ============ In accordance with the Emerging Issues Task Force Issue No. 01-09, "Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's Products", the Company now accounts for slotting fees paid to a customer to secure retail shelf space as a reduction to net sales rather than a sales and marketing expense. Accordingly, operating results for 2001 and 2000 have been restated to a comparable basis. Slotting fees for the years ended December 31, 2002, 2001 and 2000 were $341,600, $333,000 and $291,300, respectively. - -------------------------------------------------------------------------------- Page 38
Accounts receivable consisted of the following: December 31, 2002 2001 - ----------------------------------------------------------------------------- Trade $ 3,306,800 $ 3,821,800 Stockholder 20,000 20,000 Other 164,400 61,100 ----------- ----------- Total accounts receivable 3,491,200 3,902,900 Less allowance for doubtful accounts and customer allowances 416,000 475,000 ----------- ----------- Net Accounts Receivable $ 3,075,200 $ 3,427,900 =========== =========== During 2002 the Company had one customer that accounted for approximately 50% of net sales and approximately 23% of trade accounts receivable at December 31, 2002. During 2001 the same customer accounted for approximately 39% of net sales and approximately 11% of trade accounts receivable at December 31, 2001. During 2000 the same customer accounted for approximately 29% of net sales and approximately 22% of trade accounts receivable at December 31, 2000. The loss of this customer would have a material adverse effect on the Company's operations and cash flows. During 2002, 2001 and 2000 foreign sales comprised 7%, 6% and 6%, respectively, of total net sales and approximately 4%, 6% and 7% of trade accounts receivable at December 31, 2002, 2001 and 2000, respectively. 6. Inventories - -------------- Inventories consisted of the following: December 31, 2002 2001 - ----------------------------------------------------------------------------- Finished goods $ 4,409,500 $ 5,633,000 Raw materials 1,408,100 683,600 ----------- ----------- Total inventories 5,817,600 6,316,600 Less provision for obsolete inventory 548,000 350,000 ----------- ----------- Net Inventories $ 5,269,600 $ 5,966,600 =========== =========== For 2002, 2001 and 2000 the Company had one supplier of raw materials that accounted for approximately 11%, 6% and 9%, respectively, of total purchases of raw materials and one supplier of processing (co-packer) that accounted for approximately 11%, 6% and 9%, respectively, of total cost of sales. At December 31, 2002, 2001 and 2000 approximately $564,500, $244,300 and $542,000 was owed to these suppliers and included in accounts payable. - -------------------------------------------------------------------------------- Page 39
7. Property and Equipment - ------------------------- Property and equipment consisted of the following: December 31, 2002 2001 - -------------------------------------------------------------------------- Machinery and equipment $ 4,338,600 $ 3,775,600 Furniture and fixtures 873,500 821,200 Construction in progress 442,200 463,100 Leasehold improvements 244,600 239,000 Vehicles 84,000 84,000 ----------- ----------- Total property and equipment 5,982,900 5,382,900 Less accumulated depreciation 2,535,500 2,143,900 ----------- ----------- Net Property and Equipment $ 3,447,400 $ 3,239,000 =========== =========== During the years ended 2002, 2001 and 2000, the Company capitalized interest of $27,800, $49,200 and $54,800 respectively, on construction in progress. There was one significant project at December 31, 2002 for an ethanol fractionating tower which Management has placed on hold while it evaluates other sites for its manufacturing facility. Spending on the ethanol fractionating tower totaled $155,000 at December 31, 2002. Management estimates that an additional $200,000 of expenditures are necessary to complete the project. Depreciation expense was $442,300, $405,100 and $504,200 for 2002, 2001 and 2000, respectively. 8. Goodwill - ----------- The Company recorded goodwill for the excess of the purchase consideration and transaction costs versus the identifiable net assets of the businesses acquired in the 1999 merger. During 2001 and 2002 the Company divested the businesses acquired in the merger in order to raise working capital. The following table sets forth the transactions affecting goodwill for the years ended December 31, 2000, 2001 and 2002: OFPI OI TOTAL ---- -- ----- Balances, January 1, 2000 $ 7,301,600 $ 2,920,100 $ 10,221,700 Amortization expense for 2000 (661,100) (248,500) (909,600) Additional goodwill recorded in 2000 for litigation settlement and escaped property taxes 405,000 -- 405,000 ------------ ------------ ------------ Balances, December 31, 2000 7,045,500 2,671,600 9,717,100 Amortization expense for 2001 (269,300) (251,400) (520,700) Sale of OFPI product lines (Note 2) (6,776,200) -- (6,776,200) Writedown of OI goodwill to net realizable value (Note 4) -- (950,000) (950,000) ------------ ------------ ------------ Balances, December 31, 2001 -- 1,470,200 1,470,200 Sale of OI product lines (Note 2) -- (1,470,200) (1,470,200) ------------ ------------ ------------ Balances, December 31, 2002 $ -- $ -- $ -- ============ ============ ============ - --------------------------------------------------------------------------------------------------------- Page 40
In accordance with Financial Accounting Standards Board Statement No. 142, the Company ceased the amortization of the remaining goodwill as of January 1, 2002. Had SFAS 142 been in effect prior to January 1, 2002 reported results would have been adjusted as follows: Years Ended December 31, ------------------------ 2002 2001 2000 ---- ---- ---- Net income (loss) as reported $ 1,120,000 $ (5,205,800) $ (2,002,300) Goodwill amortization -- 520,700 909,600 ------------ ------------- ------------- Adjusted net income (loss) $ 1,120,000 $ (4,685,100) $ (1,092,700) ============ ============= ============= Basic and fully diluted net income (loss) per share: As reported $ 0.02 $ (0.12) $ (0.05) Effect of goodwill amortization -- 0.01 0.02 ------------ ------------- ------------- Adjusted basic and fully diluted net income (loss) per share $ 0.02 $ (0.11) $ (0.03) ============ ============= ============= 9. Other Intangible Assets - -------------------------- Other intangible assets consisted of the following: December 31, 2002 2001 - -------------------------------------------------------------------------------- Trademarks $ 74,100 $ 74,100 Label development 80,800 80,800 Covenant not-to-compete 76,500 76,500 -------- -------- Total other intangible assets 231,400 231,400 Less accumulated amortization 189,400 177,400 -------- -------- Net Other Intangible Assets $ 42,000 $ 54,000 ======== ======== Amortization expense was $12,000, $13,700 and $26,800 for the years ending December 31, 2002, 2001 and 2000, respectively. The following table discloses estimated amortization expense for intangible assets for each of the five succeeding fiscal years: 2003 $ 5,100 2004 2,000 2005 2,000 2006 2,000 2007 2,000 10. Line of Credit - ------------------ The Company has available a $9,000,000 revolving line of credit, subject to a borrowing base limitation based upon a percentage of eligible accounts receivable and inventory, bearing interest at prime plus 1% per annum (5.25% at December 31, 2002) which expires on October 5, 2004. Borrowings under the revolving line of credit totaled $2,479,800 at December 31, 2002 versus $4,598,800 at December 31, 2001. The credit line is secured by substantially all assets of the Company and life insurance policies on the Chairman of the Board and Chief Executive Officer. As of December 31, 2002 the Company had $1,696,700 in excess borrowing capacity available under the line of credit versus $955,800 at December 31, 2001. - -------------------------------------------------------------------------------- Page 41
The line of credit calls for the Company to maintain compliance with certain financial covenants. At December 31, 2002 the Company was in compliance with all covenants and other requirements under the Credit Agreement except for one covenant setting a limit on capital expenditures for 2002 of $600,000. Actual spending on capital expenditures was $631,500 in 2002. The bank has granted the Company a waiver with regards to their default rights in connection with that covenant breach. 11. Notes Payable, Former Stockholder - ------------------------------------- Notes payable, former stockholder consisted of the following: December 31, 2002 2001 ------------------------------------------------------------------------------ Note payable with interest due monthly at 9% per annum. Principal is due in monthly installments of $15,625 until paid in full. The note is secured by a collateral assignment of a life insurance policy on the majority stockholder and unissued shares of common stock in an amount equivalent to the unpaid principal and interest due under the note. The note is subordinated to the line of credit and all notes payable to the bank. (a) $578,100 $828,100 Non-interest bearing, unsubordinated and unsecured note due on December 31 of the fourth year following the calendar year which includes the final payment on the above note, expected to be 2011. Interest has been imputed at an effective interest rate of 6.5% per annum. (b) 286,200 264,400 --------- -------- Total Notes Payable - Former Stockholder 864,300 1,092,500 Less current maturities 187,500 281,300 --------- --------- Long-term Portion of Notes Payable - Former Stockholder $ 676,800 $ 811,200 ========= ========= (a) In November 2002 the Company entered into the Seventh Amendment to the Redemption Agreement with the former stockholder. Under the amendment the interest rate was reduced from 12% to 9% per annum and monthly principal payments were reduced from $31,250 to $15,625 until the note is paid in full. The former stockholder retains the unilateral right to return to monthly principal payments of $31,250 upon 60 days written notice to the Company. (b) The Seventh Amendment to the Redemption Agreement also deferred the final payment under this note by two years since it is dependent on the final payment on the secured note. The Company accounted for the two year deferral on the unsecured note by lowering the imputed effective interest rate. Aggregate maturities or principal payments required on notes payable, former stockholder for each of the succeeding years are included in Note 13. - -------------------------------------------------------------------------------- Page 42 12. Notes Payable to Stockholders - --------------------------------- Notes payable to stockholders consisted of the following: December 31, 2002 2001 - -------------------------------------------------------------------------------- Unsecured subordinated note due in monthly installments of $4,300 including principal and interest at 10% per annum $ 125,600 $ 204,000 Unsecured subordinated notes due in monthly installments of $8,500 including principal and interest at 10% per annum 90,400 133,200 --------- --------- Total Notes Payable to Stockholders 216,000 337,200 Less Current Maturities 87,600 111,700 --------- --------- Long-term Portion of Notes Payable-Stockholders $ 128,400 $ 225,500 ========= ========= Aggregate maturities or principal payments required on notes payable to stockholders are included in Note 13. 13. Notes Payable and Capital Lease Obligations - ----------------------------------------------- Notes payable and capital lease obligations consisted of the following: December 31, 2002 2001 - -------------------------------------------------------------------------------- Senior Debt: Term notes payable to bank, due in monthly principal installments of $17,200 plus interest at prime plus 1.25% per annum (5.5% at December 31, 2002), secured by substantially all assets of the Company (a) $ 429,000 $ 635,300 Capital lease obligations secured by the related property and equipment (b) 105,900 174,900 Subordinated Debt: Private placement notes, unsecured, principal due in annual installments of $28,100 through December 31, 2003 plus interest at 10% per annum and quarterly common stock purchase warrants (see Note 17) priced at the closing bid price of SPOP shares (c) -- 236,300 ---------- ---------- Total Notes Payable and Capital Lease Obligations 534,900 1,046,500 Less current maturities 256,000 375,200 ---------- ---------- Long-term Portion of Notes Payable and Capital Lease Obligations $ 278,900 $ 671,300 ========== ========== (a) There are three separate term notes payable to the bank, two with 60 month terms and one with 36 month terms. (b) The cost of assets securing the capital lease obligations was $438,900 at December 31, 2002 and 2001, with accumulated amortization of $240,000 and $183,500 at December 31, 2002 and 2001, respectively. - -------------------------------------------------------------------------------- Page 43
(c) The private placement notes were retired one year early on December 27, 2002 with borrowings under the line of credit since they represented the Company's highest cost debt. Non cash interest expense of $49,500, $96,100 and $118,700 was incurred during the years ended December 31, 2002, 2001 and 2000, respectively, for the value of the common stock purchase warrants issued to the private placement note holders. The warrants were valued utilizing the Black-Scholes pricing model with the following assumptions: expiration date of December 31, 2003, risk free interest rates of 2.5% to 5.0%, no dividend yield and volatility of 132% to 214%. Aggregate maturities or principal payments required on all types of long-term debt and capital lease obligations for each of the succeeding years are as follows: Total Bank Term Stockholder Former Cap. Lease Long- Years Ended December 31, Notes Notes Stockholder Obligations Term Debt - ------------------------ ---------- ---------- ---------- ---------- ---------- 2003 $206,400 $ 87,600 $187,500 $ 62,700 $ 544,200 2004 185,800 87,700 187,500 51,900 512,900 2005 36,800 40,700 187,500 20,100 285,100 2006 -- -- 15,600 -- 15,600 2011 -- -- 513,300 -- 513,300 ---------- ---------- ---------- ---------- ---------- Total Future Payments 429,000 216,000 1,091,400 134,700 1,871,100 Less amounts representing interest -- -- 227,100 28,800 255,900 ---------- ---------- ---------- ---------- ---------- Total Long-Term Debt, including current maturities $429,000 $216,000 $864,300 $105,900 $ 1,615,200 ========== ========== ========== ========== ========== 14. Provision for Income Taxes and Deferred Income Taxes - -------------------------------------------------------- The provision for income taxes consisted of the following: Years ended December 31, 2002 2001 2000 - ------------------------------------------------------------------------------- Current: Federal $ -- $ -- $ (1,400) State 189,800 -- 5,300 --------- --------- --------- Subtotal Current 189,800 -- 3,900 --------- --------- --------- Deferred: Federal -- -- -- State -- -- -- --------- --------- --------- Subtotal Deferred -- -- -- --------- --------- --------- Total Provision for Income Taxes $ 189,800 $ -- $ 3,900 ========= ========= ========= - -------------------------------------------------------------------------------- Page 44
A reconciliation of the federal statutory rate to the tax provision of the corresponding years follows: Years Ending December 31, 2002 2001 2000 - -------------------------------------------------------------------------------------------- Tax expense (benefit) at effective federal statutory rate $ 445,300 $(1,772,900) $ (679,500) Disposal of non-deductible goodwill 499,900 2,303,900 -- Impairment loss on non-deductible goodwill -- 323,000 -- Goodwill amortization -- 177,100 309,300 Other non-deductible expense 11,800 57,700 21,200 State income tax expense, net of federal effect 51,600 94,000 22,200 Valuation allowance (867,200) (1,104,200) 324,100 Other 48,400 (78,600) 6,600 ------------ ----------- ----------- Total Provision for Income Taxes $ 189,800 $ -- $ 3,900 ============ =========== =========== Deferred tax assets and liabilities consisted of the following: December 31, 2002 2001 - ------------------------------------------------------------------------------- Deferred Tax Assets: Federal net operating loss carryovers $ 1,761,400 $ 2,384,100 Inventory allowances 182,300 154,800 Accounts receivable allowances 141,400 161,500 Accrued compensation 51,100 59,300 State income taxes 335,000 196,500 Other 13,800 236,500 ----------- ----------- Gross Deferred Tax Assets 2,485,000 3,192,700 Deferred Tax Liabilities: Depreciation and fixed asset write-down (443,800) (320,600) Other (43,300) (7,000) ----------- ----------- Net Deferred Tax Assets, Before Allowance 1,997,900 2,865,100 Valuation allowance (1,997,900) (2,865,100) ----------- ----------- Net Deferred Tax Assets $ -- $ -- =========== =========== As of December 31, 2002 the Company had federal net operating loss carryforwards ("NOLS") totaling approximately $5,200,000 that expire at various times through 2021. For state purposes, the Company had net operating loss carryforwards totaling approximately $2,800,000 which expire at various times through 2012. In addition, the Company had approximately $109,000 of state manufacturing investment tax credit carryforwards and approximately $60,000 in state alternative minimum tax carryforwards that expire in varying amounts through 2015. Approximately $2,800,000 of the NOLS originated primarily from pre-merger operations of OFPI. As a result of OFPI's acquisition by SNI (Note 1), OFPI experienced a more than 50% change in ownership for federal and state income tax purposes. Therefore, an annual limitation is placed upon the Company's ability to realize the benefit of the pre-merger NOLS. Management is unable to determine whether it is more likely than not that the net deferred tax assets will be realized. Accordingly, there is a 100% valuation allowance maintained against the net deferred tax assets for all periods presented. The amount of the valuation allowance has decreased by $867,200 and $1,104,200 during 2002 and 2001, respectively. - -------------------------------------------------------------------------------- Page 45
15. 401(k) Plan - --------------- The Company provides a defined contribution plan covering substantially all employees meeting certain age and service requirements. Plan contributions are made at the discretion of Management and totaled $34,800, $47,300 and $40,400 for the years ended December 31, 2002, 2001 and 2000, respectively. 16. Stock Options - ----------------- Prior to the merger discussed in Note 1, SNI had an Equity Incentive Plan under which options were granted to one officer in 1998. Those options vested monthly over a three-year period, are exercisable for ten years from the date of grant, and were granted at the estimated market value of SNI stock at the grant date. As a result of the merger, the Company assumed the options outstanding under OFPI's 1995 Stock Option Plan (the "1995 Plan"). Because OFPI is the surviving legal entity, SNI's existing options were absorbed into the 1995 Plan and restated at their equivalent number of shares and strike price using the merger conversion ratio, and the SNI Equity Incentive Plan was discontinued. In August 2000 the Company amended the 1995 Plan by filing an S-8 Registration Statement with the SEC which amended the 1995 Plan name to Spectrum Organic Products, Inc. and increased the aggregate number of shares of common stock which could be issued under the 1995 Plan from 625,000 shares to 4,500,000 shares. At an annual meeting of shareholders held on November 6, 2002 shareholders approved an increase in the number of shares that could be issued under the 1995 Plan to 7,000,000. Under the amended 1995 Plan, the option price shall not be less than the fair market value on the date of grant and options expire unless exercised within ten years after the date of grant. Options generally vest ratably over four years for employees and two years for directors. Each option represents the right to purchase one share of the Company's common stock at a fixed price per share at some future date. The following table summarizes the activity under the 1995 Plan for the years ended December 31, 2002, 2001 and 2000: 2002 2001 2000 --------------------- --------------------- ---------------------- Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise Options Price Options Price Options Price --------- ------ --------- ------ ------- ------ Outstanding, beginning of year 3,225,315 $ 0.48 2,010,115 $ 0.41 1,380,515 $ 0.59 Options granted 1,325,000 0.30 1,256,400 0.59 1,157,200 0.44 Expired options (652,200) 0.21 (41,200) 0.44 (527,600) 0.93 --------- ------ --------- ------ --------- ------ Outstanding, end of year 3,898,115 $ 0.34 3,225,315 $ 0.48 2,010,115 $ 0.41 ========= ====== ========= ====== ========= ====== Options exercisable at year end 1,784,282 $ 0.35 1,457,448 $ 0.67 627,289 $ 0.39 ========= ====== ========= ====== ========= ====== Weighted average fair value of options granted during the year $ 0.30 $ 0.59 $ 0.43 ====== ====== ====== - --------------------------------------------------------------------------------------------------------------- Page 46
The following table discloses exercise prices and remaining lives of options outstanding or exercisable as of December 31, 2002: Options Outstanding Options Exercisable ------------------- ------------------- Weighted Weighted Average Average Weighted Number Remaining Weighted Number Remaining Average Range of Outstanding Contractual Average Exercisable Contractual Exercise Exercise Prices at 12/31/02 Life (Years) Exercise Price at 12/31/02 Life (Years) Price - -------------------------------------------------------------------------------------------------------- $0.00-$0.25 1,262,800 8.9 $ 0.24 374,450 8.7 $ 0.24 $0.26-$0.50 2,622,315 7.7 0.38 1,396,832 6.7 0.36 $0.51-$2.50 13,000 4.4 2.50 13,000 4.4 2.50 - -------------------------------------------------------------------------------------------------------- $0.00-$2.50 3,898,115 8.1 $ 0.34 1,784,282 7.1 $ 0.35 ======================================================================================================== As of December 31, 2002 there were 3,101,885 options remaining that are available for future issuance under the Plan. 17. Stock Warrants - ------------------ Each common stock purchase warrant represents the right to purchase one share of the Company's common stock at a fixed price per share at some future date. At the date of the merger the Company assumed outstanding common stock purchase warrants of OFPI totaling 590,656. At December 31, 2002 there were 60,656 of those warrants still outstanding which expired on February 11, 2003. In addition, in connection with the renegotiation of the private placement notes, the Company has issued quarterly common stock purchase warrants at the closing bid price of SPOP shares at each quarter-end starting December 31, 2000 and ending on December 31, 2002 as a result of the early retirement of the private placement notes. The following table discloses the activity related to common stock purchase warrants for the years ended December 31, 2002, 2001 and 2000: 2002 2001 2000 ----------------------- ----------------------- ----------------------- Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise Warrants Price Warrants Price Warrants Price --------- --------- --------- --------- --------- --------- Outstanding, beginning of year 843,156 $1.43 608,156 $1.78 550,656 $1.96 IPO warrants expired (330,000) 2.79 -- -- -- -- Private placement warrants exercised (a) (30,750) 0.33 (262,500) 0.05 (182,500) 0.01 Warrants issued in connection with restricted stock purchase (b) -- -- 160,000 0.31 -- -- Private placement warrants issued 200,200 0.32 337,500 0.26 240,000 0.01 --------- --------- --------- --------- --------- --------- Outstanding, end of year 682,606 $0.50 843,156 $1.43 608,156 $1.78 ========= ========= ========= ========= ========= ========= (a) These warrants included a net exercise feature which enabled the holder to convert the net equity in the warrants into common stock in a cash-less transaction. Accordingly, common shares issued in connection with the exercise of the private placement warrants were 6,910, 230,883 and 181,642 for the years ended December 31, 2002, 2001 and 2000, respectively. - -------------------------------------------------------------------------------- Page 47
(b) These warrants were issued in February 2001 in connection with the purchase of 160,000 shares of SPOP restricted common stock by a non-executive Director of the Company. Since the shares were purchased at the closing market price for the Company's unrestricted common stock, the Company also issued 160,000 common stock purchase warrants at the same price, which expire five years from the date issued. See Note 19. The following table discloses exercise prices and remaining lives of the outstanding common stock purchase warrants at December 31, 2002: Weighted Average Number Exercise Expiration Outstanding Price Date ----------- ------- ----------- Warrants assumed at the merger 60,656 $ 2.63 2/11/2003 Warrants issued under the private placement notes 461,950 0.28 12/31/2003 Warrants issued to non-executive Director 160,000 0.31 2/15/2006 ------- ------ Total Warrants Outstanding 682,606 $ 0.50 ======= ====== 18. Commitments and Contingencies - --------------------------------- Rental Agreements - ----------------- The Company rents office, production and warehouse facilities under various non-cancelable operating leases, which expire at various times through 2007. Some of the leases include renewal provisions and base rent increases tied to changes in the consumer price index. Total monthly rental payments for these leases approximated $36,500 at December 31, 2002. The Company also rents office equipment under operating leases that expire at various times through 2005 with monthly lease payments approximating $3,500. Rental expense for 2002, 2001 and 2000 totaled $360,800, $391,200 and $453,800, respectively. Future minimum lease payments under non-cancelable operating leases with terms greater than one year are as follows: 2003 $ 185,600 2004 246,000 2005 250,000 2006 250,000 2007 250,000 ----- ---------- Total $1,181,600 ===== ========== Bonus Agreements - ---------------- The Company has entered into a bonus agreement with the family of a deceased employee, who was instrumental to the Company's initial success, under which the family will be paid $75,000 in fifteen monthly installments from May 2002 through July 2003. The entire $75,000 was included in other expense for the year ended December 31, 2002. - -------------------------------------------------------------------------------- Page 48
Royalty Agreements - ------------------ The Company has entered into royalty agreements with various unrelated parties for licensed technologies which provide for a percentage royalty to be paid on sales of certain products. Included in accrued expenses were royalties of $51,700 and $61,900 as of December 31, 2002 and 2001, respectively, in connection with these agreements. Royalty expense included in cost of sales under these agreements for the years ended December 31, 2002, 2001 and 2000 was $243,500, $216,600 and $176,200, respectively. Inventory Purchase Commitments - ------------------------------ In the ordinary course of business, the Company enters into commitments to purchase raw materials over a period of time, generally six months to a year, at contracted prices. At December 31, 2002 and 2001 these future commitments, which are at prices not in excess of those currently obtainable nor in quantities in excess of normal requirements, aggregated approximately $6,623,000 and $5,958,000, respectively. Legal Proceedings - ----------------- In October 2000 the Company was notified by counsel for GFA Brands, Inc. that nutritional claims pertaining to Spectrum Naturals(R) Organic Margarine were infringing upon two patents issued in the United States that pertain to particular fat compositions suitable for human ingestion. The patent holder exclusively licensed each of these patents to GFA Brands. Management believes that the margarine does not infringe upon either patent, and further, that the patents are unenforceable. Management engaged legal counsel that specialize in this area and received an opinion letter in February 2001 confirming that, in the opinion of counsel, the manufacture or sale of Spectrum Naturals(R) Organic Margarine does not infringe upon the GFA patents, either literally or under the doctrine of equivalents. The Company filed a complaint against GFA Brands for declaratory judgment of non-infringement and invalidity of the two patents on August 28, 2001 in the U.S. District Court for Northern California. The Complaint requests a declaratory judgment that the margarine does not infringe either patent, a declaratory judgment that both patents are invalid, that GFA Brands be enjoined from threatening or asserting any action for infringement of either patent, and attorney's fees. GFA subsequently filed a motion to transfer venue to the U.S. District Court for New Jersey. The Company filed its opposition to that motion, however, the motion to transfer venue was granted in January 2002. The case is currently in the discovery phase. A trial date had not been set as of the date of this report. Management believes the Company has meritorious defenses and that a loss is not probable on the patent infringement complaint at this time. Accordingly, no provision for loss has been recorded at December 31, 2002. Safety Violations and Workers' Compensation Appeals - --------------------------------------------------- In connection with the industrial accident that occurred on April 25, 2002 the Company received nine citations from CAL-OSHA for safety violations with total proposed penalties of $137,900. The Company has filed an appeal with CAL-OSHA in the hopes of reducing the citations and proposed penalties. Also, the estates of the deceased employees have both filed applications to the Workers' Compensation Appeals Board of the State of California for an increased death benefit for serious and willful misconduct by the Company. These two applications are for an additional death benefit of $62,500 each, to be paid by the Company, should the estates successfully establish that the Company intentionally and willfully allowed unsafe working conditions to exist. The Company intends to defend itself vigorously and believes it has meritorious defenses. As of December 31, 2002 the Company had a reserve of $153,700 to cover the anticipated settlement of these issues plus attorney's fees. - -------------------------------------------------------------------------------- Page 49
19. Related Party Transactions - ------------------------------- The Company paid consulting fees of $15,000, $70,000 and $45,000 during the years ended December 31, 2002, 2001 and 2000, respectively, for management advisory services rendered by Moore Consulting, a firm owned and operated by Phillip Moore, a non-executive Director of the Company. In addition, the Company paid Moore Consulting investment banking fees of $79,000 in 2002 in connection with the sale of the OI product lines and $78,200 in 2001 in connection with the sale of the OFPI product lines as described in Note 2. Also in connection with the sale of the Organic Ingredients product lines, the Company entered into a private label consulting agreement with Running Stream Food and Beverage, Inc. ("RSFB"). RSFB is owned and operated by John Battendieri, a non-executive Director of the Company. During 2002 the Company made payments of $66,000 plus expenses incurred to RSFB for private label consulting and management services. The Company paid interest at 10% per annum under notes payable to four stockholders, one of whom is also a non-executive Director of the Company, of $27,900, $38,300 and $57,100 for the years ended December 31, 2002, 2001 and 2000, respectively. In February 2001 the Company sold 160,000 restricted shares under Regulation D of the Securities Act of 1933 to a non-executive Director of the Company for $0.3125 per share, the closing price of the Company's common stock as quoted on the OTC Bulletin Board system on the day the transaction was approved by the Company's disinterested members of the Board of Directors. The Company applied the proceeds of $50,000 toward the expansion of its proprietary SpectraVac technology. In addition, the Company issued common stock purchase warrants to the non-executive Director for an additional 160,000 shares at an exercise price of $0.3125 per share, which expire in February 2006. 20. Quarterly Information (Unaudited) - -------------------------------------- The summarized quarterly financial data presented below reflects all adjustments which, in the opinion of Management, are of a normal and recurring nature and necessary to present fairly the results of operations for the periods presented. In thousands, First Second Third Fourth Full except per share data Quarter Quarter Quarter Quarter Year - ----------------------------- -------- -------- -------- -------- -------- Year ended December 31, 2002: Net Sales $ 11,284 $ 10,109 $ 9,726 $9,541 $ 40,660 Gross Profit 2,949 2,357 2,754 2,523 10,583 Operating Income (Loss) 512 54 671 539 1,776 Net Income (Loss) 331 (51) 575 265 1,120 Basic and Fully Diluted Income (Loss) per Share $ 0.01 $ (0.00) $ 0.01 $ 0.00 $ 0.02 Year ended December 31, 2001: Net Sales $ 10,130 $ 10,545 $ 10,510 $9,866 $ 41,051 Gross Profit 2,668 3,044 2,772 2,557 11,041 Operating Income (Loss) 95 (4,477) 374 (243) (4,251) Net Income (Loss) (168) (4,726) 196 (508) (5,206) Basic and Fully Diluted Income (Loss) per Share $ 0.00 $ (0.10) $ 0.00 $(0.02) $ (0.12) Year Ended December 31, 2000: Net Sales $ 10,703 $ 11,303 $ 10,542 $9,651 $ 42,199 Gross Profit 2,725 2,934 2,599 1,917 10,175 Operating Income (Loss) (113) 178 (270) (483) (688) Net Income (Loss) (373) (201) (636) (792) (2,002) Basic and Fully Diluted Income (Loss) per Share $ (0.01) $ (0.01) $ (0.01) $(0.02) $ (0.05) - ------------------------------------------------------------------------------------------------------------ Page 50
Schedule II Spectrum Organic Products, Inc. Valuation and Qualifying Accounts For the Years ended December 31, 2000, 2001 and 2002 Reserves for Allowances Reserve for Obsolete Against Industrial Inventories Receivables Accident --------- --------- --------- Balances, January 1, 2000 $ 460,000 $ 425,900 $ -- Additions charged to profit and loss 614,500 294,900 -- Deductions for amounts written-off against reserves (509,000) (151,800) -- --------- --------- --------- Balances, December 31, 2000 565,500 569,000 -- Additions charged to profit and loss 300,500 68,300 -- Deductions for amounts written-off against reserves (516,000) (162,300) -- --------- --------- --------- Balances, December 31, 2001 350,000 475,000 -- Additions charged to profit and loss 262,200 47,000 254,100 reserves (64,200) (106,000) (100,400) --------- --------- --------- Balances, December 31, 2002 $ 548,000 $ 416,000 $ 153,700 ========= ========= ========= ITEM 9. CHANGES IN AND DISAGREEMENTS WITH INDEPENDENT AUDITORS ON ACCOUNTING AND FINANCIAL DISCLOSURE - ---------------------------------------------------------------------------- None. - ------------------------------------------------------------------------------------------------------------ Page 51
PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT - ------------------------------------------------------------ Directors and Executive Officers The name, age, position and term of office of each of the Company's executive officers and directors are set forth below: Held Name Age Position Since ---- --- -------- ----- Jethren P. Phillips 52 Chairman of the Board 10/06/99 Neil G. Blomquist 51 President and CEO, Director 09/01/02 Hubert H. Holcombe 59 Vice President - Operations 11/29/99 Robert B. Fowles 47 Chief Financial Officer and Secretary 06/26/00 N. Michael Langenborg 44 Vice President - Marketing 11/04/02 Stephen L. Terre 54 Vice President - Sales 11/18/02 John R. Battendieri 56 Director 06/01/88 Phillip L. Moore 53 Director (2) 10/06/99 Charles A. Lynch 75 Director (1)(2) 04/01/00 Thomas B. Simone 60 Director (1)(2) 12/15/00 Conrad W. Hewitt 65 Director (1) 11/06/02 (1) Member of the Audit Committee. (2) Member of the Compensation Committee. Directors hold office for a period of one year from their election at the annual meeting of shareholders or until their successors are duly elected and qualified. Officers of the Company are elected by and serve at the discretion of the Board of Directors. Background The following is a brief summary of the business experience of each executive officer and director of the Company for at least the last five years: Jethren P. Phillips has been Chairman of the Board of Directors since the merger in October 1999 which created Spectrum Organic Products, Inc. He also served as Chief Executive Officer of the Company from the merger until August 31, 2002. Mr. Phillips founded Spectrum Naturals, Inc. in 1980 and served as its Chief Executive Officer and Chairman of the Board of Directors since its inception. In 1995 he founded Spectrum Commodities, Inc., an organic and natural food ingredients affiliate. Mr. Phillips has been involved in the natural product industry since 1972. He attended California State University at Los Angeles and Humboldt. Neil G. Blomquist was appointed President and Chief Executive Officer of the Company on September 1, 2002. Prior to that he served as SNI's President and Chief Operating Officer since January 1994, and served as its Director of Sales and Marketing from 1989 to 1994. Mr. Blomquist has served on the Board of Directors of the California Olive Oil Council since 1996 and has been involved in the organic and natural foods industry for more than 25 years. Mr. Blomquist holds a Bachelor of Science degree in Business Management and Economics from the University of South Dakota. - -------------------------------------------------------------------------------- Page 52 Hubert H. Holcombe is Vice President-Operations for Spectrum Organic Products, Inc. Mr. Holcombe joined Spectrum in November 1999, bringing over thirty years of experience in food manufacturing. Prior to joining Spectrum, Mr. Holcombe was Chief Operations Officer for Amy's Kitchen from April 1999 to November 1999. From September 1998 to March 1999, Mr. Holcombe served as Executive Vice President and General Manager of Arrowhead Mills, Inc. and as Vice President, Manufacturing and Distribution for twelve years prior to that. He received his Bachelor of Science degree in Industrial Engineering from the University of Arkansas. Robert B. Fowles joined Spectrum as Chief Financial Officer in June 2000 and brings over twenty years of financial expertise in packaged consumer products. From June 1999 until June 2000, Mr. Fowles was CFO of Cedco Publishing Company, a privately held publisher of books, calendars and CD ROMS. Prior to that Mr. Fowles served for 19 years in various capacities within the food and beverage businesses of Diageo, PLC, the last seven of which as CFO of Heublein Wines Group. Mr. Fowles is a Certified Public Accountant and received a Bachelor of Science degree in Business Administration from the University of Connecticut. Nils Michael Langenborg joined Spectrum as Vice President-Marketing in November 2002. Prior to joining Spectrum Mr. Langenborg was the principal of Natural Planograms, a category management company that he founded in April 2001 to provide consumer-focused solutions to retailers and manufacturers of natural products. Prior to that Mr. Langenborg served as Vice President of Marketing for Traditional Medicinals, Inc. from July 1995 through March 2001 where he was responsible for the creation, development and execution of all national marketing support programs. Mr. Langenborg is a graduate of San Francisco State University with dual majors in Marketing and Advertising and Small Business Management. Stephen L. Terre joined Spectrum as Vice President-Sales in November 2002. Prior to joining Spectrum Mr. Terre served for 18 years as Vice President of Sales for Traditional Medicinals, Inc. where he was responsible for all aspects of the Company's sales efforts. Mr. Terre has devoted his entire career to the natural foods industry and is a graduate of the University of California, San Diego. John R. Battendieri founded Running Stream Food and Beverage, Inc. in April 2002 as a consulting service for private label food and beverage products for Spectrum and other natural and organic food companies. Mr. Battendieri founded Organic Food Products, Inc. in 1988 and served as its President and as a director since 1988 and as its Chief Executive Officer from October 1998 until the merger with Spectrum in October 1999. In 1987 he founded Santa Cruz Naturals, an organic fruit juice company, which he sold to the J.M. Smucker Company in 1992. Mr. Battendieri has grown, developed and marketed a wide variety of natural food products for more than 25 years. He attended Southern Illinois University. Phillip L. Moore has been a Director of the Company since October 6, 1999 and is owner of Moore Consulting, a management consulting business established in 1996 to provide advisory services to the food industry. Mr. Moore has 25 years of experience in the food industry and was President of Perimeter Sales and Merchandising prior to founding Moore Consulting. Mr. Moore holds a Bachelor of Science degree in Accounting and Business from Guilford College of North Carolina. Mr. Moore is a member of the Compensation Committee. Charles A. Lynch became a Director on April 1, 2000 and is Chairman of Market Value Partners Company, a management and advisory source for existing and emerging businesses. He has had executive management responsibility for 70-plus companies, primarily in consumer related businesses, and has been a director of over 20 major corporations. Mr. Lynch currently serves as Chairman of the Board of Fresh Choice, Inc. and also serves as an advisor to Shari's Management Corporation. Mr. Lynch received his Bachelor of Science degree from Yale University and an Honorary Degree of Doctors of Law from Golden Gate University. Mr. Lynch is Chairman of the Compensation Committee and a member of the Audit Committee. - -------------------------------------------------------------------------------- Page 53 Thomas B. Simone has been a Director of the Company since December 2000 and is a principal of Simone & Associates, a management and advisory firm that invests in and consults with healthcare and natural products companies. Mr. Simone also serves on the Board of United Natural Foods, Inc., the largest distributor of natural products in the industry. Prior to forming Simone & Associates, Mr. Simone was President of McKesson Drug Company, America's largest pharmaceutical wholesaler. During his twenty-year career with McKesson, Mr. Simone also served as Vice President of Finance for McKesson Corporation, Executive Vice President of PCS Health Systems, and Vice President & Controller. Mr. Simone holds Bachelor of Science and Master of Business Administration degrees from DePaul University. Mr. Simone is a member of the Audit Committee and Compensation Committee. Conrad W. Hewitt joined the Board on November 6, 2002 and has been a consultant to other companies since 1998. Prior to that he served as the Commissioner for the State of California Department of Financial Institutions from 1997 to 1998, and as the State of California Superintendent of Banking from 1995 to 1997. From 1962 to 1995 Mr. Hewitt was a Managing Partner with Ernst & Young's offices in San Francisco, Seattle and Honolulu. Mr. Hewitt currently serves as a Director on the boards of Global Intermodal Systems, Inc. in San Ramon, California, North Bay Bancorp in Napa, California, ADPAC in San Francisco, California, Point West Capital Corporation in San Francisco, California, and Click Books, Inc. in Oakland, California. He is also on the Advisory Board of Directors for Clark/Bardes Consulting in Dallas, Texas, and Private Capital Corporation in Novato, California. Mr. Hewitt holds a Bachelor of Science degree in Finance and Banking from the University of Illinois, and did his post graduate study at the University of Southern California. He is a member of the National Association of Corporate Directors and the American Institute of CPAs. Mr. Hewitt is Chairman of the Audit Committee. Compliance with Section 16(a) of the Securities Exchange Act of 1934 Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the Company's directors and executive officers and persons who own more than 10% of a registered class of the Company's equity securities to file with the SEC initial reports of ownership and reports of changes in ownership of common stock and other equity securities of the Company. The Company files all the reports required under Section 16(a) on behalf of its officers, directors and greater than 10% beneficial owners. To the Company's knowledge, based solely on its information concerning changes in ownership of common stock and other equity securities and written representations that no other reports were required, all Section 16(a) filing requirements applicable to its officers, directors and greater than 10% beneficial owners were complied with during the fiscal year ended December 31, 2002 with the exception of the initial reports for Mr. Langenborg and Mr. Terre, indicating no ownership of the Company's equity securities, which were filed late. - -------------------------------------------------------------------------------- Page 54
ITEM 11. EXECUTIVE COMPENSATION - -------------------------------- The following table summarizes the annual compensation awarded or paid during the last three fiscal years for the Company's Chairman of the Board and the next three most highly compensated officers (hereinafter, the "Named Executive Officers"). Summary Compensation Table Long-term Annual Compensation Compensation --------------------------- ------------ Other Securities Fiscal Compen- Underlying Name and Position Year Salary Bonus sation Options ------------------ ------ --------- ------- ------- ---------- Jethren Phillips (1) 2002 $ 208,000 $ 32,500 $ 9,000 -- Chairman of the Board 2001 205,000 -- 5,600 -- 2000 240,000 -- 11,500 -- Neil Blomquist (2) 2002 $ 183,300 $ 26,400 $ 9,000 650,000 President and 2001 148,600 28,100 4,600 -- Chief Executive Officer 2000 150,000 -- 5,000 50,000 Hubert Holcombe 2002 $ 132,300 $ -- $ -- 75,000 Vice President, 2001 120,500 21,500 -- -- Operations 2000 120,000 -- -- 250,000 Robert Fowles (3) 2002 $ 136,300 $ 22,000 $ -- 100,000 Chief Financial Officer 2001 120,500 23,800 -- 250,000 and Secretary 2000 57,300 -- -- 250,000 (1) Mr. Phillips also served as Chief Executive Officer from October 6, 1999 until August 31, 2002. (2) Mr. Blomquist was appointed President and Chief Executive Officer on September 1, 2002. Prior to then he was President-Consumer Brands. (3) Mr. Fowles was appointed Chief Financial Officer on June 26, 2000. Under new arrangements which began January 1, 2001 the Company's non-executive directors have the choice of (1) annual cash compensation of $10,000 and 20,000 stock options plus 5,000 additional stock options for Chairmanship of a Committee at the market price on the date of grant with a four year vesting schedule, or (2) 80,000 stock options for serving on the Board plus 20,000 additional stock options for Chairmanship of a Committee, at the market price on the date of grant, with one-third vested immediately and the remainder vesting ratably over two years. Under either choice, non-executive directors will be reimbursed for out-of-pocket expenses incurred in attending Board meetings. In February 2001 Mr. Lynch and Mr. Moore elected to receive the Board fees for 2000 due to them of $10,000 each in restricted shares, under Regulation D of the Securities Act of 1933, in a transaction approved by the Company's disinterested Board members. The shares were valued at $0.3125 per share, the closing price of the Company's common stock as quoted on the OTC Bulletin Board system on the date the Board approved the transaction. 1995 Stock Option Plan In November 1995 OFPI adopted a stock option plan (the "1995 Plan") which provides for the grant of stock options intended to qualify as "incentive stock options" or "nonqualified stock options" within the meaning of Section 422 of the United States Internal Revenue Code of 1986. Incentive stock options are issuable only to eligible officers and key employees of the Company. The 1995 Plan is administered by the Board of Directors. During the ensuing years and as a result of the merger, the 1995 Plan was amended and restated to increase the aggregate number of shares of common stock authorized for issuance - -------------------------------------------------------------------------------- Page 55
under the Plan from 625,000 to 7,000,000 shares. The Board of Directors determines which individuals shall receive stock options, the vesting period and the number of shares of common stock that may be purchased under each option. In connection with the Merger, the 1995 Plan assumed the outstanding options under SNI's 1998 Equity Incentive Plan. For incentive stock options the per share exercise price may not be less than the fair market value of the common stock on the date the option is granted, and 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 stock of the Company is eligible to receive stock options unless the option price is at least 110% of the fair market value of the common stock subject to the option on the date of grant. No 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 option may only be exercised by the optionee. Stock options may be exercised only if the option holder remains continuously associated with the Company from the date of grant to the date of exercise or within 90 days of termination. The exercise date of a stock option granted under the Plan cannot be later than ten years from the date of grant. Any options that expire unexercised or that terminate 90 days after an optionee ceases to be associated with the Company become available once again for issuance. Shares issued upon exercise of an option will rank equally with other shares then outstanding. As of December 31, 2002 there were 3,898,115 stock options outstanding under the 1995 Plan for officers, directors, consultants and employees (3,170,515 for current executive officers and directors) at exercise prices of $0.20 to $2.50 per share. Option Grants in Last Fiscal Year: The following table sets forth the options granted to the Named Executive Officers for the year ended December 31, 2002. During the year there were no exercises of stock options by the Named Executive Officers. INDIVIDUAL GRANTS Number of % of Total Securities Options Underlying Granted to Options Employees in Exercise or Granted 2002 Base Price Expiration Date ----------- ------------ --------- ----------- Neil Blomquist 150,000 18.2% $ 0.25 February 28, 2012 Hubert Holcombe 75,000 9.1% 0.25 February 28, 2012 Robert Fowles 100,000 12.1% 0.25 February 28, 2012 Neil Blomquist 500,000 60.6% 0.41 October 18, 2012 The above options all vest ratably over the four-year period following the date of grant. - -------------------------------------------------------------------------------- Page 56
The following table sets forth the number of shares underlying outstanding options at December 31, 2002 and their related value for the Named Executive Officers: Number of Securities Value of Unexercised Underlying Unexercised Options In-the-money at December 31, 2002 Options at December 31, 2002 (1) -------------------------------- ------------------------------- Name Exercisable Unexercisable Exercisable Unexercisable ---- ----------- ------------- ----------- ------------- Neil Blomquist 865,515 675,000 $ -- $ 37,500 Hubert Holcombe 125,000 200,000 -- 18,750 Robert Fowles 187,500 412,500 16,875 75,625 --------- --------- ---------- ---------- Totals 1,178,015 1,287,500 $ 16,875 $ 131,875 ========= ========= ========== ========== (1) At closing stock price of $0.30 at December 31, 2002. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS - -------------------------------------------------------------------------------- The following table sets forth information concerning the ownership of common stock, common stock warrants and vested common stock options by each Named Executive Officer, by each director and by all directors and executive officers as a group. All shares are owned beneficially and of record. The address of all persons is in care of the Company at 5341 Old Redwood Highway, Petaluma, California. Name Number of Shares (1) Percent of Class ---- ------------------- ---------------- Jethren P. Phillips 31,519,328 66.4% John R. Battendieri 4,008,332 8.4 Neil G. Blomquist 1,720,183 3.6 Thomas B. Simone 466,733 * Phillip L. Moore 388,566 * Robert B. Fowles 212,500 * Charles A. Lynch 192,230 * Hubert H. Holcombe 143,750 * Conrad W. Hewitt 23,666 * ------------ ------- All officers and directors as a group (11 persons) 38,675,288 77.4% ============ ======= * Less than 1% (1) The number of shares shown represents the total shares beneficially owned by each individual and shares which are issuable upon the exercise of all stock options or stock warrants which are currently exercisable or became exercisable within 60 days after December 31, 2002. Specifically, the following individuals have the right to acquire the following shares upon the exercise of such stock options and warrants: Mr. Battendieri - 33,333 shares, Mr. Blomquist - 903,015 shares, Mr. Simone - 306,733 shares, Mr. Moore - 132,553 shares, Mr. Fowles - 212,500 shares, Mr. Lynch - 164,230 shares, Mr. Holcombe - 143,750 shares and Mr. Hewitt - 23,666 shares. - -------------------------------------------------------------------------------- Page 57
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS - ------------------------------------------------------- In connection with the merger, the Company assumed a promissory note held by Mr. Battendieri for a capital loan made to Organic Ingredients, which had a balance due as of October 6, 1999 of $102,000. The note is being amortized over 60 months with interest at 10% per annum. During 2002 the Company made payments of $26,100 to Mr. Battendieri representing principal and interest payments under the note. The Company has retained Moore Consulting for investment banking and management advisory services. Moore Consulting is operated as a sole proprietorship by Phillip Moore, a non-executive Director of the Company. During 2002 the Company made payments of $15,000 to Moore Consulting Company for management advisory services. In addition, the Company paid Moore Consulting an investment banking fee of $79,000 in connection with the sale of the Organic Ingredients product lines. Also in connection with the sale of the Organic Ingredients product lines, the Company entered into a private label consulting agreement with Running Stream Food and Beverage, Inc. ("RSFB"). RSFB is owned and operated by John Battendieri, a non-executive Director of the Company. During 2002 the Company made payments of $66,000 plus expenses incurred to RSFB for private label consulting and management services. The Company paid interest at 10% per annum under notes payable to three shareholders during the year ended December 31, 2002 in the amount of $22,400. The Company believes that the terms and conditions of the above transactions were fair, reasonable and consistent with terms the Company could have obtained from unaffiliated third parties. Any future transactions with the Company's executive officers or directors will be entered into on terms that are no less favorable to the Company than those that are available from unaffiliated third parties, and all such transactions will be approved by a majority of the Company's disinterested directors. ITEM 14. CONTROLS AND PROCEDURES - --------------------------------- The Company's Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of both the design and the operation of its disclosure controls and procedures and have found them to be adequate. The Company has formed a Disclosure Review Committee ("the DRC") which consists of various senior managers from each functional area of the Company. The DRC considers the materiality of new information and reports to the Company's Chief Financial Officer. There were no material changes in the Company's internal control system during the year ended December 31, 2002. Management is not aware of any significant deficiencies in the design or operation of internal controls. - -------------------------------------------------------------------------------- Page 58 PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K - ------------------------------------------------------------------------ (a) Documents filed as part of this Report: (1) Index to Financial Statements: Page Statement of Management Responsibility 24 Report of Independent Certified Public Accountants 25 Balance Sheets as of December 31, 2002 and 2001 26 Statements of Operations for the years ended December 31, 2002, 2001 and 2000 27 Statement of Stockholders' Equity for the years ended December 31, 2002, 2001 and 2000 28 Statements of Cash Flows for the years ended December 31, 2002, 2001 and 2000 29 Summary of Significant Accounting Policies 30 Notes to Financial Statements 36 (2) Index to Financial Statement Schedules: Schedule II - Valuation and Qualifying Accounts 51 (3) Exhibits: Exhibit No. Description ------- ----------- 1.01 Form of Representatives' Warrant (1) 1.02 Form of Amended Representatives' Warrant (1) 2.03 Asset Purchase Agreement dated June 11, 2001 by and between Spectrum Organic Products, Inc. and Acirca, Inc. (7) 2.04 Escrow and Security Agreement dated June 11, 2001 by and among Spectrum Organic Products, Inc., Acirca, Inc. and Webster Trust Company, NA. (7) 2.05 Transition Services Agreement dated June 11, 2001 by and between Spectrum Organic Products, Inc. and Acirca, Inc. (7) 2.06 License Agreement dated June 11, 2001 by and between Spectrum Organic Products, Inc. and Acirca, Inc. (7) 2.07 Noncompetition Agreement dated June 11, 2001 by and among Spectrum Organic Products, Inc., Acirca, Inc., Jethren Phillips, and John Battendieri. (7) 2.08 Assignment and Assumption Agreement dated June 11, 2001 by and between Spectrum Organic Products, Inc. and Acirca, Inc. (7) 2.10 Asset Purchase Agreement dated April 25, 2002 by and among Spectrum Organic Products, Inc., Organic Ingredients, Inc. and Acirca, Inc. (9) 2.11 Escrow and Security Agreement dated April 25, 2002 by and among Spectrum Organic Products, Inc., Organic Ingredients, Inc. and Webster Trust Company, NA. (9) 2.12 Transition Services Agreement dated April 25, 2002 by and between Spectrum Organic Products, Inc. and Acirca, Inc. (9) 2.13 Non-competition Agreement dated April 25, 2002 by and among Spectrum Organic Products, Inc., Organic Ingredients, Inc., Jethren Phillips, and Neil Blomquist. (9) 2.14 Sales Representative Services Agreement dated April 25, 2002 by and between Spectrum Organic Products, Inc. and Organic Ingredients, Inc. (9) - -------------------------------------------------------------------------------- Page 59 2.15 Assignment and Assumption Agreement dated April 25, 2002 by and between Spectrum Organic Products, Inc. and Organic Ingredients, Inc. (9) 3.01 Form of Amended and Restated Articles of Incorporation of Spectrum Organic Products, Inc. (4) 3.02 Bylaws of the Registrant (1) 3.03 Audit Committee Charter of the Registrant (2) 10.09 Form of Subscription Agreement, Promissory Note and Warrant for Bridge Loan (1) 10.10 1995 Stock Option Plan (3) 10.11 Incentive Stock Option Agreement (3) 10.12 Non-qualified Stock Option Agreement (3) 10.13 Agreement and Plan of Merger and Reorganization dated May 14, 1999 by and between Organic Food Products, Inc and Organic Ingredients, Inc. (4) 10.14 Agreement and Plan of Merger and Reorganization dated May 14, 1999 by and between Organic Food Products, Inc. and Spectrum Naturals, Inc. (4) 10.15 Form of Organic Food Products, Inc. Employment Agreement (4) 10.16 Form of Organic Food Products, Inc. Shareholder Lock-up Agreement (4) 10.17 Form of Voting Agreement dated May 14, 1999 between Spectrum Naturals, Inc. and certain shareholders of Organic Food Products, Inc. (4) 10.18 October 6, 1999 Credit and Security Agreement by and between Organic Food Products, Inc., Organic Ingredients, Inc., Spectrum Naturals, Inc. and Spectrum Commodities, Inc. and Wells Fargo Business Credit, Inc. (5) 10.19 September 23, 1999 Private Placement Memorandum by Organic Food Products, Inc. (5) 10.21 Subordination Agreement dated October 6, 1999 by and between Debora Bainbridge Phillips and Wells Fargo Business Credit, Inc. (6) 10.22 Fifth Amendment to Redemption Agreement dated October 6, 1999 by and between Spectrum Naturals, Inc., Organic Food Products, Inc., Jethren Phillips and Debora Bainbridge Phillips. (6) 10.23 Fourth Amendment to Redemption Agreement dated July 12, 1999 by and between Spectrum Naturals, Inc., Jethren Phillips and Debora Bainbridge Phillips. (6) 10.24 Third Amendment to Redemption Agreement dated July 9, 1999 by and between Spectrum Naturals, Inc., Jethren Phillips and Debora Bainbridge Phillips. (6) 10.25 Second Amendment to Redemption Agreement dated July 2, 1999 by and between Spectrum Naturals, Inc., Jethren Phillips and Debora Bainbridge Phillips. (6) 10.26 First Amendment to Redemption Agreement dated September 11, 1998 by and between Spectrum Naturals, Inc., and Debora Bainbridge Phillips. (6) 10.27 Redemption Agreement dated November 1, 1996 by and between Spectrum Naturals, Inc. and Debora Bainbridge Phillips. (6) - -------------------------------------------------------------------------------- Page 60 10.28 Guaranty Agreement dated June 6, 1997 by and between Spectrum Naturals, Inc., Debora Bainbridge Phillips and Jethren Phillips. (6) 10.29 Pledge Agreement dated June 6, 1997 by and between Spectrum Naturals, Inc., Debora Bainbridge Phillips and Richard W. Abbey, Attorney at Law. (6) 10.30 Promissory Note dated June 6, 1997 by and between Spectrum Naturals, Inc. and Debora Bainbridge Phillips. (6) 10.34 Letter dated February 16, 2001 from Spectrum Organic Products, Inc. to the note holders under the private placement completed on October 6, 1999, offering them the option of converting their notes, which were in default, to equity or a new note with a three year payment schedule with interest at 10% and common stock purchase warrants. (6) 10.35 First Amendment to Credit and Security Agreement dated October 18, 2001 by and between Spectrum Organic Products, Inc. and Wells Fargo Business Credit, Inc. (8) 10.37 Sixth Amendment to Amended and Restated Redemption Agreement dated June 13, 2001 by and between Spectrum Organic Products, Inc., Debora Bainbridge Phillips and Jethren P. Phillips. (2) 10.38 Employment Agreement effective as of October 1, 2002 by and between Spectrum Organic Products, Inc. and Neil G. Blomquist. 10.39 Second Amendment to Credit and Security Agreement dated October 30, 2002 by and between Spectrum Organic Products, Inc. and Wells Fargo Business Credit, Inc. 10.40 Seventh Amendment to Amended and Restated Redemption Agreement and Amended and Restated Promissory Note effective November 1, 2002 by and between Spectrum Organic Products, Inc., Debora Bainbridge Phillips and Jethren P. Phillips. 10.41 Sublease Agreement dated October 23, 2002 by and between Spectrum Organic Products, Inc. and Alcatel USA Sourcing, LP. 10.42 Consent to Sublease Agreement dated November 13, 2002 by and between Spectrum Organic Products, Inc., Alcatel USA Sourcing, LP and Redwood Business Park IV, LLC. 23.02 Consent of Independent Certified Public Accountants dated March 14, 2003 by BDO Seidman, LLP, San Francisco, CA. 99.01 Joint press release of Acirca, Inc. and Spectrum Organic Products, Inc. dated June 12, 2001 titled "Acirca Acquires Millina's Finest Sauces". (7) 99.02 Press release of the Company dated May 1, 2002 titled "Spectrum Organic Products Reports Sale of Organic Ingredients". (9) 99.05 Press release of the Company dated August 29, 2002 titled "Spectrum Organic Products, Inc. appoints new CEO". (10) 99.07 Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes - Oxley Act of 2002. 99.08 Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes - Oxley Act of 2002. - -------------------------------------------------------------------------------- Page 61 (1) Incorporated by reference to the Registrant's Registration Statement on Form SB-2, File No. 333-22997, declared effective on August 11, 1997. (2) Incorporated by reference to exhibits filed with the Registrant's Form 10-K on March 20, 2002. (3) Incorporated by reference to exhibits filed with the Registrant's Form S-8 on August 30, 2000. (4) Incorporated by reference to annexes filed with the Registrant's Joint Proxy Registration Statement on Form S-4, File No. 333-83675, declared effective July 30, 1999. (5) Incorporated by reference to exhibits filed with the Registrant's Form 10-KSB on October 13, 1999. (6) Incorporated by reference to exhibits filed with the Registrant's Form 10-KSB on April 2, 2001. (7) Incorporated by reference to exhibits filed with the Registrant's Form 8-K on June 26, 2001. (8) Incorporated by reference to exhibits filed with the Registrant's Form 10-Q on November 6, 2001. (9) Incorporated by reference to exhibits filed with the Registrant's Form 8-K on May 9, 2002. (10) Incorporated by reference to exhibits filed with the Registrant's Form 8-K on September 6, 2002. (b) Reports on Form 8-K during the quarter ended December 31, 2002: None. - -------------------------------------------------------------------------------- Page 62 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, in Petaluma, California on March 10, 2003. Spectrum Organic Products, Inc. By: /s/ Robert B. Fowles ----------------------------- Robert B. Fowles Chief Financial Officer and Secretary 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/ Jethren P. Phillips Chairman of the Board of Directors 3/10/03 - ----------------------------- JETHREN P. PHILLIPS /s/ Neil G. Blomquist President and Chief Executive 3/10/03 - ----------------------------- Officer, Director NEIL G. BLOMQUIST /s/ Robert B. Fowles Chief Financial Officer and 3/10/03 - ----------------------------- Secretary ROBERT B. FOWLES /s/ Larry D. Lawton Controller (Principal Accounting 3/10/03 - ----------------------------- Officer) LARRY D. LAWTON /s/ John R. Battendieri Director 3/10/03 - ----------------------------- JOHN R. BATTENDIERI /s/ Phillip L. Moore Director 3/10/03 - ----------------------------- PHILLIP L. MOORE /s/ Charles A. Lynch Director 3/10/03 - ----------------------------- CHARLES A. LYNCH /s/ Thomas B. Simone Director 3/10/03 - ----------------------------- THOMAS B. SIMONE /s/ Conrad W. Hewitt Director 3/10/03 - ----------------------------- CONRAD W. HEWITT - -------------------------------------------------------------------------------- Page 63 CERTIFICATION I Neil G. Blomquist, Chief Executive Officer of the Company, certify that: 1. I have reviewed this annual report on Form 10-K of Spectrum Organic Products, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: March 10, 2003 /s/ Neil G. Blomquist ---------------------------------- Neil G. Blomquist Chief Executive Officer - -------------------------------------------------------------------------------- Page 64 CERTIFICATION I Robert B. Fowles, Chief Financial Officer of the Company, certify that: 1. I have reviewed this annual report on Form 10-K of Spectrum Organic Products, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: March 10, 2003 /s/ Robert B. Fowles ----------------------------------- Robert B. Fowles Chief Financial Officer and Secretary - -------------------------------------------------------------------------------- Page 65 EX-10.38 3 spectrumexhi1038-101602.txt EMPLOYMENT AGREEMENT - BLOMQUIST 10-16-02 Exhibit 10.38 October 16, 2002 Mr. Neil Blomquist SPECTUM ORGANIC PRODUCTS, INC. 1304 South Point Blvd. Suite 280 Petaluma, CA 94954 Dear Neil: This Letter Agreement, dated as of October 1, 2002, is between Spectrum Organic Products, Inc., a California corporation ("Employer"), and Neil Blomquist ("Employee"). Employer and Employee agree to the following terms and conditions of employment. 1. Period of Employment. (a) Basic Term. Employer shall continue to employ Employee to render services to Employer in the position and with the duties and responsibilities described in Section 2 for the period (the "Period of Employment") commencing on the date of this Letter Agreement and ending upon the earlier of (i) October 1, 2004 (the "Term Date"), as, and to the extent, extended under Section 1(b); or (ii) the date upon which the Period of Employment is terminated in accordance with Section 4. (b) Renewal. Subject to Section 4, Employee's employment will be renewed automatically for an additional one (1) year period (without any action by either party) on the Term Date and on each anniversary thereof, unless Employer gives Employee written notice sixty (60) days in advance of the beginning of any one-year renewal period that the Period of Employment is to be terminated. Employer may elect not to renew this Letter Agreement with or without cause, in which case this Section 1(b) shall govern Employee's termination and not Section 4 (except for Employee's termination obligations set forth in Section 4(g), which shall remain in effect). Nothing stated in this Letter Agreement or represented orally or in writing to Employee shall create an obligation to renew this Letter Agreement. 2. Position and Responsibilities. (a) Position. Employee accepts employment with Employer as Chief Executive Officer and shall perform all services appropriate to that position, as well as such other services as may be assigned by Employer. Employee shall devote his best efforts and full-time attention to the performance of his duties. Employee shall be subject to the direction of Employer, which shall retain full control of the means and methods by which he performs the above services and of the place(s) at which all services are rendered. Employee will not, however, be required to relocate out of the California - North Bay Area. Employee shall report to the Board of Directors of Employer. Employee shall be expected to travel if necessary or advisable in order to meet the obligations of his position. (b) Other Activity. Except upon the prior written consent of Employer, Employee (during the Period of Employment) shall not (i) accept any other employment; or (ii) engage, directly or indirectly, in any other business, commercial, or professional activity (whether or not pursued for pecuniary advantage) that is or may be competitive with Employer, that might create a conflict of interest with Employer, or that otherwise might interfere with the business of Employer, or any Affiliate. An "Affiliate" shall mean any person or entity that directly or indirectly controls, is controlled by, or is under common control with Employer. 3. Compensation and Benefits. (a) Compensation. In consideration of the services to be rendered under this Letter Agreement, Employer shall pay Employee a base salary of Two Hundred Thousand Dollars ($200,000) per year, payable semi-monthly, pursuant to the procedures regularly established, and as they may be amended, by Employer in its sole discretion, during the Period of Employment. For the calendar year 2002, Employee shall be eligible for an incentive bonus equal to 25% of his base salary, pursuant to Employer's executive incentive compensation plan, a copy of which is attached hereto as Exhibit A. For the calendar year 2003, Employee shall be eligible for an incentive bonus equal to 50% of his base salary, pursuant to Employer's executive incentive compensation plan. In addition, Employer shall maintain, at its sole expense, a term life insurance policy on Employee in the amount of Four Hundred Thousand Dollars ($400,000.00) payable to the estate of Employee during the Period of Employment. Employee shall also receive qualified stock options to purchase five hundred thousand (500,000) shares of Employer Common Stock, pursuant to and subject to the terms and conditions of Employer's Stock Option plan, a copy of which is attached hereto as Exhibit B. Such stock options shall vest at the rate of one hundred twenty-five thousand (125,000) shares per year of employment with Employer, whether pursuant to this Letter Agreement or otherwise, until fully vested. All compensation and comparable payments to be paid to Employee under this Letter Agreement shall be less withholdings required by law. (b) Benefits. Employee shall be entitled to vacation leave in accordance with Employer's standard policies. As Employee becomes eligible, he shall have the right to participate in and to receive benefits from all present and future benefit plans specified in Employer's policies and generally made available to similarly situated employees of Employer. The amount and extent of benefits to which Employee is entitled shall be governed by the specific benefit plan, as amended. Employee also shall be entitled to any benefits or compensation tied to termination as described in Section 4. Except for the compensation and benefits described in Section 3(a), Employer reserves the ability, in its sole discretion, to adjust Employee's benefits provided under this Letter Agreement. No statement concerning benefits or compensation to which Employee is entitled shall alter in any way the term of this Letter Agreement, any renewal thereof, or its termination. 2 (c) Expenses. Employer shall reimburse Employee for reasonable travel and other business expenses incurred by Employee in the performance of his duties, in accordance with Employer's policies, as they may be amended in Employer's sole discretion. 4. Termination of Employment. (a) By Death. The Period of Employment shall terminate automatically upon the death of Employee. Employer shall pay to Employee's beneficiaries or estate, as appropriate, any compensation then due and owing, including payment for accrued unused vacation, if any. Thereafter, all obligations of Employer under this Letter Agreement shall cease. Nothing in this Section shall affect any entitlement of Employee's heirs to the benefits of any life insurance plan or other applicable benefits. (b) By Disability. If, by reason of any physical or mental incapacity, Employee has been or will be prevented from properly performing his duties under this Letter Agreement for more than ninety (90) days in any one (1) year period, then, to the extent permitted by law, Employer may terminate the Period of Employment upon fourteen (14) days' advance written notice. Employer shall pay Employee all compensation to which he is entitled up through the last business day of the notice period; thereafter, all obligations of Employer under this Letter Agreement shall cease. Nothing in this Section shall affect Employee's rights under any applicable Employer disability plan. (c) Upon Sale, Merger, or Change of Control. In the event Employee is terminated by Employer, or resigns his employment with Employer and its successor, as a result of a sale of the company or substantially all of its assets, or a merger or reorganization which results in a change in control, Employee shall be entitled to the severance pay set forth in Section 4(d), below. This Section 4(c) will be rendered moot, void, and unenforceable if Employee enters into a new employment agreement on substantially the same, or better, terms with Employer's successor in interest. (d) By Employer Not For Cause. At any time, Employer may terminate Employee without Cause (as defined below) by providing Employee sixty (60) days advance written notice. Employer shall have the option, in its complete discretion, to terminate Employee at any time prior to the end of such notice period, provided Employer pays Employee all compensation due and owing through the last day actually worked (inclusive of accrued vacation pay), plus an amount equal to the base salary Employee would have earned through the balance of the above notice period; thereafter, all of Employer's obligations under this Letter Agreement shall cease except those set forth below. In the event of any termination of Employee without Cause, Employer shall pay to Employee severance pay equal to 100% of Employee's annual base salary in effect as of the date of termination of Employee without cause, payable over one (1) year following such termination date, and payable to Employee otherwise in the same manner as Employee received payments of salary hereunder. In addition, Employee will receive a prorated portion of his annual incentive bonus, paid in the amount equal to the bonus that would otherwise be paid for the fiscal year in which Employee is terminated in accordance with Employer's normal bonus payment policy, but in no event later than ninety (90) days after the end of the fiscal year in which Employee is terminated, and his medical benefits will continue during the course of the 1-year severance period at Employer's expense. Employee will not, however, continue participation in the 401(k) plan during the severance period. 3 (e) By Employer For Cause. At any time, and without prior notice (subject to the cure provisions set forth below), Employer may terminate Employee for Cause. Employer shall pay Employee all compensation then due and owing; thereafter, all of Employer's obligations under this Letter Agreement shall cease. Termination shall be for "Cause" if Employee: (i) acts in bad faith and to the detriment of Employer; (ii) refuses or fails to act in accordance with any specific lawful direction or order of Employer; (iii) exhibits in regard to his employment unfitness or unavailability for service, unsatisfactory performance in relation to Employee's key performance objectives as agreed by Employer and Employee from time to time, misconduct, dishonesty, habitual neglect, or incompetence; (iv) is convicted of a crime involving dishonesty, breach of trust, or physical or emotional harm to any person; or (v) breaches any material term of this Letter Agreement. If termination is due to Employee's disability, Section 4(b) above shall control, and not this subsection on termination for Cause. Notwithstanding the foregoing, it shall be a condition precedent to Employer's right to terminate Employee's employment for the reasons set forth in Subsections (4)(e)(ii)(iii) or (v) of this Agreement that (1) Employer shall first have given Employee written notice stating with specificity the reason for the termination ("breach") and (2) if such breach is susceptible to cure or remedy, Employee will have a period of thirty (30) days after the notice is given to remedy the breach to the satisfaction of Employer. (f) By Employee Not for Cause. At any time, Employee may terminate his employment for any reason, with or without cause, by providing Employer sixty (60) days advance written notice. Employer shall have the option, in its complete discretion, to make Employee's termination effective at any time prior to the end of such notice period, provided Employer pays Employee all compensation due and owing through the last day actually worked, plus an amount equal to the base salary Employee would have earned through the balance of the above notice period, not to exceed sixty (60) days; thereafter, all of Employer's obligations under this Letter Agreement shall cease. (g) Termination Obligations. (i) Employee agrees that all property, including, without limitation, all equipment, tangible Proprietary Information (as defined below), documents, books, records, reports, notes, contracts, lists, computer disks (and other computer-generated files and data), and copies thereof, created on any medium and furnished to, obtained by, or prepared by Employee in the course of his employment, belongs to Employer and shall be returned promptly to Employer upon termination of the Period of Employment. (ii) All benefits to which Employee is otherwise entitled shall cease upon Employee's termination, unless explicitly continued either under this Letter Agreement or under any specific written policy or benefit plan of Employer. (iii) Upon termination of the Period of Employment, Employee shall be deemed to have resigned from all offices and directorships then held with Employer or any Affiliate. (iv) The representations and warranties contained in this Letter Agreement and Employee's obligations under this Section 4g on Termination Obligations and Section 5 on Proprietary Information shall survive the termination of the Period of Employment and the expiration of this Letter Agreement. 4 (v) Following any termination of the Period of Employment, Employee shall fully cooperate with Employer in all matters relating to the winding up of pending work on behalf of Employer and the orderly transfer of work to other employees of Employer. Employee shall also cooperate in the defense of any action brought by any third party against Employer that relates in any way to Employee's acts or omissions while employed by Employer. 5. Proprietary Information. (a) Defined. "Proprietary Information" is all information and any idea in whatever form, tangible or intangible, pertaining in any manner to the business of Employer, or any Affiliate, or its employees, clients, consultants, or business associates, which was produced by any employee of Employer in the course of his or her employment or otherwise produced or acquired by or on behalf of Employer. All Proprietary Information not generally known outside of Employer's organization, and all Proprietary Information so known only through improper means, shall be deemed "Confidential Information." Without limiting the foregoing definition, Proprietary and Confidential Information shall include, but not be limited to: (i) formulas, teaching and development techniques, processes, trade secrets, computer programs, electronic codes, inventions, improvements, and research projects; (ii) information about costs, profits, markets, sales, and lists of customers or clients; (iii) business, marketing, and strategic plans; and (iv) employee personnel files and compensation information. Employee should consult any Employer procedures instituted to identify and protect certain types of Confidential Information, which are considered by Employer to be safeguards in addition to the protection provided by this Letter Agreement. Nothing contained in those procedures or in this Letter Agreement is intended to limit the effect of the other. (b) General Restrictions on Use. During the Period of Employment, Employee shall use Proprietary Information, and shall disclose Confidential Information, only for the benefit of Employer and as is necessary to carry out his responsibilities under this Letter Agreement. Following termination, Employee shall neither, directly or indirectly, use any Proprietary Information nor disclose any Confidential Information, except as expressly and specifically authorized in writing by Employer. The publication of any Proprietary Information through literature or speeches must be approved in advance in writing by Employer. (c) Third-Party Information. Employee acknowledges that Employer has received and in the future will receive from third parties their confidential information subject to a duty on Employer's part to maintain the confidentiality of this information and to use it only for certain limited purposes. Employee agrees that he owes Employer and these third parties, during the Period of Employment and thereafter, a duty to hold all such confidential information in the strictest confidence and not to disclose or use it, except as necessary to perform his obligations hereunder and as is consistent with Employer's agreement with third parties. (d) Competitive Activity. Employee acknowledges and agrees that the pursuit of the activities forbidden by this subsection would necessarily involve the use or disclosure of Confidential Information in breach of the preceding subsections, but that proof of such a breach would be extremely difficult. To forestall this disclosure, use, and breach, and in consideration of the employment under this Letter Agreement, Employee agrees that for a period of one (1) year after termination of the Period of Employment, he shall not, directly or indirectly, (i) divert or attempt to divert from Employer (or any Affiliate) any business of any kind in which it is engaged; (ii) employ or recommend for employment any person employed by Employer (or any Affiliate); or (iii) engage 5 in any business activity that is or may be competitive with Employer (or any Affiliate) in any state where Employer conducts its business, unless Employee takes action in contravention of this subsection without the use in any way of Confidential Information. (e) Interference with Business. In order to avoid disruption of Employer's business, Employee agrees that for a period of one (1) year after termination of the Period of Employment, he shall not, directly or indirectly, (i) solicit any customer of Employer (or any Affiliate) known to Employee during the Period of Employment to have been a customer, to the detriment of Employer or the betterment of any competitor of Employer; or (ii) solicit for employment any person employed by Employer (or any Affiliate). 6. MEDIATION AND Arbitration. (a) Mediation. Before invoking the arbitration mechanism set forth in Section 6(b), the parties shall first participate in mediation of any dispute between Employee (and his attorneys, successors, and assigns) and Employer (and its Affiliates, shareholders, directors, officers, employees, agents, successors, attorneys, and assigns) relating in any manner whatsoever to the employment or termination of Employee, including, without limitation, all disputes arising under this Letter Agreement. Such mediation shall be conducted in the following manner: (i) the mediation shall be held in Sonoma County, California; (ii) the costs of the mediation shall be split between the parties equally; (iii) at least ten business days before the date of the mediation, each side shall provide the mediator with a statement of its position and copies of all supporting documents; (iv) each party shall send to the mediation a person who has the authority to bind the party. If a subsequent dispute will involve third parties, such as insurers or subcontractors, they shall also be asked to participate in the mediation; (v) the mediator shall be chosen by agreement of the parties. In the event that the parties cannot agree upon a mediator, the dispute shall be resolved in accordance with the arbitration provisions of Section 6(b); and (vi) if a party has participated in the mediation and is dissatisfied with the outcome, that party may invoke the arbitration provisions of Section 6(b). (b) Arbitration. To the fullest extent permitted by law, when not resolved through mediation in accord with Section 6(a), all disputes between Employee (and his attorneys, successors, and assigns) and Employer (and its Affiliates, shareholders, directors, officers, employees, agents, successors, attorneys, and assigns) relating in any manner whatsoever to the employment or termination of Employee, including, without limitation, all disputes arising under this Letter Agreement, ("Arbitrable Claims") shall be resolved by arbitration. All persons and entities specified in the preceding sentence (other than Employer and Employee) shall be considered third-party beneficiaries of the rights and obligations created by this Section on Arbitration. Arbitrable Claims shall include, but are not limited to, contract (express or implied) and tort claims of all kinds, as well as all claims based on any federal, state, or local law, statute, or regulation, excepting only claims under applicable workers' compensation law and unemployment insurance claims. By way of example and not in limitation of the foregoing, Arbitrable Claims shall include (to the fullest extent permitted by law) any claims arising under Title VII of the Civil Rights Act of 1964, the Age Discrimination in Employment Act, the Americans with Disabilities Act, and the California Fair Employment and Housing Act, as well as any claims asserting wrongful termination, harassment, breach of contract, breach of the covenant of good faith and fair dealing, negligent or intentional infliction of emotional distress, negligent or intentional misrepresentation, negligent or intentional interference with contract or prospective economic advantage, defamation, invasion of privacy, and claims related to disability. 6 (c) Procedure. Arbitration of Arbitrable Claims shall be in accordance with the National Rules for the Resolution of Employment Disputes of the American Arbitration Association, as amended ("AAA Employment Rules"), as augmented in this Letter Agreement. Arbitration shall be initiated as provided by the AAA Employment Rules, although the written notice to the other party initiating arbitration shall also include a statement of the claim(s) asserted and the facts upon which the claim(s) are based. Arbitration shall be final and binding upon the parties and shall be the exclusive remedy for all Arbitrable Claims. Either party may bring an action in court to compel arbitration under this Letter Agreement and to enforce an arbitration award. Otherwise, neither party shall initiate or prosecute any lawsuit or administrative action in any way related to any Arbitrable Claim. Notwithstanding the foregoing, either party may, at its option, seek injunctive relief pursuant to section 1281.8 of the California Code of Civil Procedure. All arbitration hearings under this Letter Agreement shall be conducted in Sonoma County, California. In any arbitration proceeding under this Letter Agreement, the parties shall have the same rights to discovery as would be available in a proceeding in California Superior Court, as provided in section 1283.05 of the California Code of Civil Procedure. The decision of the arbitrator shall be in writing and shall include a statement of the essential conclusions and findings upon which the decision is based. The interpretation and enforcement of this agreement to arbitrate shall be governed by the California Arbitration Act. THE PARTIES HEREBY WAIVE ANY RIGHTS THEY MAY HAVE TO TRIAL BY JURY IN REGARD TO ARBITRABLE CLAIMS, INCLUDING WITHOUT LIMITATION ANY RIGHT TO TRIAL BY JURY AS TO THE MAKING, EXISTENCE, VALIDITY, OR ENFORCEABILITY OF THE AGREEMENT TO ARBITRATE. (d) Arbitrator Selection and Authority. All disputes involving Arbitrable Claims shall be decided by a single arbitrator. The arbitrator shall be selected by mutual agreement of the parties within thirty (30) days of the effective date of the notice initiating the arbitration. If the parties cannot agree on an arbitrator, then the complaining party shall notify the AAA and request selection of an arbitrator in accordance with the AAA Employment Rules. The arbitrator shall have only such authority to award equitable relief, damages, costs, and fees as a court would have for the particular claim(s) asserted. The fees of the arbitrator shall be split between both parties, however, Employee's share of such fees shall not exceed $5,000. Furthermore, if Employee asserts statutory claims, Employee will not be required to pay the fees or costs associated with arbitration to the extent such fees and costs exceed the fees and costs that would be incurred were the same claims asserted in a judicial forum. If the allocation of responsibility for payment of the arbitrator's fees would render the obligation to arbitrate unenforceable, the parties authorize the arbitrator to modify the allocation as necessary to preserve enforceability. The arbitrator shall have exclusive authority to resolve all Arbitrable Claims, including, but not limited to, whether any particular claim is arbitrable and whether all or any part of this Letter Agreement is void or unenforceable. (e) Confidentiality. All proceedings and all documents prepared in connection with any Arbitrable Claim shall be confidential and, unless otherwise required by law, the subject matter thereof shall not be disclosed to any person other than the parties to the proceedings, their counsel, witnesses and experts, the arbitrator, and, if involved, the court and court staff. The parties shall stipulate to all arbitration and court orders necessary to effectuate fully the provisions of this subsection concerning confidentiality. (f) Continuing Obligations. The rights and obligations of Employee and Employer set forth in this Section on Arbitration shall survive the termination of Employee's employment and the expiration of this Letter Agreement. 7 7. Notices. Any notice or other communication under this Letter Agreement must be in writing and shall be effective upon delivery by hand, upon facsimile transmission to Employer (but only upon receipt by Employee of a written confirmation of receipt), or three (3) business days after deposit in the United States mail, postage prepaid, certified or registered, and addressed to Employer or to Employee at the corresponding address or fax number (if any) below. Employee shall be obligated to notify Employer in writing of any change in his address. Notice of change of address shall be effective only when done in accordance with this Section. Employer's Notice Address: ATTN: Corporate Secretary Spectrum Organic Products, Inc. 1304 South Point Blvd. Suite 280 Petaluma, CA 94954 Fax Number: (707) 765-8470 Employee's Notice Address: Neil Blomquist 4392 Belmont Drive Sebastopol, CA 95472 8. Action by Employer. All actions required or permitted to be taken under this Letter Agreement by Employer, including, without limitation, exercise of discretion, consents, waivers, and amendments to this Letter Agreement, shall be made and authorized only by the Chairman of the Board or by his or her representative specifically authorized in writing to fulfill these obligations under this Letter Agreement. 9. Integration. This Letter Agreement is intended to be the final, complete, and exclusive statement of the terms of Employee's employment by Employer. This Letter Agreement supersedes all other prior and contemporaneous agreements and statements, whether written or oral, express or implied, pertaining in any manner to the employment of Employee, and it may not be contradicted by evidence of any prior or contemporaneous statements or agreements. To the extent that the practices, policies, or procedures of Employer, now or in the future, apply to Employee and are inconsistent with the terms of this Letter Agreement, the provisions of this Letter Agreement shall control. 10. Amendments; Waivers. This Letter Agreement may not be amended except by an instrument in writing, signed by each of the parties. No failure to exercise and no delay in exercising any right, remedy, or power under this Letter Agreement shall operate as a waiver thereof, nor shall any single or partial exercise of any right, remedy, or power under this Letter Agreement preclude any other or further exercise thereof, or the exercise of any other right, remedy, or power provided herein or by law or in equity. 8 11. Assignment; Successors and Assigns. Employee agrees that he will not assign, sell, transfer, delegate, or otherwise dispose of, whether voluntarily or involuntarily, or by operation of law, any rights or obligations under this Letter Agreement. Any such purported assignment, transfer, or delegation shall be null and void. Nothing in this Letter Agreement shall prevent the consolidation of Employer with, or its merger into, any other entity, or the sale by Employer of all or substantially all of its assets, or the otherwise lawful assignment by Employer of any rights or obligations under this Letter Agreement. Subject to the foregoing, this Letter Agreement shall be binding upon and shall inure to the benefit of the parties and their respective heirs, legal representatives, successors, and permitted assigns, and shall not benefit any person or entity other than those specifically enumerated in this Letter Agreement. 12. Severability. If any provision of this Letter Agreement, or its application to any person, place, or circumstance, is held by an arbitrator or a court of competent jurisdiction to be invalid, unenforceable, or void, such provision shall be enforced to the greatest extent permitted by law, and the remainder of this Letter Agreement and such provision as applied to other persons, places, and circumstances shall remain in full force and effect. 13. Attorneys' Fees. In any legal action, arbitration, or other proceeding brought to enforce or interpret the terms of this Letter Agreement, the prevailing party shall be entitled to recover reasonable attorneys' fees and costs. 14. Injunctive Relief. If Employee breaches or threatens to breach any of the covenants in Section 5 on Proprietary Information, the parties acknowledge and agree that the damage or imminent damage to Employer's business or its goodwill would be irreparable and extremely difficult to estimate, making any remedy at law or in damages inadequate. Accordingly, Employer shall be entitled to injunctive relief against Employee in the event of any breach or threatened breach of the above provisions by Employee, in addition to any other relief (including damages) available to Employer under this Letter Agreement or under law. 15. Governing Law. This Letter Agreement shall be governed by and construed in accordance with the law of the State of California. 16. Interpretation. This Letter Agreement shall be construed as a whole, according to its fair meaning, and not in favor of or against any party. By way of example and not in limitation, this Letter Agreement shall not be construed in favor of the party receiving a benefit nor against the party responsible for any particular language in this Letter Agreement. Captions are used for reference purposes only and should be ignored in the interpretation of the Letter Agreement. 17. Employee Acknowledgment. Employee acknowledges that he has had the opportunity to consult legal counsel in regard to this Letter Agreement, that he has read and understands this Letter Agreement, that he is fully aware of its legal effect, and that he has entered into it freely and voluntarily and based on his own judgment and not on any representations or promises other than those contained in this Letter Agreement. 9 Please acknowledge your assent to the foregoing terms by executing this Letter Agreement below. Thank you. VERY TRULY YOURS, Spectrum Organic Products, Inc. /s/ Jethren P. Phillips --------------------------------- By: Jethren P. Phillips Its: Chairman of the Board /s/ Neil Blomquist - ----------------------------- By: Neil Blomquist 10 EX-10.39 4 spectrumorgexhi1039-103002.txt 2ND AMEND TO CREDIT & SECURITY AGREEMENT Exhibit 10.39 SECOND AMENDMENT TO CREDIT AND SECURITY AGREEMENT This Amendment, dated as of October 30, 2002, (this "Amendment") is made by and between SPECTRUM ORGANIC PRODUCTS, INC., a California corporation (the "Borrower"), and WELLS FARGO BUSINESS CREDIT, INC., a Minnesota corporation (the "Lender"). Recitals -------- A. The Borrower and the Lender have entered into a Credit and Security Agreement dated as of October 6, 1999 and as amended by that certain First Amendment to Credit and Security Agreement dated October 18, 2001 (the "Credit Agreement"). B. The Borrower has requested that certain amendments be made to the Credit Agreement. C. The Lender is willing to amend the Credit Agreement pursuant to the terms and conditions set forth herein. The Borrower is entering into this Amendment with the understanding and agreement that, except as specifically provided herein, none of the Lender's rights or remedies as set forth in the Credit Agreement is being waived or modified by the terms of this Amendment. NOW, THEREFORE, in consideration of the premises and of the mutual covenants and agreements herein contained, it is agreed as follows: 1. Defined Terms. Capitalized terms used in this Amendment which are defined in the Credit Agreement shall have the same meanings as defined therein, unless otherwise defined herein. 2. Amendments to Article VI. (a) Reporting Requirements. Section 6.1(f) of the Credit Agreement is hereby amended and restated to read as follows: "(f) cash receipts journals, deposit tickets, and invoices and bills of lading that exceed amounts and on a frequency as determined by Lender." (b) Key Person Life Insurance. Notwithstanding anything stated to the contrary in Section 6.11 of the Credit Agreement, the Borrower is no longer required to maintain insurance upon the life of Joseph Stern. Accordingly, the Lender shall release the Assignment of Policy as Collateral Security dated as of October 5, 1999. Lender shall execute any release necessary, in form and substance satisfactory to Lender, in order to evidence the release of such assignment. (c) Minimum Book Net Worth. Section 6.15 of the Credit Agreement is hereby amended and restated to read as follows: "The Borrower will maintain its Book Net Worth, determined as at the end of each month, at an amount not less than the amount set forth below. Any non-cash losses incurred as a result of adjustments to reflect the impairment of assets and any income recorded by Borrower from escrow proceeds of certain product lines from Borrower's Aptos-based industrial ingredients business, shall not be included in determining whether or not Borrower has met the covenant set forth in this Section 6.15. At the End of: Minimum Book Net Worth -------------- ---------------------- August 2002 $2,524,000 September 2002 $2,683,000 October 2002 $2,851,000 November 2002 $2,971,000 December 2002, $3,035,000" And each month end thereafter (d) New Covenants. Section 6.16 of the Credit Agreement is hereby amended and restated in its entirety to read as follows: "6.16 New Covenants. On or before March 31, 2003, Lender shall set new covenant levels for Sections 6.13, 6.14 and 6.15 for periods after such date. The new covenant levels will be based on the Borrower's projections for such periods received by Lender pursuant to Section 6.1(e) and shall be no less stringent than the present levels." 3. Amendment to Article VII. (a) Section 7.10 is hereby amended and restated in its entirety to read as follows: "Section 7.10 Capital Expenditures. The Borrower will not incur or contract to incur Capital Expenditures of more than Six Hundred Thousand Dollars ($600,000) for the fiscal year ending December 31, 2002." 4. No Other Changes. Except as explicitly amended by this Amendment, all of the terms and conditions of the Credit Agreement shall remain in full force and effect and shall apply to any advance or letter of credit thereunder. 5. Conditions Precedent. This Amendment, shall be effective when the Lender shall have received an executed original hereof in substance and form acceptable to the Lender in its sole discretion. -2- 6. Representations and Warranties. The Borrower hereby represents and warrants to the Lender as follows: (a) The Borrower has all requisite power and authority to execute this Amendment and to perform all of its obligations hereunder, and this Amendment has been duly executed and delivered by the Borrower and constitutes the legal, valid and binding obligation of the Borrower, enforceable in accordance with its terms. (b) The execution, delivery and performance by the Borrower of this Amendment has been duly authorized by all necessary corporate action and do not (i) require any authorization, consent or approval by any governmental department, commission, board, bureau, agency or instrumentality, domestic or foreign, (ii) violate any provision of any law, rule or regulation or of any order, writ, injunction or decree presently in effect, having applicability to the Borrower, or the articles of incorporation or by-laws of the Borrower, or (iii) result in a breach of or constitute a default under any indenture or loan or credit agreement or any other agreement, lease or instrument to which the Borrower is a party or by which it or its properties may be bound or affected. (c) All of the representations and warranties contained in Article V of the Credit Agreement are correct on and as of the date hereof as though made on and as of such date, except to the extent that such representations and warranties relate solely to an earlier date. 7. References. All references in the Credit Agreement to "this Agreement" shall be deemed to refer to the Credit Agreement as amended hereby; and any and all references in the Security Documents to the Credit Agreement shall be deemed to refer to the Credit Agreement as amended hereby. 8. No Other Waiver. The execution of this Amendment and any documents related hereto shall not be deemed to be a waiver of any Default or Event of Default under the Credit Agreement or breach, default or event of default under any Security Document or other document held by the Lender, whether or not known to the Lender and whether or not existing on the date of this Amendment. 9. Costs and Expenses. The Borrower hereby reaffirms its agreement under the Credit Agreement to pay or reimburse the Lender on demand for all costs and expenses incurred by the Lender in connection with the Credit Agreement, the Security Documents and all other documents contemplated thereby, including without limitation all reasonable fees and disbursements of legal counsel. Without limiting the generality of the foregoing, the Borrower specifically agrees to pay all fees and disbursements of counsel to the Lender for the services performed by such counsel in connection with the preparation of this Amendment and the documents and instruments incidental hereto. The Borrower hereby agrees that the Lender may, at any time or from time to time in its sole discretion and without further authorization by the Borrower, make a loan to the Borrower under the Credit Agreement, or apply the proceeds of any loan, for the purpose of paying any such fees, disbursements, costs and expenses and the fee required hereunder. 10. Miscellaneous. This Amendment and the Acknowledgment and Agreement of Guarantor may be executed in any number of counterparts, each of which when so executed and delivered shall be deemed an original and all of which counterparts, taken together, shall constitute one and the same instrument. 3 IN WITNESS WHEREOF, the parties hereto have caused this Amendment to be duly executed as of the date first written above. WELLS FARGO BUSINESS CREDIT, INC. SPECTRUM ORGANIC PRODUCTS, INC. By: /s/ Angelo Samperisi By: /s/ Robert B. Fowles ------------------------------- ----------------------------- Name: Angelo Samperisi Name: Robert B. Fowles Title: Vice President Title: Chief Financial Officer -4- EX-10.40 5 spectrumorgexhi1040-110196.txt 7TH AMEND-AMENDED & RESTATED REDEMP AGREE Exhibit 10.40 SEVENTH AMENDMENT TO AMENDED AND RESTATED REDEMPTION AGREEMENT This SEVENTH AMENDMENT to the REDEMPTION AGREEMENT dated November 1, 1996, originally by and between DEBORA BAINBRIDGE PHILLIPS and SPECTRUM NATURALS INC., a California corporation ("Spectrum"), and amended as provided in that FIRST AMENDMENT TO REDEMPTION AGREEMENT dated September 11, 1998, that SECOND AMENDMENT TO REDEMPTION AGREEMENT dated June 29, 1999, that THIRD AMENDMENT TO REDEMPTION AGREEMENT dated July 9, 1999, that FOURTH AMENDMENT TO REDEMPTION AGREEMENT dated July 12, 1999, that FIFTH AMENDMENT TO REDEMPTION AGREEMENT dated October 6, 1999, and that SIXTH AMENDMENT TO REDEMPTION AGREEMENT dated June 13, 2001, is hereby made by and between Debora Bainbridge Phillips, Trustee ("Seller"), Spectrum Organic Products, Inc., a California corporation (the "Company") and Jethren P. Phillips ("Guarantor") effective November 1, 2002. WHEREAS, the Amended and Restated Promissory Note dated June 13, 2001 called for monthly interest payments on or before the 5th day of each month at 12% per annum on the then outstanding principal balance and monthly principal payments of $31,250 on or before the 20th day of each month commencing July 20, 2002 until all principal is paid in full; WHEREAS FURTHER, the parties desire to further revise the interest rate and payment schedule hereunder; NOW THEREFORE, the parties agree as follows: 1. The Company, as successor to Spectrum, shall deliver to Seller an Amended and Restated Promissory Note made by the Company, and dated as of the date hereof, in the form of Exhibit A attached hereto and by this reference incorporated herein, in replacement of all Notes previously issued pursuant to the REDEMPTION AGREEMENT, which previous Notes shall be marked "Cancelled and Reissued" and returned to the Company. 2. The interest rate shall be reduced to 9% per annum effective November 1, 2002. 3. Monthly principal payments shall be reduced to $15,625 effective November 20, 2002 until all principal is paid in full. 4. Seller, at its sole option, shall have the right at all times, upon 60 days prior written notice to Company, to monthly principal payments of $31,250 until all principal is paid in full. 5. All other terms and conditions of the REDEMPTION AGREEMENT not specifically modified by this SEVENTH AMENDMENT remain in full force and effect. Executed as of this 17 day of November 2002 at Santa Rosa, California. Spectrum Organic Products, Inc. a California corporation /S/ JETHREN P. PHILLIPS - ---------------------------------------- JETHREN P. PHILLIPS Chairman of the Board "Company" /S/ DEBORA BAINBRIDGE PHILLIPS, TRUSTEE - ---------------------------------------- DEBORA BAINBRIDGE PHILLIPS, TRUSTEE "Seller" /S/ JETHREN P. PHILLIPS - ---------------------------------------- JETHREN P. PHILLIPS "Guarantor" 2 AMENDED AND RESTATED PROMISSORY NOTE November 17, 2002 Santa Rosa, California For value received, receipt of which is hereby acknowledged, Spectrum Organic Products, Inc., a California corporation, ("the Company") hereby promises to pay to Debora Bainbridge Phillips, Trustee, or order, at such place as designated by the holder hereunder, the principal sum of $609,375.00, together with interest thereon as hereinafter provided and in installments as hereinafter provided. This Amended and Restated Promissory Note has been issued pursuant to the Redemption Agreement dated November 1, 1996, as amended through the date hereof, and represents the unpaid principal due under the Promissory Note called for under such Agreement. The outstanding principal balance hereunder shall bear interest at the rate of 9% per annum. Interest on the principal balance outstanding from time to time shall be paid in monthly installments of interest only on or before the 5th day of each month. In addition to said interest payments, principal payments shall be paid in monthly installments of $15,625.00 on or before the 20th day of each month commencing November 20, 2002 until all such principal has been paid in full. The holder hereunder, at its sole option, shall have the right at all times, upon 60 days prior written notice to the Company, to monthly principal payments of $31,250 until all such principal has been paid in full. In the event that any payment of principal or interest shall not be made within five (5) days of its due date, there shall also be due a late payment fee equal to one percent of the payment of principal or interest not made when due. This Promissory Note may be prepaid in whole or in part at any time without penalty. Presentment and demand for payment, notice of dishonor, protest and notice of protest are hereby waived by the Company. All payments shall be made in lawful money of the United States. Any payment received shall be applied first to interest outstanding and then to reduction of principal. In the event that (i) any payment of principal or interest shall not be made when due and a period of ten (10) days shall have passed from written notice of such non-payment without cure, or (ii) the Company or the Guarantor shall fail to comply with any material non-monetary terms and conditions of the Redemption Agreement or the Guaranty and a period of 30 days shall have passed from written notice of such failure without cure, then the holder of this Note may, without further notice, declare the entire unpaid principal and interest due and payable. 1 In the event that any action is initiated to enforce or interpret the terms of this Agreement, the prevailing party of such litigation shall be entitled to recover, as an element of cost of such litigation, the reasonable attorney's fees. This Note is personally guaranteed by Jethren Phillips. Any default under the terms of the Redemption Agreement dated November 1, 1996, as amended through November 17, 2002, pursuant to which this Note is issued or the personal Guaranty of Jethren Phillips shall also constitute a default under this Promissory Note, and a default hereunder shall, likewise, constitute a default under said agreements. This Promissory Note is a medium for investment and a "security" within the meaning of the California Commercial Code Section 8102 and is governed by Division 8 of the California Commercial Code. This Promissory Note is divisible into a class or series of obligations at the request of the holder. The transfer of this Promissory Note may be registered upon the books of the issuer. This Promissory Note is subject to a Subordination Agreement in favor of Wells Fargo Business Credit, Inc. Any notice to be given hereunder shall be deemed to be effective on the third day following deposit of such notice in the United States mail, first-class postage prepaid, return receipt requested, and directed to the parties at the addresses set forth below: Debora Bainbridge Phillips, Trustee Spectrum Organic Products, Inc. 3617 Williams Road Attn: Chief Financial Officer Santa Rosa, CA 95404 133 Copeland Street Petaluma, CA 94952 Spectrum Organic Products, Inc. By: /s/ Jethren P. Phillips ----------------------------- Jethren P. Phillips Chairman of the Board 2 EX-10.41 6 spectrumorgexhi1041-102302.txt SUBLEASE AGREEMNET Exhibit 10.41 SUBLEASE AGREEMENT This Sublease Agreement (the "Sublease") is made as of this 23 day of October, 2002 by and between Alcatel USA Sourcing, L.P., a Texas limited partnership ("Sublandlord"), having its principal address at 1000 Coit Road, Plano, TX 75075 and Spectrum Organic Products, Inc., a California corporation ("Subtenant"), having its principal address at 133 Copeland , Petaluma, California 94952. WHEREAS, G & W/Copley Redwood Business Park, L.P. ("Landlord"), successor-in-interest to G & W/Redwoood Associates Joint Venture, and Alcatel USA Sourcing, L.P. ("Tenant") , successor-in-interest to DSC Communications Corporation and DSC Technologies Corporation, have entered into that certain lease ("Base Lease") dated September 12, 1994, and as amended by the First Amendment dated September 12, 1994, the Second Amendment dated January 22, 1995, the Third Amendment dated October 30, 1995, the Fourth Amendment dated May 15, 1997, that certain Tenant Improvement Allowance Agreement executed by Landlord as of July 6, 1998 and by Tenant as of July 2, 1998, the Fifth Amendment dated November 5, 1999 and the "5341 Lease" dated June 28, 2001 are collectively known as the ("Lease") and are attached hereto and made a part hereof as Exhibit A. The 5341 Lease refers to the building located at 5341 Old Redwood Highway, Petaluma, California ("Building") and contains approximately 66, 656 rentable square feet. (the "Premises"). WHEREAS, Subtenant desires to sublease from Sublandlord and Sublandlord desires to sublease to Subtenant a portion of the Premises containing approximately 16,664 square feet of rentable area of the Premises, comprising of the 4th floor (the "Sublet Premises") as shown on Exhibit B, attached hereto and made a part hereof; NOW, THEREFORE, in consideration of the mutual covenants contained herein and other good and valuable consideration, the sufficiency of which is hereby acknowledged by the parties hereto, the parties agree as follows: 1. Sublet Premises: The Sublet Premises consist of approximately 16,664 rentable square feet located on the 4th floor of the Building. For the purposes of this Sublease the Sublet Premises represents 25% of the Premises. 2. Use: Subtenant's use of the Sublet Premises shall be in accordance with the permitted uses outlined in Section 6 of the Lease and for no other purpose without first obtaining prior written consent of Sublandlord. 3. Right of First Offer: Sublandlord shall provide to Subtenant a Right of First Offer on any space in the Building under lease by the Sublandlord and available for sublease. Subtenant may request from Sublandlord, by written notice, a list of all available space that Sublandlord is marketing for sublease in the Building and Subtenant may negotiate with Sublandlord to sublease any of such space. 4. Term: The term of this Sublease (the "Term") shall commence upon full execution of the sublease documents and receipt of the consent by the Lessor of the Building (the "Commencement Date"), and shall automatically expire sixty (60) months thereafter unless otherwise sooner terminated in accordance with the provision of this Sublease (the "Expiration Date"). Notwithstanding the foregoing, should Subtenant desire to take possession of the Sublet Premises sooner than the anticipated Commencement Date Sublandlord hereby agrees to use its best efforts to allow for an earlier occupancy by Subtenant. The date the Sublet Premises are delivered to Subtenant hereunder is referred to as the "Delivery Date". 5. Minimum Rent: During the term of this Sublease, Subtenant shall pay to Sublandlord an annual base rent ("Rent") for the Sublet Premises, without set-off, deduction or demand, in the amounts as follows: Period Base Rent Monthly Installments Month 1 $0.00 $ 0.00 Months 2-13 (13,500) $1.25 $ 16,875.00 Months 14-60 (16,664) $1.25 $ 20,830.00 The foregoing amounts are based on an annual net rental of $249,960.00 which amount shall remain fixed throughout the Sublease term. Whenever, under the terms of this Sublease (including, without limitation, the terms incorporated by reference from the Lease), any sum of money is required to be paid by Subtenant in addition to the monthly minimum rent hereunder, such sum shall be deemed to be additional rent, whether or not designated as such, and shall be collectible as rent. If the Commencement Date occurs on a day other than the first day of a calendar month, Subtenant shall pay the Rent on a pro-rata basis for the number of days between the Commencement Date and the last day of the calendar month in which the Commencement Date occurs, both dates being inclusive. 6. Payment of Rent: Subtenant shall pay all Rent, as well as all additional rent under this Sublease , when due and payable, in equal monthly installments in advance on or before the seventh day of each calendar month during the Term hereof, in lawful money of the United States, without notice or demand and without deduction, abatement, counterclaim, set-off or recoupment of any amount or for any reason whatsoever. The first monthly installment of the Rent shall be due and payable upon the full execution of this Sublease by Sublandlord and Subtenant. All Rent and additional rent payable by Subtenant under this Sublease shall be paid and delivered to Sublandlord at the following address, or such other address or person as Sublandlord may designate in writing. 7. Additional Rent: In addition to the payment of the Rent, Subtenant shall pay to Sublandlord, Subtenant's share of Additional Rent as defined in the Lease. Subtenant shall pay to Sublandlord along with its monthly payment of Rent Page 2 one-twelfth of the estimated Subtenant's Share of Additional Rent, subject to adjustment as set forth in the Lease. Sublandlord will provide to Subtenant a Base Year of 2003 for such calculation of Additional Rent. The Base Year 2003 shall be adjusted to equal Landlord's reasonable estimate of Operating Expenses as if ninety-five percent (95%) of the total Building were occupied during such period. 8. Late Charges; Interest: Any installment of Rent, Additional Rent to include real property taxes, utilities, insurance premiums, common area costs, property maintenance, maintenance, repairs and alterations of the Sublet Premises to the extent provided for in the Lease or any other charges due hereunder and not received by Sublandlord within five business (5) days following written notice from Sublandlord thereof shall be subject to a late payment charge equal to five percent (5%) of the amount due, which charge Subtenant shall immediately pay to Sublandlord. In addition, such payment and such late fee shall bear interest at the rate of the prime rate published from time to time by The Wall Street Journal plus four percent (4%) per annum from the date five (5) days following such written notice to the date of payment. If Subtenant shall have been in default in the payment of Rent hereunder beyond applicable notice, grace and cure periods more than one (1) occurrence per Calendar Year, Sublandlord may at any time thereafter require that Rent and Additional Rent due hereunder be paid by certified or cashier's check or wire transfer. 9. Acceptance: Subtenant hereby accepts the Sublet Premises in its "AS IS, WHERE IS" condition on the date hereof and acknowledges, and agrees that no representations or warranties with respect to the condition or use thereof have been made by Sublandlord or by anyone representing or purporting to represent Sublandlord. Sublandlord and Landlord are under no obligation to make any structural changes or other alterations, decorations, additions, improvements or other changes in or to the Sublet Premises. 10. Improvements: Subtenant will pay for the cost of any improvements or modifications ("Alterations") made to the Sublet Premises for Subtenant, which are performed at any time following the Delivery Date. The parties agree that except as specifically provided in the Lease, prior to making any Alterations to the Sublet Premises, a written request will need to be signed by both Subtenant and Sublandlord, which will include a scope of work (describing the work to be performed) and a statement as to whether or not the Alterations must be removed at the expiration or earlier termination of this Sublease, and must be delivered to Landlord for its written approval and no such Alterations shall be made until receipt of such written approval from Landlord. Sublandlord agrees to execute any such written request within five (5) business days following submission by Subtenant and to use reasonable efforts to work with Subtenant to obtain Landlord's consent to the Alterations, if required. All Alterations by Subtenant will be made in accordance with Section 8 of the Lease. Sublandlord and Subtenant agree that Subtenant shall not be responsible for the removal of any previously installed Tenant Improvements as outlined in the Lease made by Sublandlord to the Premises prior to the Commencement Date of the Sublease. Page 3 11. Performance of Lease: Sublandlord and Subtenant hereby acknowledge and agree that this Sublease is subject and subordinate to the terms and conditions of the Lease, a copy of which is attached hereto as Exhibit A. Except as may be inconsistent with the terms hereof, all terms, covenants and conditions of the Lease are herein incorporated by reference and made a part hereof and shall be applicable to this Sublease with the same force and effect as if Sublandlord were the lessor under the Lease and Subtenant were the lessee thereunder. Subtenant shall assume and perform all of Tenant's obligations in said Lease and Sublandlord shall assume and perform the obligations of Landlord in the Lease to the extent said terms and conditions are applicable to the Sublet Premises. In the event the incorporated terms and conditions of the Lease (the "Incorporated Terms") conflict with terms and conditions of this Sublease, the Incorporated Terms will control, however, to the extent the express terms of this Sublease are inconsistent with the terms of the Lease, the express terms of this Sublease shall control and Section 3 of the Lease is specifically agreed to be inapplicable (except to the extent otherwise provided in this Sublease) between Sublandlord and Subtenant. Notwithstanding anything to the contrary in this Sublease, Subtenant acknowledges and agrees that in the event any provision of the Lease that permits or authorizes Subtenant the right to take any action by virtue of the Incorporated Terms upon the consent of "Landlord" (written or otherwise), Subtenant shall be required to obtain such consent of Landlord prior to taking any such action or exercising such right. Subtenant agrees to observe and perform all of the terms, covenants and conditions of the Incorporated Terms to be performed with respect to the Sublet Premises, and neither to do nor cause to be done, nor suffer, nor permit any act or thing to be done which would or might cause the Lease to be canceled, terminated, forfeited or surrendered, or which would or might make Sublandlord liable for any damages, claims or penalties. Similarly, Sublandlord agrees to observe and perform all of the terms, covenants and conditions of the Lease on the part of Sublandlord to be performed with respect to the Sublet Premises and any other portion of the Premises, including the payment of all rent and other charges due and payable by Sublandlord thereunder, and neither to do nor cause to be done, nor suffer, nor permit any act or thing to be done which would or might cause the Lease to be canceled, terminated, forfeited or surrendered. In the event the Lease is terminated pursuant to any provision thereof or otherwise, this Sublease shall terminate simultaneously therewith and Sublandlord and Subtenant shall have no remedies available. 12. Insurance: Subtenant shall obtain and keep in force through the Sublease Term, at its own expense, the required insurance amounts outlined in Section 10 of the Lease. Such policy shall include a broad form, comprehensive liability endorsement, which shall specifically include contractual liability coverage. Subtenant shall provide a certificate of insurance (Accord Form) evidencing this coverage. Such certificate shall name Sublandlord and Landlord as additional insured. Page 4 Subtenant and Sublandlord each hereby waive all claims and rights against each other and their respective officers, directors, employees, contractors, servants, and agents, for any damage to or destruction of real or personal property of Subtenant or Sublandlord, regardless of cause of origin and regardless of any proceeds or recoveries from any insurance policies. Notwithstanding the foregoing, both Subtenant and Sublandlord will be liable for damage or destruction of real and personal property if caused by their employees, agents, contractors or invitees' negligence or other misconduct to the extent such damage or destruction is not covered by insurance to be maintained hereunder. 13. Indemnification: Subtenant shall defend (with counsel reasonably acceptable to Subtenant and Sublandlord), indemnify and hold harmless Sublandlord, its officers, directors, employees, contractors, servants, guests, business invitees and agents from and against all loss, costs, damages, claims, proceedings, demands, liabilities, judgments, penalties, fines and expenses, including, without limitation, reasonable attorney's fees and litigation costs (collectively "Claims"), arising from injury or death of person or damage to property in and about the Sublet Premises while Alterations or any Improvement work is being performed, except that Subtenant shall not be liable for any claims which result from the negligent act or omission or willful act or omission of Sublandlord, its officers, directors, employees, contractors, servants, guests, business invitees or agents. Sublandlord shall promptly notify Subtenant of any Claim hereunder and Subtenant shall not settle any Claims without the consent of Sublandlord, which shall not be unreasonably withheld or delayed. Sublandlord shall defend (with counsel reasonably acceptable to Sublandlord and Subtenant), indemnify and hold harmless Subtenant, its officers, directors, employees, contractors, servants, guests, business invitees and agents, from and against all loss, costs, damages, claims, proceedings, demands, liabilities, judgments, penalties, fines and expenses, including without limitation reasonable attorney's fees and litigation costs (collectively "Claims"), arising from injury or death of person or damage to property in and about the Sublet Premises, except that Sublandlord shall not be liable for any claims which result from the negligent act or omission or willful act or omission of Subtenant, its officers, directors, employees, contractors, servants, guests, business invitees or agents. Subtenant shall promptly notify Sublandlord of any claim hereunder and Sublandlord shall not settle any claim without the consent of Subtenant, which shall not be unreasonably withheld or delayed. 14. Assignment and Further Sublease: Subtenant shall not voluntarily or by operation of law assign, transfer, mortgage, sublet, or otherwise transfer or encumber all or any part of Subtenant's interest in this sublease or in the Premises, without Sublandlord's and Landlords' prior written consent, pursuant to the terms and conditions of the Lease; provided, however, that Sublandlord shall not unreasonably withhold, condition, or delay the giving of such consent at no additional expense to Subtenant; and provided, further, that Sublandlord's consent shall not be required as to any assignment of this Sublease or further sublease of the Sublet Premises to (i) any affiliate or subsidiary of Subtenant, (ii) any entity controlled by, under common control with, or controlling Subtenant, (iii) any entity resulting from a merger or consolidation with Page 5 Subtenant, or (iv) any entity purchasing all or substantially all of Subtenant's assets, so long as the written consent of Landlord is obtained if required under the terms of the Lease. 15. Surrender: Upon the Expiration Date, or at any earlier termination of this Sublease, the Subtenant shall quit and surrender to the Sublandlord the Sublet Premises, broom clean and in as good order and condition as they were on the Commencement Date, ordinary wear and tear excepted. 16. Default: In the event Subtenant fails to comply with any of the terms and conditions of this Sublease or the Lease to the extent such terms are incorporated and such failure continues for ten (10) days after written notice if a monetary default and thirty (30) days after written notice if a non-monetary default, following receipt of a written notice from Sublandlord specifying the nature of the failure and Subtenant has failed to commence and proceed diligently to cure such failure, Subtenant shall thereafter be deemed to be in default under this Sublease, in which event Sublandlord's remedies shall include in addition to all other remedies at law or in equity, the right to terminate this Sublease and upon receipt of written notice of termination from Sublandlord, this Sublease shall terminate and be of no further force and effect. In the event Sublandlord fails to comply with any of the terms and conditions of this Sublease and such failure continues in excess of fifteen (15) days following receipt of a written notice from Subtenant specifying the nature of the failure and Sublandlord has failed to commence and proceed diligently to cure such failure, or should Sublandlord fail to perform any of its obligations under the Lease to be performed by Sublandlord which with the giving of notice or the passage of time, or both, could result in a default under the Lease, Sublandlord shall thereafter be deemed to be in default under this Sublease, in which event Subtenant's remedies shall include the right to perform the obligations of Sublandlord then in default, and Sublandlord shall promptly following demand reimburse Subtenant for all amounts expended by Subtenant on account of such default, together with interest thereon at the rate of the prime rate published from time to time by The Wall Street Journal plus four percent (4%) per annum from the date such amounts were expended. 17. Consent of Landlord: Landlord's prior written consent to this Sublease is required to be obtained by Sublandlord as outlined in Section 13 of the Lease. Without Landlord's consent this Sublease is null and void. 18. Consent of Sublandlord: Sublandlord shall not be required to give any consent under the terms of this Sublease with respect to any matter on which the Lease requires the consent of the Landlord, provided, however, that upon written request from Subtenant, Sublandlord agrees to use reasonable and diligent efforts (not involving the payment of money by Sublandlord) to obtain the Landlord's consent in a timely manner, and provided, further, that Sublandlord shall be deemed to have granted its consent under the terms of the Sublease to any matter for which the consent of Landlord has been obtained under the Lease. Page 6 19. Brokers: Sublandlord and Subtenant acknowledge and agree that they have not engaged the services of, and are not liable to any real estate agent, broker, finder or any other person or entity for any brokerage or finder's fee, commission or other amount with respect to this Sublease other than CB Richard Ellis ("Broker") who represents the Sublandlord. Sublandlord shall pay leasing commissions for this Sublease Agreement to the Broker per a separate written agreement. Sublandlord and Subtenant each agree to indemnify, defend and hold the other harmless against all loss, liability and expense, including attorneys' fees and costs, suffered by either party due to a breach of the foregoing representation, covenant and warranty. 20. Furniture: Any furniture that Alcatel is not removing from the Premises for its own use shall remain in the Premises and may be utilized by Subtenant during the Sublease Term free of charge. All costs associated with the operation, maintenance and any other related costs will be the sole costs of the Subtenant. Those items for use by Subtenant are attached hereto and made part hereof in Exhibit B. In addition, Sublandlord shall assist Subtenant with the removal and/or repositioning of various cubicles as noted in Exhibit B 21. Notices: Any notice required or permitted under this Sublease shall be in writing and shall be deemed to have been received (i) if given by overnight delivery service or by personal delivery, when actually received, or (ii) if given by certified mail, return receipt requested, postage prepaid, five (5) business days after posting with the United States Postal Service, to the other party at the following addresses or such other addresses as the parties hereto shall designate in writing: If to Sublandlord: If to Subtenant: - ----------------- --------------- Alcatel USA, Inc. Spectrum Organic Products, Inc. 1000 Coit Road 133 Copeland Plano, Texas 75075 Petaluma, CA 94952 Attn: Real Estate Administration-FACL-2 Sublandlord agrees that it shall within five (5) business days after receipt from Landlord provide Subtenant with a photocopy of any notices, requests or demands or any service of process provided to Sublandlord by Landlord under the Lease. In addition, unless otherwise expressly provided herein, any notices, or reports which Sublandlord is required to provide to Landlord under the Lease shall be delivered by Subtenant to Sublandlord within five (5) business days prior to the date on which any such notices, reports or payments must be provided by Sublandlord as Tenant under the Lease (or as soon as practicable thereafter, but in any event, prior to the date on which any such notices, reports or payments would be delinquent). In addition, any response to notices or reports to Subtenant required to be made by Sublandlord within a period specified in the Lease shall not be due until five (5) business days following the date on which any such response is due from Landlord under the Lease to Sublandlord as lessee thereunder. Page 7 22. Representations and Warranties: Sublandlord represents and warrants to Subtenant that (i) the copy of the Lease attached hereto and all of the amendments are true and correct, (ii) neither Landlord nor Subtenant (as lessee thereunder) is in default or breach of any provision of the Lease, nor has any event occurred which, with the giving of notice or the passage of time, or both, would constitute a breach or default thereunder. Nothing in this Sublease shall serve to release Sublandlord from any obligations as the Tenant of the Lease, including, without limitation, its obligation to make timely payment of all amounts constituting " Rent" under the Lease. This Sublease shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns. As between Sublandlord and Subtenant only, this Sublease shall supersede all prior Subleases between said parties, whether oral or written and this Sublease may not be modified except in a written document signed by said parties. This Sublease shall be interpreted and enforced under the laws of the state of California. IN WITNESS WHEREOF, the parties hereto have executed this Sublease as of the date first written above. SUBLANDLORD: SUBTENANT: - ----------- --------- Alcatel USA Sourcing, L.P. Spectrum Organic Products, Inc. a Texas limited partnership, a California corporation By: /s/ Nancy H. Greer By: /s/ Robert B. Fowles -------------------------- -------------------------- Name: Nancy H. Greer Name: Robert B. Fowles Title: Senior Vice President Title: Chief Financial Officer and CFO Date: 10/25/02 Date: 10/23/02 Page 8 CB RICHARD ELLIS, INC. SALE/LEASE DISCLOSURES Property: 5341 Old Redwood Highway, Petaluma, California Flood Zones: The Property may or may not be located in a flood zone. Many lenders require flood insurance for properties located in flood zones, and government authorities may regulate development and construction in flood zones. Whether or not located in a flood zone, properties can be subject to flooding and moisture problems, especially properties on a slope or in low-lying areas or in a dam inundation zone (California Government Code Section 8589.5). Buyers and tenants should have their experts confirm whether the Property is in a flood zone and otherwise investigate and evaluate these matters. Earthquakes. Earthquakes occur throughout California. The Property may or may not be situated in an Earthquake Fault Zone and/or a Seismic Hazard Zone (Sections 2621 et seq. and Sections 2690 et seq. of the California Public Resources Code, respectively). Property development and construction in such zones generally are subject to the findings of a geologic report prepared by a state-registered geologist. Whether or not located in such a zone, all properties in California are subject to earthquake risks and may be subject to a variety of state and local earthquake-related requirements, including retrofit requirements. Among other items, all new and existing water heaters must be braced, anchored or strapped to resist falling or horizontal displacement, and in sales transactions, sellers must execute a written certification that the water heaters are so braced, anchored or strapped (California Health and Safety Code Section 19211). Buyers and tenants should have their experts confirm whether the Property is in any earthquake zone and otherwise investigate and evaluate these matters. Hazardous Materials and Underground Storage Tanks. Due to prior or current uses of the Property or in the area or the construction materials used, the Property may have hazardous or undesirable metals (including lead-based paint), minerals (including asbestos), chemicals, hydrocarbons, petroleum-related compounds, or biological or radioactive/emissive items (including electrical and magnetic fields) in soils, water, building components, above or below-ground tanks/containers or elsewhere in areas that may or may not be accessible or noticeable. Such items may leak or otherwise be released. Asbestos has been used in items such as fireproofing, heating/cooling systems, insulation, spray-on and tile acoustical materials, floor tiles and coverings, roofing, drywall and plaster. If the Property was built before 1978 and has a residential unit, sellers/landlords must disclose all reports, surveys and other information known to them regarding lead-based paint to buyers and tenants and allow for inspections (42 United States Code Sections 4851 et seq.). Sellers/landlords are required to advise buyers/tenants if they have any reasonable cause to believe that any hazardous substance has come to be located on or beneath the Property (California Health and Safety Code Section 25359.7), and sellers/landlords must disclose reports and surveys regarding asbestos to certain persons, including their employees, contractors, buyers and tenants (California Health and Safety Code Sections 25915 et seq.); buyers/tenants have similar obligations. Have your experts investigate and evaluate these matters. Americans with Disabilities Act (ADA). The Americans With Disabilities Act (42 United States Code Sections 12101 et seq.) and other federal, state and local requirements may require changes to the Property. Have your experts investigate and evaluate these matters. Taxes. Sales, leases and other real estate transactions can have federal, state and local tax consequences. In sales transactions, Internal Revenue Code Section 1446 requires buyers to withhold and pay to the IRS 10% of the gross sales price within 10 days of the date of a sale unless the buyers can establish that the sellers are not foreigners, generally by having the sellers sign a Non-Foreign Seller Affidavit. Depending on the structure of the transaction, the tax withholding liability can exceed the net cash proceeds to be paid to the sellers at closing. California imposes an additional withholding requirement equal to 3 1/3% of the gross sales price not only on foreign sellers but also out-of-state sellers and sellers leaving the state if the sales price exceeds $100,000. Withholding generally is required if the last known address of a seller is outside California, if the proceeds are disbursed outside of California or if a financial intermediary is used. Have your experts investigate and evaluate these matters. CB RICHARD ELLIS, INC. SALE/LEASE DISCLOSURES Property: 5341 Old Redwood Highway, Petaluma, California Page 2 Fires. California Public Resources Codes Sections 4125 et seq. require sellers of real property located within state responsibility areas to advise buyers that the property is located within such a wildland zone, that the state does not have the responsibility to provide fire protection services to any structure within such a zone and that such zones may contain substantial forest/wildland fire risks. Government Code Sections 51178 et seq. require sellers of real property located within certain fire hazard zones to disclose that the property is located in such a zone. Sellers must disclose that a property located in a wildland or fire hazard zone is subject to the fire prevention requirements of Public Resources Code Section 4291 and Government Code Section 51182, respectively. Sellers must make such disclosures if either the sellers have actual knowledge that a property is in such a zone or a map showing the property to be in such a zone has been provided to the county assessor. Properties, whether or not located in such a zone, are subject to fire/life safety risks and may be subject to state and local fire/life safety-related requirements, including retrofit requirements. Have your experts investigate and evaluate these matters. Broker Representation. CB Richard Ellis, Inc. is a national brokerage firm representing a variety of clients. Depending on the circumstances, CB Richard Ellis, Inc. may represent both the seller/landlord and the buyer/tenant in a transaction, or you may be interested in a property that may be of interest to other CB Richard Ellis, Inc. clients. If CB Richard Ellis, Inc. represents more than one party with respect to a property, CB Richard Ellis, Inc. will not disclose the confidential information of one principal to the other. Seller/Landlord Disclosure, Delivery of Reports, Pest Control Reports and Compliance with Laws. Sellers/landlords are hereby requested to disclose directly to buyers/tenants all information known to sellers/landlords regarding the Property, including but not limited to, hazardous materials, zoning, construction, design, engineering, soils, title, survey, fire/life safety, and other matters, and to provide buyers/tenants with copies of all reports in the possession of or accessible to sellers/landlords regarding the Property. Sellers/landlords and buyers/tenants must comply with all applicable federal, state and local laws, regulations, codes, ordinances and administrative orders, including, but not limited to, the 1964 Civil Rights Act and all amendments thereto, the Foreign Investment in Real Property Tax Act, the Comprehensive Environmental Response Compensation and Liability Act, and The Americans With Disabilities Act. If a pest control report is a condition of the purchase contract, buyers are entitled to receive a copy of the report and any certification and notice of work completed. Property Inspections and Evaluations. Buyers/tenants should have the Property thoroughly inspected and all parties should have the transaction thoroughly evaluated by the experts of their choice. Ask your experts what investigations and evaluations may be appropriate as well as the risks of not performing any such investigations or evaluations. Information regarding the Property supplied by the real estate brokers has been received from third party sources and has not been independently verified by the brokers. Have your experts verify all information regarding the Property, including any linear or area measurements and the availability of all utilities. All work should be inspected and evaluated by your experts, as they deem appropriate. Any projections or estimates are for example only, are based on assumptions that may not occur and do not represent the current or future performance of the property. Real estate brokers are not experts concerning nor can they determine if any expert is qualified to provide advice on legal, tax, design, ADA, engineering, construction, soils, title, survey, fire/life safety, insurance, hazardous materials, or other such matters. Such areas require special education and, generally, special licenses not possessed by real estate brokers. Consult with the experts of your choice regarding these matters. Page 2 EX-10.42 7 spectrumorgexhi1042-111302.txt CONSENT TO SUBLEASE Exhibit 10.42 CONSENT TO SUBLEASE ------------------- THIS CONSENT TO SUBLEASE (this "Agreement") is entered as of November 13th, 2002, by and among Redwood Business Park IV, LLC, successor-in-interest to G & W/Copley Redwood Business Park, L.P., successor-in-interest to G & W/Redwood Associates Joint Venture, ("Landlord"), Alcatel USA Sourcing, L.P., a Texas limited partnership, successor-in-interest to DSC Communications Corporation and DSC Technologies Corporation ("Tenant"), Spectrum Organic Products, Inc., a California corporation ("Subtenant"), and Alcatel USA, Inc., a Delaware corporation ("Guarantor") on the basis of the following facts, understandings and intentions: A. Landlord and Tenant previously entered into that certain lease ("Original Lease") dated September 12, 1994, and as amended by the First Amendment dated September 12, 1994, the Second Amendment dated January 22, 1995, the Third Amendment dated October 30, 1995, the Fourth Amendment dated May 15, 1997, that certain Tenant Improvement Allowance Agreement executed by Landlord as of July 6, 1998 and by Tenant as of July 2, 1998, the Fifth Amendment dated November 5, 1999 and the "5341 Lease" dated June 28, 2001 , collectively referred to as the ("Lease"). A copy of the Lease is attached hereto as Exhibit A. B. Pursuant to the Lease, Landlord leases to Tenant the premises ("Premises") commonly known as 5341 Old Redwood Highway, Petaluma, California and more particularly described in the Lease. C. Tenant and Subtenant entered into a sublease ("Sublease") dated October 23rd, 2002, a copy of which is attached hereto as Exhibit B, whereby Tenant proposes to sublease to Subtenant and Subtenant proposes to sublease from Tenant a portion of the Premises more particularly described in the Sublease (the "Sublet Premises"). D. Guarantor guaranteed the performance and payment of all of Tenant's obligations under the Lease pursuant to that certain Guaranty dated as of November 5th, 1999 ("Guaranty"). E. The terms of the Lease require the written consent of Landlord as a condition precedent to the Sublease. NOW THEREFORE, IN CONSIDERATION of the mutual covenants and promises of the parties, the parties hereto agree as follows: 1. Consent. Landlord hereby consents to the Sublease subject to all of the terms and conditions of this Agreement. 2. Representations. Tenant hereby represents and warrants to Landlord that: a. Lease. The Lease attached hereto as Exhibit A is a true and correct copy of the Lease, and there exist no amendments, modifications or extensions of or to the Lease (except as included in the Lease attached hereto), and the Lease is now in full force and effect; and b. No Offsets. There exist no defenses or offsets to enforcement of the Lease by Landlord, and Landlord is not, as of the date of Tenant's execution hereof, in default in the performance of the Lease, nor has Landlord committed any breach thereof, nor has any event occurred which, with the passage of time, or the giving of notice, or both, would constitute a default or breach by Landlord. 3. Subordinate. The Sublease shall be subject and subordinate to the Lease and all of the Lease's provisions, covenants and conditions. In case of any conflict between the provisions of the Lease and the provisions of the Sublease, the provisions of the Lease shall prevail unaffected by the Sublease, however, to the extent the express terms of the Sublease are inconsistent with the terms of the Lease, the express terms of the Sublease shall control between Subtenenat and Tenant only. Subtenant shall comply with the terms and conditions of the Lease to the extent applicable to the Sublet Premises. Any breach of the Lease by either Tenant or Subtenant shall entitle Landlord to all the rights and remedies provided in the Lease in the event of a breach, and any other available remedy, against both Tenant and Subtenant. 4. No Ratification. This Agreement shall not operate as an approval of, or ratification by Landlord of any of the provisions of the Sublease and Landlord shall not be bound or estopped in any way by the provisions of the Sublease, regardless of whether any such provisions purport to obligate or otherwise bind Landlord. 5. No Waiver. This Agreement shall not be construed to modify, waive or affect (i) any present or future breach or default on the part of Tenant under the Lease; (ii) any of the provisions, covenants, or conditions in the Lease; (iii) any of Tenant's obligations under the Lease; or (iv) any rights or remedies of Landlord under the Lease or to enlarge or increase Landlord's obligations or Tenant's rights under the Lease. 6. Not Assignable. This Agreement is personal to Tenant, Guarantor and Subtenant and may not be assigned by Tenant, Guarantor or Subtenant. Any attempted assignment in violation of this section shall be void. 7. No Release. Neither the Sublease nor this Agreement shall release or discharge Tenant from any liability under the Lease and Tenant shall remain liable and responsible for the full performance and observance of all of the provisions, covenants and conditions set forth in the Lease on the part of Tenant to be performed and observed. The breach or violation of any provision of the Lease by Subtenant shall constitute a default by Tenant in fulfilling such provision. Tenant and Subtenant shall indemnify and hold Landlord harmless from and against any loss, cost, damage or expense, including attorneys' fees or costs, which arise by virtue of the Sublease or Subtenant's occupancy of the Sublet Premises. 8. No Consent to Future Subletting. This Agreement by Landlord shall not be construed as a consent by Landlord to any future assignment or subletting either by Tenant or Subtenant. The Sublease may not be modified, amended, assigned, renewed or extended, nor shall the Premises, or any part thereof, be further sublet, without the prior written consent of Landlord in each instance. 2 9. Termination. Upon the expiration of the term or earlier termination of the Lease, or upon the surrender of the Premises by Tenant to Landlord, except as provided in Section 10 below, the Sublease shall terminate as of the effective date ("Termination Date") of such expiration, termination or surrender, and Subtenant shall vacate the Sublet Premises on or before the Termination Date. Tenant shall surrender the Premises to Landlord at the expiration or earlier termination of the Lease in the condition required by the Lease. Subtenant shall cooperate with Tenant in connection with Tenant's performance of its obligations pursuant to this section. 10. Landlord's Election. If the Lease expires or terminates during the term of the Sublease for any reason, or if Tenant shall surrender the Lease to Landlord, Landlord may elect, in Landlord's sole discretion, by delivering written notice to Subtenant not later than thirty (30) days after the Termination Date, to continue the Sublease as a direct lease between Landlord, as landlord, and Subtenant, as tenant, on the terms and conditions of the Sublease for either (i) the remaining term of the Sublease, or (ii) such periodic tenancy as Landlord shall select, provided that in no event shall the initial period of the periodic tenancy be in excess of the remaining term of the Sublease. Upon an election by Landlord pursuant to this section, Subtenant shall attorn to Landlord. If Landlord elects to continue the Sublease, in no event shall Landlord be (i) liable to Subtenant for any act or omission by Tenant; (ii) subject to any offsets or defenses which Subtenant had or might have against Tenant; (iii) bound by any rent or additional rent or any other payment which Subtenant may have paid to Tenant more than thirty (30) days in advance; or (iv) bound by any amendment to the Sublease not consented to in writing by Landlord. 11. Notices. All notices required to be given hereunder shall be given in accordance with the Lease. Notices to Landlord shall be given at the following address: c/o Basin Street Properties 1318 Redwood Way Suite 140 Petaluma, CA 94954 Attn: Property Management 12. Condition of Sublet Premises. Landlord makes no representations or warranties, express or implied, concerning the condition of the Sublet Premises and Subtenant accepts the Sublet Premises in their "as-is" condition as of the date hereof. Any improvements to the Sublet Premises by Tenant shall be in accordance with the requirements of the Lease. 13. Guarantor. Guarantor consents to the Sublease and the terms of this Agreement and agrees that its obligations under the Guaranty also include the guaranty of the obligations of Tenant under this Agreement. 3 14. Brokerage. In no event shall Landlord be liable for any leasing or brokerage commission with respect to the negotiation and execution of the Sublease or this Agreement. Tenant and Subtenant shall indemnify, defend, protect and hold Landlord harmless from and against all costs, expenses, attorneys' fees and other liability for commissions or other compensation claimed by any broker or agent claiming the same by, through or under the indemnifying party with respect to the Sublease or this Agreement. 15. Limitation of Liability. In addition to any other limitations of Landlord's liability contained in the Lease, as amended to date, the liability of Landlord to either Tenant or Subtenant for any default by Landlord under the terms of the Lease shall be limited to such party's actual direct, but not consequential, damages therefor and shall be recoverable only for the interest of Landlord in the building in which the Sublet Premises are located and neither Landlord nor any partner, member, principal or affiliate of Landlord shall be personally liable for any deficiency. 16. Entire Agreement. There are no oral or side agreements among the parties affecting this Agreement, and this Agreement contains the entire agreement of the parties with respect to Landlord's consent to the Sublease. [SIGNATURES ON FOLLOWING PAGE] 4 IN WITNESS WHEREOF, the parties have duly executed this Agreement as of the day and year first above written. "Landlord" "Tenant" Redwood Business Park IV, LLC, Alcatel USA Sourcing, L.P., a Delaware limited liability company a Texas Limited Partnership By: /s/ Matt White By: /s/ Nancy H. Greer -------------------------- ---------------------------- Name: Matt White Name: Nancy H. Greer Its: Manager of G&W Ventures Its: Senior Vice President & CFO By: -------------------------- Name: -------------------------- Its: -------------------------- "Subtenant" Spectrum Organic Products, Inc., a California Corporation By: /s/ Robert B. Fowles ---------------------------- Name: Robert B. Fowles Its: Chief Financial Officer By: -------------------------- Name: -------------------------- Its: -------------------------- "Guarantor" -----------------------, a ------------------- By: -------------------------- Name: -------------------------- Its: -------------------------- By: -------------------------- Name: -------------------------- Its: -------------------------- EX-23.02 8 spectrumorgexhi2302-031403.txt CONSENT OF CPA DATED 03-14-03 CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS Spectrum Organic Products, Inc. Petaluma, California We hereby consent to the incorporation by reference in the Registration Statement on Form S-8 (as filed with the Securities and Exchange Commission on August 30, 2000) of Spectrum Organic Products, Inc. of our report dated February 21, 2003, relating to the financial statements, which appears in this Form 10-K. /s/ BDO Seidman, LLP - ----------------------------- BDO Seidman, LLP San Francisco, California March 14, 2003 EX-99.07 9 spectrumorgexhi9907-031203.txt CERTIFICATION OF CEO Exhibit 99.07 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 In connection with the Annual Report on Form 10-K of Spectrum Organic Products, Inc. ("the Company") for the period ended December 31, 2002 as filed with the Securities and Exchange Commission on the date hereof ("the Report"), I, Neil G. Blomquist, Chief Executive Officer of the Company, certify pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: 1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and 2) the information contained in the Report presents fairly, in all material respects, the financial condition and results of operations of the Company. /s/ Neil G. Blomquist ----------------------------------- Neil G. Blomquist Chief Executive Officer March 10, 2003 EX-99.08 10 spectrumorgexhi9908-031203.txt CERTIFICATION OF CFO Exhibit 99.08 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 In connection with the Annual Report on Form 10-K of Spectrum Organic Products, Inc. ("the Company") for the period ended December 31, 2002 as filed with the Securities and Exchange Commission on the date hereof ("the Report"), I, Robert B. Fowles, Chief Financial Officer of the Company, certify pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: 1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and 2) the information contained in the Report presents fairly, in all material respects, the financial condition and results of operations of the Company. /s/ Robert B. Fowles ----------------------------------- Robert B. Fowles Chief Financial Officer and Secretary March 10, 2003 -----END PRIVACY-ENHANCED MESSAGE-----