10QSB 1 file001.txt FORM 10-QSB. QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-QSB [x] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the period ended MARCH 31, 2004 Commission File Number: 0-19409 SYNERGY BRANDS, INC. (Exact name of registrant as it appears in its charter) Delaware 22-2993066 (State of incorporation) (I.R.S. Employer identification no.) 1175 Walt Whitman Road, Melville NY 11747 (Address of principal executive offices) (zip code) 631-424-5500 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. [x] YES [ ] NO APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. On May 5, 2004 there were 2,031,154 shares outstanding of the registrant's common stock. SYNERGY BRANDS, INC. FORM 10-QSB MARCH 31, 2004 TABLE OF CONTENTS PART I: FINANCIAL INFORMATION Page Item 1: Financial Statements Consolidated Balance Sheet as of March 31, 2004 (Unaudited) 2-3 Consolidated Statements of Operations for the three months ended March 31, 2004 and 2003 (Unaudited) 4 Consolidated Statements of Cash Flows for the three months ended March 31, 2004 and 2003 (Unaudited) 5-6 Notes to Consolidated Financial Statements (Unaudited) 7-13 Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations 14-23 Forward Looking Information and Cautionary Statements 24-35 PART II: OTHER INFORMATION Item 3: Controls and Procedures 36 Item 4: Submission of matters to a vote of Security Holders 36 Item 6: Exhibits and Reports on Form 8-K 36 SIGNATURES AND CERTIFICATIONS SYNERGY BRANDS, INC. & SUBSIDIARIES CONSOLIDATED BALANCE SHEET AS OF MARCH 31, 2004 (Unaudited) ASSETS
Current Assets: Cash and cash equivalents $ 536,972 Cash collateral security deposit 500,000 Martetable securities 34,790 Accounts receivable trade, less allowance for doubtful accounts of $127,481 5,762,389 Other receivables 1,137,588 Inventory 1,812,666 Prepaid assets and other current assets 515,565 ------------ Total Current Assets 10,299,970 Property and Equipment, Net 347,818 Other Assets 224,242 Notes Receivable 5,667 Intangible Assets, net of accumulated amortization of $1,836,314 1,468,678 Goodwill 264,297 ------------ Total Assets $ 12,610,672 ============
The accompanying notes are an integral part of this statement. -2- SYNERGY BRANDS, INC. & SUBSIDIARIES CONSOLIDATED BALANCE SHEET AS OF MARCH 31, 2004 (Unaudited) LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities: Line-of-Credit $ 5,378,138 Accounts Payable and Accrued Expenses 3,031,782 Related Party Note Payable 46,357 ------------ Total Current Liabilities 8,456,277 Notes Payable 1,218,536 Stockholders' Equity: Class A Preferred Stock- $.001 par value; 100,000 shares authorized and outstanding; liquidation preference of $10.50 per share 100 Class B Preferred Stock- $.001 par value; 9,900,000 shares authorized, none issued - Class B, Seriessx A Preferred Stock- $.001 par value; 500,000 shares authorized; 160,000 shares issued and outstanding; liquidation preference of $10.00 per share 160 Common Stock- $.001 par value; 49,900,000 shares authorized; 2,031,154 shares outstanding 2,031 Additional paid-in capital 38,106,512 Deficit (34,795,301) Unearned compensation (370,128) Accumulated other comprehensive loss (2,515) Less; Treasury Stock, at cost, 1,000 shares (5,000) ------------ Total Stockholders' Equity 2,935,859 ------------ Total Liabilities and Stockholders' Equity $ 12,610,672 ============
The accompanying notes are an integral part of this statement. -3- SYNERGY BRANDS, INC. & SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2004 (UNAUDITED) 2004 2003
Net Sales $ 13,307,183 $ 9,079,644 ------------- ------------ Cost of Sales Cost of product 12,282,678 8,409,415 Shipping and handling costs 206,981 160,451 ------------- ------------ Gross Profit 817,524 509,778 Operating Expenses Selling, General and Administrative Expenses 841,830 666,781 Depreciation and Amortization 145,787 147,950 ------------- ------------ 987,617 814,731 Operating Loss (170,093) (304,953) Other Income (expense) Interest Income 4,350 3,314 Other Income (expense) (3,624) 282,750 Equity in earnings of Investee 40,863 40,562 Interest and financing expense (281,545) (113,083) ------------- ------------ (240,956) 213,543 Loss before income taxes (411,049) (91,410) Income tax expense 10,925 41,408 ------------- ------------ NET LOSS (421,974) (132,818) Dividened-Preferred Stock (36,000) - ------------- ------------ Net loss attributable to Commons Stockholders $ (457,974) $ (132,818) ============= ============ Basic and diluted net loss per common share $ (0.23) $ (0.09) ============= ============
The accompanying notes are an integral part of these statements -4- SYNERGY BRANDS, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE THREE MONTHS ENDED MARCH 31, (UNAUDITED)
2004 2003 ------------ ------------ Cash Flows From Operating Activities: Net loss $ (421,974) $ (132,818) Adjustments to Reconcile Net loss to net cash used in operating activities Depreciation and Amortization 145,787 147,950 Amortization of financing cost 15,374 3,111 (Recovery of)/ provision for doubtful accounts - (35,090) Loss (Gain) on sale of marketable securities (1,215) - Equity in earnings of investee (40,863) (40,562) Gain on settlement of liabilities due to vendor - (282,750) Non-Cash compensation 30,750 - Operating expenses paid with common stock 115,825 44,236 Changes in Operating Assets and Liabilities: Net (increase) decrease in: Accounts receivable and other receivables (2,595,451) (301,851) Inventory 351,450 (631,311) Prepaid assets, related party note receivable and other assets 32,708 (52,850) Net increase (decrease) in: Accounts payable, related party note payable, accrued expenses and other current liabilities (168,832) (84,139) ------------ ------------ Net cash used in operating activities (2,536,441) (1,366,074) Cash Flows From Investing Activities Payment of collateral security deposit - (250,000) Purchase of marketable securities (47,005) - Proceeds from sale of marketable securities 57,715 - Purchase of property and equipment - (723) Payments received on notes receivable 431,466 600 ------------ ------------ Net cash provided by (used in) investing activities 442,176 (250,123) Cash Flows From Financing Activities Borrowings under line of credit 7,491,828 3,885,364 Repayments under line of credit (6,127,370) (3,204,809) Proceeds from the issuance of notes payable 490,000 500,000 Proceeds from the issuance of common and preferred stock in a private placement - 600,000 Proceeds from the exercise of stock purchase options 34,250 - Payment of dividends (36,000) - Purchase of treasury stock - (32,779) ------------ ------------ Net cash provided by financing activities 1,852,708 1,747,776 Foreign currency translation 1,007 (2,476) ------------ ------------ Net increase (decrease) in cash (240,550) 129,103 Cash and cash equivalents, beginning of period 777,522 174,724 ------------ ------------ Cash and cash equivalents, end of period $ 536,972 $ 303,827 ============ ============
The accompanying notes are an integral part of these statements. -5- SYNERGY BRANDS, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE THREE MONTHS ENDED SEPTEMBER 30, (UNAUDITED) 2004 2003 --------- ---------- Supplemental disclosure of cash flow information: Cash paid for interest $ 232,171 $ 100,597 ========== ========== Cash paid for income taxes $ 10,925 $ 41,408 ========== ========== Supplement disclosures of non-cash operating, investing and financing activities Common Stock issued for an acquisition $100,000 ======== Common Stock issued with debt financing $ 75,000 $ 56,000 ======== ========== The accompanying notes are an integral part of these statements. -6- SYNERGY BRANDS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements MARCH 31, 2004 and 2003 NOTE A - UNAUDITED FINANCIAL STATEMENTS The consolidated balance sheet as of March 31, 2004, the consolidated statements of operations for the three months ended March 31, 2004 and 2003, the consolidated statements of cash flows for the three months ended March 31, 2004 and 2003, have been prepared by Synergy Brands, Inc. ("Synergy" or the "Company") without audit. In the opinion of management, all adjustments (which include only normally recurring adjustments) necessary to present fairly the financial position, results of operations and cash flows at March 31, 2004 (and for all other periods presented) have been made. Certain information and note disclosures, normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America, have been condensed or omitted.It is suggested that these consolidated financial statements be read in conjunction with the financial statements and notes thereto included in the Annual Report on Form 10-KSB for the year ended December 31, 2003 filed by the Company. The results of operations for the periods ended March 31, 2004 and 2003 are not necessarily indicative of the operating results for the respective full years. NOTE B - STOCK-BASED COMPENSATION The Company accounts for stock-based compensation using the intrinsic value method in accordance with Accounting Principles Board Opinion No.25, "Accounting for Stock Issued to Employees", and related Interpretations ("APB No.25") and has adopted the disclosure provisions of SFAS No. 148. Under APB No. 25, when the exercise price of the Company's employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized. -7- SYNERGY BRANDS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements MARCH 31, 2004 and 2003 NOTE C - ADVERTISING EXPENSE The Company expenses advertising and promotional costs as incurred. Advertising and promotional costs were approximately $83,000 and $42,000 for the three months ended March 31, 2004 and 2003, respectively. NOTE D - VENDOR ALLOWANCES The Company recognizes vendor allowances, which are classified as reductions in cost of sales, at the date goods are purchased and recorded, and under fixed and determined arrangements. During the quarter ended March 31, 2004, the Company recognized approximately $159,000 in vendor allowances arising from annual arrangements with a major supplier that met the criteria for being fixed and determinable. The Company records such vendor allowances principally based on purchases, which in the prior quarter were not under fixed arrangements, on a current basis as purchases are recorded and the arrangements are in effect that meet the aforementioned criteria. Vendor allowances from manufactures, included in other receivables in the accompanying consolidated balance sheet aggregated $1,137,588 at March 31, 2004. NOTE E - ACQUISITION On June 1, 2003, the Company acquired the common stock of Ranley Group, Inc. (d.b.a. Cigars Around the World ("CAW") of Chicago, Illinois). CAW is a leading supplier of premium hand made cigar to some of some of the most prestigious hotels, restaurants, casinos and golf clubs in the United States. The purchase price for the common stock acquired was $425,000. Additional consideration of up to $450,000, to be paid through the issuance of Class B, Series A Preferred stock, cash or common stock is payable on various dates through May 2006, based upon the achievement of certain targeted operating results of CAW predominately based upon multiplying Earnings before depreciation amortization and taxes (EBTDA) by six times. In December 2003, 25,000 shares of common stock were issued valued at $100,000, the quoted market price, and recorded as additional Goodwill for purpose of the satisfying the anticipated consideration due the seller by March 31, 2004, based upon the operating results of CAW through December 31, 2003. In February of 2004, the Company issued an additional 25,000 shares in anticipation of satisfying the initial annual EBTDA requirements for the CAW acquisition. The shares were valued at $100,000 the quoted market price, and recorded as additional Goodwill. Based upon actual results, the EBTDA for CAW in the first year resulted in an excess payment to CAW of $47,000 which will be credited against future payments. The acquisition of CAW has been accounted for as a purchase pursuant to SFAS No. 141, " Business Combinations." The operations of CAW have been included in the Company's statement of operations since the acquisition date. The following table summarizes the assets and liabilities acquired from CAW based upon the Company's allocation of the initial $425,000 purchase price. Cash $ 11,000 Accounts Receivable 374,000 Other Assets 9,000 Customer List 361,000 Goodwill 64,000 Accounts Payable (331,000) Other Current Liabilities (35,000) Other Long-Term Liabilities (28,000) ----------- $ 425,000 =========== -8- SYNERGY BRANDS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements MARCH 31, 2004 and 2003 NOTE E (continued) The intangible assets acquired consist principally of customer lists, which are being amortized over a six year estimated useful life from the date of acquisition. The primary reason for the acquisition of CAW and the main factor that contributed to a purchase price in excess of the net assets acquired is that CAW is expected to positively impact the Company's results of operations, in that CAW is expected to have limited selling, general and administrative expenses, as such business is a strategic addition to the Company's current internet operations. CAW distribution is being handled at Synergy's current cigar distribution facilities in Florida. The Company's cigar operations are conducted through Gran Reserve Corporation ("GRC"), which is wholly owned by the Company.Summarized below are the unaudited pro forma results of operations of the Company as if CAW had been acquired at the beginning of the fiscal 2003 period: Three Months ended March 31,2003 -------------------------------- Net Sales $9,339,380 Net Loss per common stockholders (135,632) Net loss per common share: Basic $ (0.09) Diluted $ (0.09) The pro forma financial information presented above for the three months ended March 31, 2003 is not necessarily indicative of either the results of operations that would have occurred had the acquisition taken place at the beginning of the period presented or of future operating results of the combined companies. NOTE F - INVENTORY Inventory, consisting of goods held for sale, as of March 31, 2004, consisted of the following: Grocery, health and beauty products $ 1,477,607 General Merchandise $ 335,059 ----------- $ 1,812,666 =========== -9- SYNERGY BRANDS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements MARCH 31, 2004 and 2003 NOTE G - NOTE RECEIVABLE Through December 31, 2003, the Company provided $429,600 in financing to a significant customer who is a distributor of the Company's products in Canada and is expanding its distribution channel. The promissory note, which is secured by accounts receivable and inventory, bears interest at 4%. The principle balance of $429,600 was repaid on March 31, 2004. Sales to this customer aggregated $3,373,000 and $996,000 during the three months ended March 31, 2004 and in 2003, respectively. Accounts receivable from this customer aggregates $2,304,000 at March 31, 2004. NOTE H - INVESTMENT In December 2001, the Company made an investment in approximately 20% of the outstanding common stock of an investee ("Interline Travel and Tours or ITT"). The Company accounts for this investment under the equity method. The Company recorded equity in the net earnings of investee of $ 40,863 and $40,562 during the three months ended March 31, 2004 and 2003, respectively. At March 31, 2004, the investment in ITT is approximately $205,000 and is included in "other assets" on the accompanying balance sheet. Summarized results of operations of this investee for the three months ended March 31, 2004 and 2003 is as follows: 2004 2003 ---------- ---------- Revenues $2,927,000 $2,743,000 Operating expenses 2,740,000 (2,436,000) Other income 50,500 20,000 Income before income taxes 237,500 327,000 Income tax expense (77,500) (120,000) ---------- ---------- Net income $ 160,000 $ 207,000 ========== ========== NOTE I - LINE-OF-CREDIT AND NOTES PAYABLE In 2002, The Company entered into a promissory note with a lender that provided for borrowings of $60,000, which bore interest at a rate of 9% per annum and was due on December 31, 2004. On March 31, 2003 the Company entered into a modificaiton agreement with the lender pursuant to which the Company exchanged the note for 15,300 shares of common stock valued at $40,000 and $20,000 in cash. In 2002, two of the Company's subsidiaries entered into two revolving loan and security agreements with the same financial institution (the "Lender"). The lines of credit, as amended in July 2003, under the loans allow for the borrowing of up to $7,000,000 based on the sum of 85% of the net face amount of eligible accounts receivable, as defined, plus the lesser of (1) $2,750,000 or (2) eligible inventory and eligible goods in transit, as defined. The terms of the agreements are for one year and provide for automatic renewals unless written consent by either the Company or the Lender is provided within 60 days of the renewal date. Interest accrues on outstanding borrowings at the greater of (i) 8% per annum in excess of the prime rate or (ii) 17% per annum. The minimum interest to be paid for any year under the line of credit is $320,000. At March 31, 2004, the interest rate on outstanding borrowings was 17%. Outstanding borrowings are collateralized by a continuing security interest in all of the subsidiaries' accounts receivable, chattel paper, inventory, equipment, instruments, investment property, documents and general intangibles. 525,000 shares of the Company's common stock have also been pledged as collateral on the outstanding borrowings. The Company has guaranteed these loans on an unsecured basis. In November 2003, the Company secured a $2 million stand by letter of credit (LC) for the purpose of increasing its line of credit to $3.5 million with a major vendor. The LC was secured by a $500,000 cash deposit as well as certain reserves modified under the loan and security agreement with the Lender. The LC expires in May 2004, at which time the cash deposit and reserves will be released. In the event that the Company requires an extension of this facility, the modification to the loan and security agreement will remain in effect. On February 5, 2003, the Company received $500,000 pursuant to the issuance of two secured promissory notes from certain shareholders of ITT, a 20% investee. Borrowings under the notes bear interest at a rate of 12%. The Company is not required to repay any principal until the maturity date of the notes, February 4, 2005. 25,000 restricted shares of the Company's common stock were also issued as part of the financing. The relative estimated fair value of the common stock that was issued of $56,000 was recorded as debt discount and will be amortized over the life of the notes payable. As security for the notes, the Company pledged as collateral its investment in the common stock of ITT. (See Note H.) On July 1, 2003, the Company received $ 350,000 pursuant to the issuance of three secured promissory notes from certain shareholders of ITT, a 20% investee. Borrowings under the notes bear interest at a rate of 12%. -10- SYNERGY BRANDS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements MARCH 31, 2004 and 2003 NOTE I (continued) The Company is not required to repay any principal until the maturity date of the notes, June 30, 2005. 17,500 restricted shares of the Company's common stock were also issued as part of the financing. The relative estimated fair value of the common stock that was issued of $42,000 was recorded as debt discount and will be amortized over the life of the notes payable. As security for the notes, the Company pledged as collateral its investment in the common stock of ITT. (See Note H.) On March 1, 2004, the Company received $490,000 pursuant to the issuance of three secured promissory notes from certain shareholders of ITT, a 20% investee. Borrowings under the notes bear interest at a rate of 12%. The Company is not required to repay any principal until the maturity date of the notes, February 28, 2006. 19,600 restricted shares of the Company's common stock were also issued as part of the financing. The relative estimated fair value of the common stock that was issued of $75,000 was recorded as debt discount and will be amortized over the life of the notes payable. As security for the notes, the Company pledged as collateral its investment in the common stock of ITT (see Note H). NOTE J - STOCKHOLDERS EQUITY The Company has 100,000 authorized and outstanding shares of Class A preferred stock with a par value of $.001; 13-to-one voting rights; liquidation of $10.50 per share and before common stock and redemption at option of Company at $10.50 per share. In January 2003, the Company designated 100,000 shares of Class B Preferred stock, par value $.001 per share to be designated as Class B, Series A Preferred Stock and in June 2003, the Company increased the authorized Class B, Series A preferred stock to 500,000 shares. The holders of Class B, Series A Preferred Stock have no voting rights with respect to general corporate matters. The holders of Class B, Series A Preferred Stock are entitled to receive dividends at the annual rate of $.90 per share per annum. The Company may, as its option, at any time in whole, or from time to time in part, out of earned funds, capital and surplus of the Corporation, redeem the Class B, Series A Preferred Stock on any date set by the Board of Directors, at $10.00 per share plus, in each case, an amount equal to all dividends of Class B, Series A Preferred Stock accrued and unpaid thereon, pro rata to the date of redemption. If, however, as to each share of Class B, Series A Preferred Stock outstanding, if not redeemed by the Company within 2 years of the issuance of such shares, the Company will be obligated to issue to the then holder of record of such outstanding Class B, Series A Preferred Stock, half a share of the Company's unissued restricted Common Stock per share of Class B, Series A Preferred Stock for each year that said share is not redeemed. No more that 19.9% of the Company's stock can be issued in connection with stock dividend payments against the Class B, Series A preferred stock. In January 2003, the Board of Directors of the Company approved a private placement of securities ("2003 Private Placement") in which 100,000 units were offered, with each unit consisting of one share of unregistered Class B, Series A Preferred Stock and one share of unregistered restricted common stock, at a purchase price of $10.00 per unit. In February 2003, the Company sold 60,000 units and received aggregate proceeds of $600,000 as a result of the 2003 Private Placement. In June 2003, the Board of Directors approved a second Private Placement in which 100,000 shares were offered, with each unit consisting of one share of unregistered Class B, Series A preferred Stock and one share of unregistered restricted Common Stock at a purchase price of $10.00 per unit. In January and June 2003, the Company sold 10,000 and 90,000, units and received aggregate proceeds of $100,000 and $900,000 respectively. In connection with the January and June 2003 private placements, the Company incurred $90,000 in legal fees which are netted against proceeds. In July 2003, the Company issued 150,000 shares of common stock in connection with an agreement for consulting services for the three -year period ending June 30, 2006. The Company recorded $403,500 as unearned compensation in July 2003 and recorded compensation expense of $33,624 for the three months ended March 31, 2004. -11- SYNERGY BRANDS, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements MARCH 31, 2004 and 2003 NOTE J (continued) During the three months ended March 31, 2004, the Company issued 42,195 shares of common stock as compensation for services under existing agreements and recorded a charge to operations of $115,825. During the three months ended March 31, 2004, the Company received proceeds of $34,250 from the exercise of options to purchase 25,000 shares of the Company's common stock. In connection which such options, certain of which were modified, the Company recorded compensation expense and a credit to additional paid-in capital of $30,750. During the three months ended March 31, 2003, the Company issued 25,938 shares of common stock for services under existing agreements and recorded a charge to operations of $44,236. NOTE K - COMMITMENTS AND CONTINGENCIES 1. OTHER LIABILITIES Since 1999, the Company has disputed services performed by two vendors. The Company has entered into a settlement and release agreement in which the Company has paid $13,000 to one of the vendors and the Company has been released of its liability to that vendor. The Company has recorded a gain of $155,750 as a result of this release during the first quarter of 2003. In March 2003, the Company and the other vendor executed a settlement and release agreement. Pursuant to the terms of the settlement and release agreement, the Company was relieved of its obligation to pay for the services that was disputed. The Company recorded a gain of $127,000 as a result of the release by this vendor. These gains were recorded as a component of other income (expense) in the consolidated statements of operations. NOTE L - SEGMENT AND GEOGRAPHICAL INFORMATION All of the Companies identifiable assets and results of operations are located in the United States and Canada. Management evaluates the various segments of the Company based on the types of products being distributed which were, as shown below: Three Months Ended March 31, 2004 ----------------------------------
Proset PHS Group B2C Corporate Total Revenue 2004 $ 756,286 $12,143,133 $ 407,764 $ - $13,307,183 2003 $ 880,288 $ 7,889,209 $ 310,147 $ - $ 9,079,644 Net Income 2004 $ (52,104) $ (2,463) $(126,974) $(276,433) $ (457,974) (Loss) 2003 $ (89,051) $ (90,455) $ 204,839 $(158,151) $ (132,818) Interest & Finance 2004 $ 55,030 $ 214,660 $ 12,750 $ 105 $ 282,545 Expenses 2003 $ 37,405 $ 68,394 $ 68,394 $ 1,350 $ 113,083 Depreciation & 2004 $ 53,355 $ 786 $ 29,342 $ 62,304 $ 145,787 amortization 2003 $ 53,244 $ 68,193 $ 20,333 $ 6,180 $ 147,950
-12- Identifiable assets are as follows:
March 31, 2004 $ 3,430,159 $ 7,035,790 $1,361,648 $ 783,075 $12,610,672 December 31, 2003 $ 2,874,102 $ 6,236,552 $1,253,920 $ 628,071 $10,992,645
NOTE M- NET LOSS PER SHARE Basic and diluted loss per share is calculated by dividing the net loss applicable to common stock by the weighted-average number of common shares outstanding during each period. Incremental shares from assumed exercises of stock options and warrants of 666,650 and 586,759 for the three months ended March 31, 2004 and 2003, respectively, have been excluded from the calculation of diluted loss per share since their effect would be antidilutive. The following data shows the amounts used in computing basic and diluted loss per share: Three Months ended March 31, 2004 2003 ---------- --------- Net loss applicable to common stock $(457,974) $(132,818) ========== ========= Weighted-average number of shares in basic and diluted EPS 1,975,750 1,401,040 ========== ========== NOTE N: SUBSEQUENT EVENTS On April 2, 2004 the Company completed a financing with Laurus Master funds ("Laurus"). The financing consisted of a $1.5 million secured convertible debenture that converts into common stock under certain conditions at $5.00 per share or matures April 2, 2007. In addition, Laurus was issued 100,000 warrants exercisable at $5.00 per share. The Company's common stock's quoted market price at that the date of closing was $4.00 per share. The debenture has a three-year term with a coupon rate of prime plus 3%, which is currently at 7%. The Company is required to file an S-3 registration statement to register to common stock underlying the debenture and warrant. Subsequent to March 31, 2004, PHS Group entered into a sublease agreement, which commences June 1, 2004 and ends March 31, 2010 for office facilities and outside warehousing . -13- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION OVERVIEW Synergy Brands, Inc. (SYBR or the Company) is a holding company that operates in wholesale distribution of consumer goods as well as retail distribution of premium cigars and salon products through three segments. It principally focuses on the sale of nationally known brand name consumer products manufactured by major U.S. manufacturers. The consumer products are concentrated within the Grocery and Health & Beauty Aids (HBA) industries as well as the premium cigar business. The company distributes and sells these products through wholly owned subsidiaries in two distinct manners. BUSINESS-TO-BUSINESS (B2B): THE COMPANY OPERATES TWO BUSINESSES SEGMENTS WITHIN THE B2B SECTOR. B2B IS DEFINED AS SALES TO NON-RETAIL CUSTOMERS. PHS Group ("PHS") distributes Grocery and HBA products to retailers and wholesalers predominately located in the Northeastern United States. PHS is the largest subsidiary of the Company and represents about 91% of the overall Company sales. PHS's core sales base continues to be the distribution of nationally branded consumer products in the grocery and (HBA) sectors. PHS has positioned itself as a distributor for major manufacturers as opposed to a full line wholesaler. A full line wholesaler has the responsibility of servicing the entire needs of a retail operation, whereby a distributor caters to specific merchandising categories. As a result, PHS is able to plan the needs of its customers directly from the source of supply and in turn increase sales to its customers through this unique focus. PHS concentrates on the fastest moving promotional items such as: Tide, Bounty, Nyquil, Pantene, Clorox bleach, Scott tissues, Marcal tissues among many others, and uses logistics and distribution savings to streamline and reduce its sale prices. The second business segment within the Company's B2B sector is Proset Hair Systems (Proset). Proset distributes Salon Hair care products to wholesalers, distributors, chain drug stores and supermarkets in the Northeastern part of the United States. BUSINESS TO CONSUMER (B2C): THE COMPANY OPERATES THREE BUSINESSES WITHIN THE B2C SEGMENT. B2C IS DEFINED AS SALES TO RETAIL CUSTOMERS. The Company's B2C activities are conducted through its wholly owned subsidiary Gran Reserve Corporation (GRC). GRC operates the following businesses o Cigars Around the World is a recently acquired company that sells premium cigars to restaurants, hotels, casinos, country clubs and many other leisure related destinations. The company was acquired in June 2003. o CigarGold.com sells premium cigars through the Internet directly to the consumer. o BeautyBuys.com sells salon hair care products directly to the consumer. The Company also owns 20% of the outstanding common stock of Interline Travel and Tours, Inc. (ITT). ITT provides cruise and resort hotel packages through a proprietary reservation system to airline employees and their retirees. ITT is believed to be the largest Company in this sector of the travel industry. Information on ITT can be found at WWW.PERX.COM. The Company believes that its capital investment in this unique travel Company may provide for future capital appreciation. Synergy Brands does not manage ITT's day-to day operations. For further information please visit our corporate website at WWW.SYBR.COM -14 CONSOLIDATED RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2004 AS COMPARED TO THE THREE MONTHS ENDED MARCH 31, 2003. SUMMARY OF OPERATING SEGMENTS AND SUMMARY OF CONSOLIDATED RESULTS OF OPERATIONS OPERATING OPERATING AND SEGMENTS CORPORATE SEGMENTS THREE MONTHS ENDED 3/31/2004
Revenue 13,307,183 46.56% 13,307,183 46.56% Gross Profit 817,524 60.37% 817,524 60.37% SG&A 632,648 23.34% 841,830 26.25% Net loss (181,541) 816.62% (457,974) -244.81% Net loss per common share (0.09) (0.23) Depreciation and amortization 83,483 -41.11% 145,787 -1.46% Interest Income (4,344) 32.12% (4,350) 31.26% Interest and Financing 282,440 152.78% 282,545 149.86% --------- ---------- EBITDA 180,038 2599.83% (33,992) 78.47% ========= ========== EBITDA net income (loss) per share 0.09 (0.02)
THREE MONTHS ENDED 3/31/2003 Revenue 9,079,644 9,079,644 Gross Profit 509,778 509,778 SG&A 512,930 666,781 Net loss 25,333 (132,818) Net loss per common share 0.02 (0.09) Depreciation and amortization 141,770 147,950 Interest Income (3,288) (3,314) Other Income (282,750) (282,750) Interest and Financing 111,733 113,083 --------- ---------- EBITDA (7,202) (157,849) ========= ========== EBITDA net income (loss) per share (0.01) (0.11) Revenues increased by 46.6% to $13,307,183 for the three months ended March 31, 2004 as compared $9,079,644 for the three months ended March 31, 2003. The largest percentage increase was in the Company's B2B operations. The Company's grocery operation continued to develop additional vendor relationships in the grocery and HBA businesses as well as expand its sales in Canada. Gross profit increased by 60% to $817,524 in 2004 as compared to 2003. The overall gross profit percentage increased to 6.1% to from 5.6%. The increase in gross profit is attributable to better operating margins in the B2B operations realized through higher vendor allowances as well as an increase of Direct Store Delivery sales, whose sales generate higher gross margins. The acquisition of CAW also helped increase gross profit. The following segment analysis will further define the components, which caused the increase in operating gross profit. In this period the Company utilized its own truck fleet and developed a Direct Store Delivery (DSD) warehousing operation which cost the Company $64,000 as compared to $19,000 in 2003. Management believes that this operation should increase the Company's sales and gross profit. In order for the Company to achieve improved profitability it needs to reduce its financing costs and increase revenues and operating margins. Selling General and Administrative expenses (SGA) increased by 26% while revenues increased by 46.6% for the three months ended March 31, 2004 as compared to the three months ended March 31, 2003. The Company streamlined its operations by centralizing all administrative functions at its corporate offices, reduced staff in its Proset operation through outsourcing, while also reducing the costs involved in retail sales. The largest subsidiary of the Company, PHS Group increased its SGA expenses by 32% to $359,887 for the three months ended March 31, 2004 as compared to $272,724 for the three months ended March 31, 2003. The increase in SGA for PHS group was caused by a 54% increase in revenues. PHS incurs variable expenses in connection with selling costs as well as its promotional expenses. As revenues rise sales commissions and certain operating expenses resulting from sales increase commensurately. -15- The net loss of the Company was $457,974 for the three months ended March 31, 2004 as compared to a net loss of $132,818 for the three months ended March 31, 2003. In the first quarter of 2003, the company realized a onetime gain of $282,750 in connection with the extinguishment of online advertising payables. Other material factors that affected the Company's costs were increased financing costs resulting from higher revenues. The increase was attributable to the development of the Company's wholesaling operation. Corporate expenses such as legal, accounting, and regulatory costs represent the difference between the Company's consolidated results and operating results. Management believes that its corporate expenses may increase as a result of additional regulatory requirements that have been enacted by the Securities and Exchange Commission (SEC). The Company will be required to comply with additional governance and financial regulations that will likely result in additional corporate expenses. Corporate expenses for the three months ended March 31, 2004 totaled $209,182, which include legal, accounting and regulatory expenses as compared to $153,851 for the three months ended March 31, 2003. Earnings before interest taxes, depreciation and amortization (EBITDA) improved from a loss of $157,849 for the three months ended March 31, 2003 as compared to a loss of $33,992 for the three months ended March 31, 2004. The improvement is attributable to an increase in revenues an increase in operating gross profit. However financing costs increased by 150% to $282,545. Management believes that financing costs were increased as a result of revenue growth. As a result the Company was required to utilize its line of credit to support account receivable and inventory growth. Although the working capital needed to support revenue growth is directly related to the growth in accounts receivable and inventory, the Company has invested in capital assets, such as warehousing and trucks to support the growth of the business. EBITDA from the Company's operating businesses increased by 2600% to $180,038 for the three months ended March 31, 2004 as compared to a loss of $7,202 for the three months ended March 31, 2003. In order to fully understand the Company's results a discussion of the Company's segments and their respective results follows; B2B OPERATIONS The Company's B2B operations consist of two operating businesses, PHS Group and Proset Hair Systems. PHS Group distributes Grocery and HBA products to retailers and wholesalers predominately located in the Northeastern United States and Canada. PHS is the largest subsidiary of the Company and represents about 91% of the overall company sales. PHS's core sales base remain the distribution of nationally branded consumer products in the grocery and health and beauty (HBA) sectors. PHS has positioned itself as a distributor for major manufacturers as opposed to a full line wholesaler. A full line wholesaler has the responsibility of servicing the entire needs of a retail operation, where as a distributor caters to specific merchandising categories. As a result, PHS is able to plan the needs of its customers directly from the source of supply and in turn increase sales to its customers through this unique focus. PHS concentrates on the fastest moving promotional items and uses logistics and distribution savings to streamline and reduce its sale prices. The second business segment within the Company's B2B sector is Proset Hair Systems (Proset). Proset distributes Salon Hair care products to wholesalers, distributors, chain drug stores and supermarkets in the Northeastern part of the United States. PHS SEGMENT INFORMATION OF OPERATING BUSINESSES B2B CHANGE THREE MONTHS ENDED 3/31/2004 Revenue 12,143,133 53.92% Gross Profit 568,825 80.25% SG&A 359,887 31.96% Net Loss (2,463) 97.28% Depreciation and amortization 786 -98.85% Interest Income (4,344) 32.12% Interest and Financing expenses 214,660 213.86% EBITDA 208,639 386.97% THREE MONTHS ENDED 3/31/2003 Revenue 7,889,209 Gross Profit 315,568 SG&A 272,724 Net Loss (90,455) Depreciation and amortization 68,193 Interest Income (3,288) Interest and Financing expenses 68,394 EBITDA 42,844 -16- PHS increased its revenues by 53.9% to $12.1 million for three months ended March 31, 2004 as compared to the three months ended March 31, 2003. The increase in PHS business is attributable to the utilization of additional vendors, development of a wholesale operation and expansion of the Canadian distribution business in Ontario, Canada. The Company also benefited from increases in the vendor allowances it receives from its vendors, thereby providing its customers with additional discounts. This also resulted in increased sales. Gross profit increased by 80% to $568,825 for the three months ended March 31, 2004 as compared to $315,568 for the three months ended March 31, 2003. PHS increased its gross profit by increasing DSD sales as well as focusing on promotional merchandise offered by its vendors. In 2003 several PHS vendors created special packaging with promotional pricing that enabled PHS to widen its margin. As an example, special packaging was created for Nyquil, Marcal paper, Clorox displays as well as Herbal essence shampoos among others, with unique retail display features, that PHS has been able to strongly promote during FY 2003 as opposed to marketing those products for normal replenishment. Promotional displays allow PHS to sell better mixes of product as well as introduce new items in combination with regularly stocked items. Vendor allowances as a result increased by 59% to $909,000 for the three months ended March 31, 2004 as compared to $570,000 for the three months ended March 31, 2003, thus materially increasing PHS gross profit in 2004. EBITDA increased by 5 times to $208,639 for the three months ended March 31, 2004 as compared to $42,844 for the three months ended March 31, 2003. As long as the Company maintains or expands its vendor relationships, management believes that it can continue to improve its operating results. Management needs to also reduce its financing costs for PHS as they represent 103% of EBITDA and a substantial component of the Company's overall expenditures. PROSET SEGMENT INFORMATION OF OPERATING BUSINESES SALON PRODUCTS CHANGE THREE MONTHS ENDED 3/31/2004 Revenue 756,286 -14.09% Gross Profit 132,853 27.20% SG&A 75,958 -24.68% Net Loss (52,104) 41.49% Depreciation and amortization 53,355 0.21% Interest and Financing expenses 55,030 47.12% EBITDA 56,281 3421.96% THREE MONTHS ENDED 3/31/2003 Revenue 880,288 Gross Profit 104,441 SG&A 100,843 Net Loss (89,051) Depreciation and amortization 53,244 Interest and Financing expenses 37,405 EBITDA 1,598 Proset revenues decreased by 14.1% for the three months ended March 31, 2004 as compared to the three months ended March 31, 2003. Proset is transitioning its business model from retail services to wholesale support. While sales dropped slightly, the gross profit has increased by 27% to $132,853. At the same time SG&A dropped by 25% to almost $76,000 for the first quarter of 2004. As a result of this transition, the Company's customer base has expanded to include smaller distributors that purchase salon products in higher quantities, which in turn optimizes the gross profit. However, distributor sales require less labor, warehousing and distribution costs, but rely on optimal market conditions and product availability. The salon business is highly fragmented and very competitive. Proset must maintain strong vendor relations, which include manufacturers, distributors and resellers in order to keep a supply chain for its customer base. EBITDA improved from a profit of $1,598 for the three months ended March 31, 2003 to a profit at $56,281 for the three months ended March 31, 2004. This improvement was caused by a reduction in labor cost, warehousing expenses, and a reduction in freight expenses offset by a decrease in revenues. Financing costs are also an important factor in the operation of Proset. Financing costs increased by 47% to $55,030. Wholesalers are provided better credit terms then retailers since they need to maintain greater inventories. In order to improve the profitability of proset, management believes that financing costs need to reduced. -17- B2C SEGMENT INFORMATION OF OPERATING BUSINESSES B2C CHANGE THREE MONTHS ENDED 3/31/2004 Revenue 407,764 31.47% Gross Profit 115,846 29.05% SG&A 196,803 41.22% Net Loss (126,974) 161.99% Depreciation and amortization 29,342 44.31% Interest and Financing expenses 12,750 114.86% EBITDA (84,882) -64.36% THREE MONTHS ENDED 3/31/2003 Revenue 310,147 Gross Profit 89,769 SG&A 139,363 Net profit (Loss) 204,839 Depreciation and amortization 20,333 Other Income (282,750) Interest and Financing expenses 5,934 EBITDA (51,644) The Company's B2C segment includes three businesses, which include Cigars Around the World, CigarGold and BeautyBuys. Cigars Around the World (CAW) was acquired in June of 2003. CAW sells premium cigars to Hotels, Restaurants, Casinos, PGA Clubs and other leisure related destinations. CAW sells its cigars in through customized retail displayed humidors. CAW also has its own retail website that operates under the name www.CigarsAroundTheWorld.com. The displays range from counter top humidors to Walled Display units. CigarGold (CG) is the Company's cigar online unit. CG sells premium cigars online to retail customers throughout the United States. It has a selection of over 1000 products, which include brand-name hand made premium cigars and cigar accessories. CigarGold operates under the domain names: www.CigarGold.com, www.NetCigar.com, and www.GoldCigar.com. The online unit also operates www.BeautyBuys.com. BeautyBuys.com sells salon hair products to the retail consumer. Previously the operation also sold fragrances and cosmetics to retail customers. However, the Company decided in 2003 to limit its selection to salon hair care products, since those items are already carried and stocked within its wholesale salon operation, Proset Hair Systems. Revenues in the Company's B2C operation increased by 31.5% to $407,764 for three months ended March 31, 2004 as compared to $310,147 for the three months ended March 31, 2003. The increase is predominately attributable to the acquisition of CAW. CAW on a current operating basis represents approximately 60% of B2C revenues. Gross profit improved by 29% for the three months ended March 31, 2004 as compared to the three months ended March 31, 2003. The increase in gross profit is attributable to higher revenues realized through the acquisition of CAW in FY 2003. EBITDA decreased by 64% for the same period. The table above provides comparative details for the Company's B2C operation. -18- LIQUIDITY AND CAPITAL RESOURCES The Company's predominant need for working capital financing is to finance its Receivables and Inventory levels. In order to finance its requirements the Company relies on secured asset based lending, trade financing as well as its cash flow. The Company's major lender, International Investment Group Trade Opportunities Fund (IIG), provides receivable and inventory financing to its three operating segments. In addition, most of the Company's major vendors provide trade credit for purchases ranging from 10 to 30 days. One vendor to the Company represents over 68% of the Company's purchases. Loss of this vendor would have a material adverse effect on the Company's operations. Three months ended March 31, 2004 2003 Woking Capital 1,843,693 832,448 121.48% Assets 12,610,672 7,169,629 75,89% Liabilities 9,674,813 4,549,909 112.64% Equity 2,935,859 2,619,720 12.07% Line of Credit Facility 5,378,138 2,434,674 120.90% Receivalbe Turnover (days) 40 23 Inventory Turnover (days) 13 17 Tangible Assets 10,877,697 5,616,573 93.67% The Company has a revolving loan and security agreement with IIG for financing its operations. The line of credit under the loan allows borrowings up to $7 million for accounts receivable, purchase orders, and inventory. The term of the agreement is for one year and allows for automatic renewals. As of March 31, 2004 the Company's borrowing under its agreement were $5.3 million and increase of 121% as compared to 2003. In November of 2003, the PHS secured a $2 million stand by letter of credit (LC) for the purpose of increasing its line of credit to $3.5 million with a major vendor. The LC was secured by a $500,000 cash deposit as well as certain reserves modified under the loan and security agreement with IIG. The LC expires in May 2004, at which time the cash deposit and reserves will be released. In the event that PHS requires an extension of this facility, the modification to the loan and security agreement will remain in effect. The increased vendor line of credit facility has enabled the Company to secure special promotional products specifically designed for the cold and flu season, which increases the Company's average purchases from approximately $40,000 per order to approximately $150,000 per order. The Management believes that its IIG facility has enabled the Company to achieve its recent growth. By providing financing on all of the Company's tangible assets, the Company has been able to expand its sales through receivable order and inventory financing support. In addition IIG provides the Company with a financing option in Canada, borrowing against anticipated vendor allowances as well as securing product through sales order financing. However IIG's financing rate is 17% and as a result caused financing charges to increase materially in 2004. Management believes that to achieve profitable operations, financing costs must be reduced. By improving its operating results and especially EBITDA, management expects to generate positive cash flow, assuming financing costs can be reduced. However, there can be no assurance that the Company will reduce its financing costs, so that it can improve its operating results. Failure to reduce financing costs will inhibit the Company's growth. Management believes that its current capital structure needs to be improved in order to secure a profitable operation. -19- As the Company's operations have grown the Company has been able to raise additional capital predominately through its shareholders. In 2003, the Company raised $1.6 million through the issuance of Series A Class B preferred Stock and $850,000 through 12% notes secured by its investment in ITT. In March, 2004, the Company increased its 12% secured notes by $490,000. The Company has used these financings to reduce its borrowings with IIG as well as provide working capital. As the Company grows it intends to raise additional capital to accommodate its growth plans however, there can be no assurance that additional capital can be attained. Working capital at March 31, 2004 totaled approximately $1.8 million a increase of 1.0 million from 2003. The Company's operations require financing of inventory and receivables. IIG provides the Company's operating subsidiaries a facility that allows for borrowings of up to 85% against eligible accounts receivables and 50% against eligible inventory and orders in transit. It is important to note that as the borrowings increase from IIG, commensurate with increased revenues and additional need for inventory, additional capital will be needed to support the borrowing base with IIG. Therefore as the financial leverage of the company increases, additional capital is needed to support the company's growth. The Company turns its overall inventory on average approximately every 13 days, its receivables average 40 days of collections. In April, 2004, the Company secured a $1.5 million convertible debenture with Laurus Master Funds (Laurus) at a 7% annual rate. Proceeds of this facility were used to reduce IIG's loan. Management plans on reducing its debt service with IIG through the sale of preferred stock or other debentures. Management over-all objective in FY 2004 is to reduce its real debt service rates to below 10% per annum. However, there is no assurance that this goal will be achieved. Management believes that continued cost containment, improved financial and operating controls, and a focused sales and marketing effort should provide positive results from operations and cash flows in the near term. Achievement of these goals, however, will be dependent upon the Company's attainment of increased revenues, improved operating costs and trade support levels that are consistent with management's plans. Such operating performance will be subject to financial, economic and other factors beyond its control, and there can be no assurance that the Company's goals will be achieved. The following table presents the Company's expected cash requirements for Contractual obligations outstanding as of March 31, 2004. Payments Due By Period
Contractual Less than After 5 Obligations 1 Year 1-3 Years 4-5 Years Year Total Line-of-Credit $5,378,138 $5,378,138 Notes Payable $1,340,000 $1,340,000 Operating Leases $ 28,540 $ 345,240 $128,793 $ 502,573 Total Contractual Cash Obligations $5,406,678 $1,685,240 $128,793 - $7,220,711
-20- CRITICAL ACCOUNTING POLICIES. The discussion and analysis of the Company's financial condition and results of operations are based upon its financial statements, which have been prepared in accordance with generally accepted accounting principles in the United States. The preparation of financial statements requires management to make estimates and disclosures on the date of the financial statements. On an on going basis, management evaluates its estimates. Management uses authoritative pronouncements, historical experience and other assumptions as the basis for making judgments. Actual results could differ from those estimates. Management believes that the following critical accounting policies affect its more significant judgments and estimates in the preparation of the Company's financial statements. ACCOUNTS RECEIVABLE/ALLOWANCE FOR DOUBTFUL ACCOUNTS. The Company's accounts receivable are due from businesses engaged in the distribution of grocery, health and beauty products as well as from consumers who purchase health and beauty products and premium handmade cigars from the Company's Web sites. Credit is extended based on evaluation of a customers' financial condition and, generally, collateral is not required. Accounts receivable are due within 30 days and are stated at amounts due from customers net of an allowance for doubtful accounts. Accounts outstanding longer than the contractual payment terms are considered past due. Estimates are used in determining the allowance for doubtful accounts based on the Company's historical collections experience, current trends, credit policy and a percentage of its accounts receivable by aging category. In determining these percentages, the Company looks at historical write-offs of its receivables. The Company also looks at the credit quality of its customer base as well as changes in its credit policies. The Company continuously monitors collections and payments from its customers. The Company writes off accounts receivable when they become uncollectible, and payments subsequently received on such receivables are credited to the allowance for doubtful accounts. VALUATION OF DEFERRED TAX ASSETS. Deferred tax assets and liabilities represent temporary differences between the basis of assets and liabilities for financial reporting purposes and tax purposes. Deferred tax assets are primarily comprised of reserves, which have been deducted for financial statement purposes, but have not been deducted for income tax purposes as well as net operating loss carry forwards. The Company annually reviews the deferred tax asset accounts to determine if is appears more likely than not that the deferred tax assets will be fully realized. At March 31,2004, the Company has established a full valuation allowance. VALUATION OF LONG-LIVED ASSETS. The Company reviews its long-lived assets periodically to determine potential impairment by comparing the carrying value of the assets with expected net cash flows expected to be provided by the operating activities of the business or related products. Should the sum of the expected future net cash flows be less than the carrying value, the Company would determine whether an impairment loss should be recognized. An impairment loss would be measured by comparing the amount by which the carrying value exceeds the fair value of the Asset. Long-lived assets and intangible assets are reviewed for impairment whenever events or changes in circumstances indicate the carrying value may not be recoverable. Impairment is measured by comparing the carrying value of the long-lived assets to the estimated undiscounted future cash flows expected to result from use of the assets and their ultimate disposition. To the extent impairment has occurred, the carrying amount of the asset would be written down to an amount to reflect the fair value of the asset. -21- SEASONALITY Sales by PHS Group and Proset usually peak at the end of the a calendar quarter, when the Company's suppliers offer promotions which lower prices and, in turn, the Company is able to lower its prices and increase sales volume. Suppliers tend to promote at quarterly end and as a result reduced products costs may increase sales. In particular, the second and first quarters are usually better operating quarters. Sales of beauty care products and fragrances increase over traditional gift giving holidays such as Christmas, Mother's Day, Father's Day, and Valentine's Day. Cigar product sales also increase during holiday periods and summer months as well as around special sporting events. INFLATION The Company believes that inflation, under certain circumstances, could be beneficial to the Company's major business, PHS Group. When inflationary pressures drive product costs up, the Company's customers sometimes purchase greater quantities of product to expand their inventories to protect against further pricing increases. This enables the Company to sell greater quantities of products that are sensitive to inflationary pressures. However, inflationary pressures frequently increase interest rates. Since the Company is dependent on financing, any increase in interest rates will increase the Company's credit costs, thereby reducing its profits. -23- FORWARD LOOKING INFORMATION AND CAUTIONARY STATEMENTS Other than the factual matters set forth herein, the matters and items set forth in this report are forward-looking statements that involve risks and uncertainties. The Company's actual results may differ materially from the results discussed in the forward-looking statements. These statements relate to future events or the Company's future financial performance and include, but are not limited to, statements concerning: The anticipated benefits and risks of the Company's key strategic partnerships, business relationships and acquisitions; The Company's ability to attract and retain customers; The anticipated benefits and risks associated with the Company's business strategy, including those relating to its distribution and fulfillment strategy and its current and future product and service offerings; The Company's future operating results and the future value of its common stock; The anticipated size or trends of the market segments in which the Company competes and the anticipated competition in those markets; Potential government regulation; and The Company's future capital requirements and its ability to satisfy its capital needs. Furthermore, in some cases, you can identify forward-looking statements by terminology such as may, will, could, should, expect, plan, intend, anticipate, believe, estimate, predict, potential or continue, the negative of such terms or other comparable terminology. These statements are only predictions. Actual events or results may differ materially. Factors that could cause such differences include, but are not limited to, those identified herein and other risks included from time to time in the Company's other Securities and Exchange Commission ("SEC") reports and press releases, copies of which are available from the Company upon request. Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, it cannot guarantee future results, levels of activity, performance or achievements. Moreover the Company assumes no responsibility for the accuracy and completeness of the forward-looking statements to conform such statements to actual results or to changes in its expectations. In addition to the other information in this Form 10-QSB, the following risk factors should be carefully considered in evaluating the Company business because these factors may have a significant impact on the Company's business, operating results and financial condition. As a result of the risk factors discussed below and elsewhere in this Form 10-QSB and the risks discussed in the Company's other SEC filings, actual results could differ materially from those projected in any forward-looking statements. 1. THE COMPANY HAS INCURRED OPERATING LOSSES. The Company has a long history of operating losses. To date, a large portion of the Company's expenses have been financed through capital raising activities. Although the Company has narrowed its losses, it still continues to report operating deficits as opposed to profits. A large portion of the Company's historical losses are a direct result of fees and expenses paid for in stock and/or barter. However, due to a pattern of historical losses, there is no assurance that further capital will not be needed for operating purposes. 2. INTERNET The internet environment is relatively new to business and is subject to inherent risks as in any new developing business including rapidly developing technology with which to attempt to keep pace and level of acceptance and level of consumer knowledge regarding its use. 3. DEPENDENCE ON PUBLIC TRENDS. The Company's business is subject to the effects of changing customer preferences and the economy, both of which are difficult to predict and over which the Company has no control. A change in either consumer preferences or a down-turn in the economy may affect the Company's business prospect. -24- 4. POTENTIAL PRODUCT LIABILITY. As a participant in the distribution chain between the manufacturer and consumer, the Company would likely be named as a defendant in any product liability action brought by a consumer. To date, no claims have been asserted against the Company for product liability; there can be no assurance, however, that such claims will not arise in the future. Currently, the Company does not carry product liability insurance. In the event that any products liability claim is not fully funded by insurance, and if the Company is unable to recover damages from the manufacturer or supplier of the product that caused such injury, the Company may be required to pay some or all of such claim from its own funds. Any such payment could have a material adverse impact on the Company. 5. RELIANCE ON COMMON CARRIERS. The Company does not utilize its own trucks in its business and is dependent, for shipping of product purchases, on common carriers in the trucking industry. Although the Company uses many different common carriers, the trucking industry is subject to strikes from time to time, which could have material adverse effect on the Company's operations if alternative modes of shipping are not then available. Additionally the trucking industry is susceptible to various natural disasters, which can close transportation lanes in any given region of the country. To the extent common carriers are prevented from or delayed in utilizing local transportation lanes, the Company will likely incur higher freight costs due to the limited availability of trucks during any such period that transportation lanes are restricted. 6. COMPETITION. The Company is subject to competition in all of its various product sale businesses. While these industries may be highly fragmented, with no one distributor dominating the industry, the Company is subject to competitive pressures from other distributors based on price and service and product quality and origin. 7. LITIGATION The Company is subject to legal proceedings and claims, which arise, in the ordinary course of its business. In the opinion of management, the amount of ultimate liability with respect to these actions should not materially affect the financial position, results of operations or cash flows of the Company, but there can be no assurance as to this. 8. POSSIBLE LOSS OF NASDAQ SMALL CAP LISTING. Synergy's qualification for trading on the NASDAQ Small Cap system has in the recent past been questioned, the focus being on the market quotes for the Company's stock, the current bid price having for a time been reduced below the minimum NASDAQ standard of $1 and having been below such level for an appreciable period of time, as well as the Company also being notified that stockholders' equity has fallen below minimum NASDAQ continued listing standard of $2,500,000. NASDAQ has adopted, and the Commission has approved, certain changes to its maintenance requirements including the requirement that a stock listed in such market have a bid price greater than or equal to $1.00 and the listed Company maintain stockholders equity above $2,500,000. The bid price per share for the Common Stock of Synergy has been below $1.00 in the past and the Common Stock has remained on the NASDAQ Small Cap System because Synergy has complied with alternative criteria, which are now eliminated under the new rules. If the bid price dips below $1.00 per share, and is not brought above such level for a sustained period of time or the Company fails to maintain stockholders' equity at a level of at least $2,500,000 the Common Stock could be delisted from the NASDAQ Small Cap System and thereafter trading would be reported on the OTC Bulletin Board or on the "pink sheets." (see Item 5-"Market For The Registrant's Common Stock and Related Stockholder Matters" contained in the Company's Annual Report of Form 10-KSB for the year -ended December 31, 2002 for a more in depth discussion of the Company's current NASDAQ listing status)In the event of delisting from the NASDAQ Small Cap System, the Common Stock would become subject to the rules adopted by the Commission regulating broker-dealer practices in connection with transactions in "penny stocks." The disclosure rules applicable to penny stocks require a broker-dealer, prior to a transaction in a penny stock not otherwise exempt from the rules, to deliver a standardized list disclosure document prepared by the Commission that provides information about penny stocks and the nature and level of risks in the penny stock market. In addition, the broker-dealer must identify its role, if any, as a market maker in the particular stock, provide information with respect to market prices of the Common Stock and the amount of compensation that the broker-dealer will earn in the proposed transaction. The broker-dealer must also provide the customer with certain other information and must make a special written determination that the penny stock is a suitable investment for the purchaser and receive the purchaser's written agreement to the transaction. Further, the rules require that following the proposed transaction the broker-dealer provide the customer with monthly account statements containing market information about the prices of the securities. These disclosure requirements may have the effect of reducing -25- the level of trading activity in the secondary market for a stock that becomes subject to the penny stock rules. If the Common Stock became subject to the penny stock rules, many broker-dealers may be unwilling to engage in transactions in the Company's securities because of the added disclosure requirements, thereby making it more difficult for purchasers of the Common Stock to dispose of their shares. The Company's common stock is presently above and has historically remained at NASDAQ trading levels above $1 except for limited periods of time and the Company has presently achieved a level of Stockholders' equity above $2,500,000. NASDAQ Listing Qualifications has recently confirmed the Company's compliance with standards for continued listing on the NASDAQ Small Cap Market. Historical stability combined with the Company's increasing business share in the market and its continuing establishment as a viable force in the industries wherein it participates gives the Company confidence that its susceptibility to market deficiencies is in a much lessened state then in years past and that it can continue to achieve and maintain NASDAQ listing compliance, but of this there can be no assurance. 9. RISKS OF BUSINESS DEVELOPMENT. Because still the lines of product and product distribution established for the Company are relatively new and different from its historical non-internet product distribution business, the Company's operations in these areas should continue to be considered subject to all of the risks inherent in a new business enterprise, including the absence of an appreciable operating history and the expense of new product development and uncertainties on demand and logistics of delivery and other satisfaction of customer demands. Various problems, expenses, complications and delays may be encountered in connection with the development of the Company's new products and methods of product distribution. These expenses must either be paid out of the proceeds of future offerings or out of generated revenues and Company profits and will likely be a drain on Company capital if revenue and revenue collection does not keep pace with Company expenses. There can be no assurance as to the continued availability of funds from any of these sources. 10. RAPIDLY CHANGING MARKET MAY IMPACT OPERATIONS. The market for the Company's products is rapidly changing with evolving industry standards and frequent new product introductions. The Company's future success will depend in part upon its continued ability to enhance its existing products and to introduce new products and features to meet changing customer requirements and emerging industry standards and to continue to have access to such products from their sources on a pricing schedule conducive to the Company operating at a profit. The Company will have to develop and implement an appropriate marketing strategy for each of its products. There can be no assurance that the Company will successfully complete the development of future products or that the Company's current or future products will achieve market acceptance levels and be made available for sale by the Company conducive to the Company's fiscal needs. Any delay or failure of these products to achieve market acceptance or limits on their availability for sale by the Company would adversely affect the Company's business. In addition, there can be no assurance that the products or technologies developed by others will not render the Company's products or technologies non-competitive or obsolete. Management believes actions presently being taken to meet and enhance the Company's operating and financial requirements should provide the opportunity for the Company to continue as a going concern. However, Management cannot predict the outcome of future operations and no adjustments have been made to offset the outcome of this uncertainty. 11.EXTENSIVE AND INCREASING REGULATION OF TOBACCO PRODUCTS AND LITIGATION MAY IMPACT CIGAR INDUSTRY. The tobacco industry in general has been subject to extensive regulation at the federal, state and local levels. Recent trends have increased regulation of the tobacco industry. Although regulation initially focused on cigarette manufacturers, it has begun to have a broader impact on the industry as a whole and may focus more directly on cigars in the future. The increase in popularity of cigars may likely lead to an increase in regulation of cigars. A variety of bills relating to tobacco issues have been introduced in the U.S. Congress, including bills that would (i) prohibit the advertising and promotion of all tobacco products or restrict or eliminate the deductibility of such advertising expense, (ii) increase labeling requirements on tobacco products to include, among others things, addiction warnings and lists of additives and toxins, (iii) shift control of tobacco products and advertisements from the Federal Trade Commission (the "FTC") to the Food and Drug Administration (the "FDA"), (iv) increase tobacco excise taxes and (v) require tobacco companies to pay for health care costs incurred by the federal government in connection with tobacco related diseases. Future enactment of such proposals or similar bills may have an adverse effect on the results of operations or financial condition of the Company. Although, except for warning labeling and smoke free facilities, current legislation and regulation focuses on cigarette smoking and sales, there is no assurance that the scope of legislation will not be expanded in the future to encompass cigars as well. -26- A majority of states restrict or prohibit smoking in certain public places and restrict the sale of tobacco products to minors. Local legislative and regulatory bodies also have increasingly moved to curtail smoking by prohibiting smoking in certain buildings or areas or by designating "smoking" areas. These restrictions generally do not distinguish between cigarettes and cigars. These restrictions and future restrictions of a similar nature have and likely will continue to have an adverse effect on the Company's sales or operations because of resulting difficulty placed upon advertising and sale of tobacco products, such as restrictions and in many cases prohibition of counter access to or display of premium handmade cigars, and/or decisions by retailers not to advertise for sale and in many cases to sell tobacco products because of public pressure to stop the selling of tobacco products. Numerous proposals also have been and are being considered at the state and local levels, in addition to federal regulations, to restrict smoking in certain public areas, regulating point of sale placement and promotions of tobacco products and requiring warning labels. Increased cigar consumption and the publicity such increase has received may increase the risk of additional regulation. The Company cannot predict the ultimate content, timing or effect of any additional regulation of tobacco products by any federal, state, local or regulatory body, and there can be no assurance that any such legislation or regulation would not have a material adverse effect on the Company's business. In addition numerous tobacco litigation has been commenced and may in the future be instituted, all of which may adversely affect(albeit focusing primarily on cigarette smoking) cigar consumption and sale and may pressure applicable government entities to institute further and stricter legislation to restrict and possibly prohibit cigar sale and consumption, any and all of which may have an adverse affect on Company business (see "Government Regulation -Tobacco Industry Regulation and Tobacco Industry Litigation" supra). 12. NO DIVIDENDS LIKELY. No dividends have been paid on the Common Stock since inception, nor, by reason of its current financial status and its contemplated financial requirements, does Synergy contemplate or anticipate paying any dividends upon its Common Stock in the foreseeable future. 13. POTENTIAL LIABILITY FOR CONTENT ON THE COMPANY'S WEB SITE. Because the Company posts product information and other content on its Web sites, the Company faces potential liability for negligence, copyright, patent, trademark, defamation, indecency and other claims based on the nature and content of the materials that the Company posts. Such claims have been brought, and sometimes successfully pressed, against other Internet content distributors. In addition, unauthorized personnel could expose the Company to liability with respect to the unauthorized duplication of content or unauthorized use of other parties' proprietary technology or infiltration into the Company's system. 14. THE COMPANY'S NET SALES WOULD BE HARMED IF IT EXPERIENCES SIGNIFICANT CREDIT CARD FRAUD. A failure to adequately control fraudulent credit card transactions would harm the Company's net sales and results of operations because it does not carry insurance against such risk. Under current credit card practices, the Company may be held liable for fraudulent credit card transactions where it does not obtain a cardholder's signature, a frequent practice in internet sales. -27- 15. THE COMPANY DEPENDS ON CONTINUED USE OF THE INTERNET AND GROWTH OF THE ONLINE PRODUCT PURCHASE MARKET. The Company's future revenues and profits, if any, substantially depend upon the widespread acceptance and use of the internet as an effective medium of business and communication by the Company's target customers. Rapid growth in the use of and interest in the Internet has occurred only recently. As a result, acceptance and use may not continue to develop at historical rates, and a sufficiently broad base of consumers may not adopt, and continue to use, the Internet and other online services as a medium of commerce. In addition, the Internet may not be accepted as a viable long-term commercial marketplace for a number of reasons, including potentially inadequate development of the necessary network infrastructure or delayed development of enabling technologies and performance improvements and/or potential customer continued preferences for more traditional see and touch purchasing. The Company's success will depend, in large part, upon third parties maintaining the Internet infrastructure to provide a reliable network backbone with the speed, data capacity, security and hardware necessary for reliable Internet access and services and hopeful continued shifting of potential customers shopping preferences to the internet. 16. IF THE COMPANY DOES NOT RESPOND TO RAPID TECHNOLOGY CHANGES, ITS SERVICES COULD BECOME OBSOLETE AND ITS BUSINESS WOULD BE SERIOUSLY HARMED. As the Internet and online commerce industry evolve, the Company must license leading technologies useful in its business, enhance its existing services, develop new services and technology that address the increasingly sophisticated and varied needs of its prospective customers and respond to technological advances and emerging industry standards and practices on a cost-effective and timely basis. The Company may not be able to successfully implement new technologies or adapt its proprietary technology and transaction processing systems to customer requirements or emerging industry standards. If the Company is unable to do so, it could adversely impact its ability to build on its varied businesses and attract and retain customers. 17. POTENTIAL FUTURE SALES OF COMPANY STOCK. The majority of the shares of common stock of the Company outstanding are "restricted securities" as that term is defined in Rule 144 promulgated under the Securities Act of 1933. In general under Rule 144 a person (or persons whose shares are aggregated) who has satisfied a one year holding period may, under certain circumstances, sell within any three month period a number of shares which does not exceed the greater of 1% of the then outstanding shares of common stock or the average weekly trading volume during the four calendar weeks prior to such sale. Rule 144 also permits, under certain circumstances, the sale of shares by a person who is not an affiliate of the Company and who has satisfied a two year holding period without, any quantity limitation. The vast majority of holders of the shares of the outstanding common stock of the Company deemed "restricted securities" have already satisfied at least their one year holding period or will do so with the next fiscal year, and such stock is either presently or within the next fiscal year will become eligible for sale in the public market (subject to volume limitations of Rule 144 when applicable). The Company is unable to predict the effect that sales of its common stock under Rule 144, or otherwise, may have on the then prevailing market price of the common stock. However, the Company believes that the sales of such stock under Rule 144 may have a depressive effect upon the market. 18. THE COMPANY MAY NOT BE ABLE TO CONTINUE ATTRACTING NEW CUSTOMERS. The success of the Company's business model depends in large part on its continued ability to increase its number of customers. The market for its businesses may grow more slowly than anticipated because of or become saturated with competitors, many of which may offer lower prices or broader distribution. The Company is also highly dependant on internet sales, which require interest of potential suppliers in the internet mode of product purchasing. Some potential suppliers may not want to join the Company's networks because they are concerned about the possibility of their products being listed together with their competitors' products thus limiting availability of product mix made available by the Company. If the Company cannot continue to bring new customers to its sites or maintain its existing customer base or attract listing of a mixture of product, the Company may be unable to offer the benefits of the network model at levels sufficient to attract and retain customers and sustain its business. -28- 19. BECAUSE THE COMPANY'S INDUSTRY IS HIGHLY COMPETITIVE AND HAS LOW BARRIERS TO ENTRY, THE COMPANY MAY NOT BE ABLE TO EFFECTIVELY COMPETE. The U.S. market for e-commerce services is extremely competitive. The Company expects competition to intensify as current competitors expand their product offerings and enter the e-commerce market, and new competitors enter the market. The principal competitive factors are the quality and breadth of services provided, potential for successful transaction activity and price. E-commerce markets are characterized by rapidly changing technologies and frequent new product and service introductions. The Company may fail to update or introduce new market pricing formats, selling techniques and/or other mechanics and administrative tools and formats for internet sales consistent with current technology on a timely basis or at all. If its fails to introduce new service offerings or to improve its existing service offerings in response to industry developments, or if its prices are not competitive, the Company could lose customers, which could lead to a loss of revenues. Because there are relatively low barriers to entry in the e-commerce market, competition from other established and emerging companies may develop in the future. Many of the Company's competitors may also have well-established relationships with the Company's existing and prospective customers. Increased competition is likely to result in fee reductions, reduced margins, longer sales cycles for the Company's services and a decrease or loss of its market share, any of which could harm its business, operating results or financial condition. Many of the Company's competitors have, and new potential competitors may have, more experience developing Internet-based software applications and integrated purchasing solutions, larger technical staffs, larger customer bases, more established distribution channels, greater brand recognition and greater financial, marketing and other resources than the Company has. In addition, competitors may be able to develop products and services that are superior to those of the Company or that achieve greater customer acceptance. There can be no assurance that the e-commerce solutions offered by the Company's competitors now or in the future will not be perceived as superior to those of the Company by either businesses or consumers. 20. THE COMPANY'S BUSINESS MAY SUFFER IF IT IS NOT ABLE TO PROTECT IMPORTANT INTELLECTUAL PROPERTY. The Company's ability to compete effectively against other companies in its industry will depend, in part, on its ability to protect its proprietary technology and systems designs relating to its technologies. The Company does not know whether it has been or will be completely successful in doing so. Further, its competitors may independently develop or patent technologies that are substantially equivalent or superior to those of the Company 21. THE COMPANY MAY NOT BE ABLE TO MAINTAIN THE CONFIDENTIALITY OF ITS PROPRIETARY KNOWLEDGE. The Company relies, in part, on contractual provisions to protect its trade secrets and proprietary knowledge. These agreements may be breached, and the Company may not have adequate remedies for any breach. Its trade secrets may also be known without breach of such agreements or may be independently discovered by competitors. Its inability to maintain the proprietary nature of its technology could harm its business, results of operations and financial condition by adversely affecting its ability to compete. -29 22. OTHERS MAY ASSERT THAT THE COMPANY'S TECHNOLOGY INFRINGES THEIR INTELLECTUAL PROPERTY RIGHTS. The Company believes that its technology does not infringe the proprietary rights of others. However, the e-commerce industry is characterized by the existence of a large number of patents and trademarks and frequent claims and litigation based on allegations of patent infringement and violation of other intellectual property rights. As the e-commerce market and the functionality of products in the industry continues to grow and overlap, the Company believes that the possibility of an intellectual property claim against it will increase. For example, the Company may inadvertently infringe an intellectual property right of which it is unaware, or there may be applications to protect intellectual property rights now pending of which it is unaware which it may be infringing when they are issued in the future, or the Company's service or systems may incorporate and/or utilize third party technologies that infringe the intellectual property rights of others. The Company has been and expects to continue to be subject to alleged infringement claims. The defense of any claims of infringement made against the Company by third parties, whether or not meritorious, could involve significant legal costs and require the Company's management to divert time and attention from its business operations. Either of these consequences of an infringement claim could have a material adverse effect on the Company's operating results. If the Company is unsuccessful in defending any claims of infringement, it may be forced to obtain licenses or to pay royalties to continue to use its technology. The Company may not be able to obtain any necessary licenses on commercially reasonable terms or at all. If the Company fails to obtain necessary licenses or other rights, or if these licenses are costly, its operating results may suffer either from reductions in revenues through the Company's inability to serve customers or from increases in costs to license third-party technologies. 23. THE COMPANY'S BUSINESS MAY BE ADVERSELY AFFECTED IF IT IS UNABLE TO CONTINUE TO LICENSE SOFTWARE THAT IS NECESSARY FOR ITS SERVICE OFFERING. Through distributors, the Company licenses a variety of commercially available Internet technologies, which are used in its services and systems to perform key functions. As a result, the Company is to a certain extent dependent upon continuing to maintain these technologies. There can be no assurance that the Company would be able to replace the functionality provided by much of its purchased Internet technologies on commercially reasonable terms or at all. The absence of or any significant delay in the replacement of that functionality could have a material adverse effect on the Company's business, financial condition and results of operations. -30- 24. THE COMPANY'S SYSTEMS INFRASTRUCTURE MAY NOT KEEP PACE WITH THE DEMANDS OF ITS CUSTOMERS. Interruptions of service as a result of a high volume of traffic and/or transactions could diminish the attractiveness of the Company's services and its ability to attract and retain customers. There can be no assurance that the Company will be able to accurately project the rate or timing of increases, if any, in the use of its service, or that it will be able to expand and upgrade its systems and infrastructure to accommodate such increases in a timely manner. The Company currently maintains systems in the U.S. Any failure to expand or upgrade its systems could have a material adverse effect on its results of operations and financial condition by reducing or interrupting revenue flow and by limiting its ability to attract new customers. Any such failure could also have a material adverse effect on the business of its customers, which could damage the Company's reputation and expose it to a risk of loss or litigation and potential liability. 25. A SYSTEM FAILURE COULD CAUSE DELAYS OR INTERRUPTIONS OF SERVICE TO THE COMPANY'S CUSTOMERS. Service offerings involving complex technology often contain errors or performance problems. Many serious defects are frequently found during the period immediately following introduction and initial implementation of new services or enhancements to existing services. Although the Company attempts to resolve all errors that it believes would be considered serious by its customers before implementation, its systems are not error-free. Errors or performance problems could result in lost revenues or cancellation of customer agreements and may expose the Company to litigation and potential liability. In the past, the Company has discovered errors in software used in the Company after its incorporation into Company sites. The Company cannot assure that undetected errors or performance problems in its existing or future services will not be discovered or that known errors considered minor by it will not be considered serious by its customers. The Company has experienced periodic minor system interruptions, which may continue to occur from time to time. 26. THE FUNCTIONING OF THE COMPANY'S SYSTEMS OR THE SYSTEMS OF THIRD PARTIES ON WHICH IT RELIES COULD BE DISRUPTED BY FACTORS OUTSIDE THE COMPANY'S CONTROL. The Company's success depends on the efficient and uninterrupted operation of its computer and communications hardware systems. These systems are vulnerable to damage or interruption from natural disasters, fires, power loss, telecommunication failures, break-ins, sabotage, and computer viruses, intentional acts of vandalism and similar events. Despite any precautions the Company takes or plans to take, the occurrence of a natural disaster or other unanticipated problems could result in interruptions in its services. In addition, if any hosting service fails to provide the data communications capacity the Company requires, as a result of human error, natural disaster or other operational disruption, interruptions in the Company's services could result. Any damage to or failure of its systems could result in reductions in, or terminations of, its services, which could have a material adverse effect on its business, results of operations and financial condition. 27. THE COMPANY MAY ACQUIRE OTHER BUSINESSES OR TECHNOLOGIES, WHICH COULD RESULT IN DILUTION TO ITS STOCKHOLDERS, OR OPERATIONAL OR INTEGRATION DIFFICULTIES, WHICH COULD IMPAIR ITS FINANCIAL PERFORMANCE. If appropriate opportunities present themselves, the Company may acquire complementary or strategic businesses, technologies, services or products that it believes will be useful in the growth of its business. The Company does not currently have any commitments or agreements with respect to any new acquisitions. They may not be able to identify, negotiate or finance any future acquisition successfully. Even if the Company does succeed in acquiring a business, technology, service or product, the process of integration may produce unforeseen operating difficulties and expenditures and may require significant attention from the Company's management that would otherwise be available for the ongoing development of its business. Moreover the anticipated benefits of any acquisition may not be realized or may depend on the continued service of acquired personnel who could choose to leave. If the Company makes future acquisitions, it may issue shares of stock that dilute other stockholders, incur debt, assume contingent liabilities or create additional expenses related to amortizing intangible assets, any of which might harm its financial results and cause its stock price to decline. Any financing that it might need for future acquisitions may only be available to it on terms that restrict its business or that impose on it costs that reduce its revenue. -31- 28. THE COMPANY'S SUCCESS DEPENDS ON THE CONTINUED GROWTH OF THE INTERNET AND ONLINE COMMERCE. The Company's future revenues and profits depend to a large extent upon the widespread acceptance and use of the Internet and other online services as a medium for commerce by merchants and consumers. The use of the Internet and e-commerce may not continue to develop at past rates and a sufficiently broad base of business and individual customers may not adopt or continue to use the Internet as a medium of commerce. The market for the sale of goods and services over the Internet is a relatively new and emerging market. Demand and market acceptance for recently introduced services and products over the Internet are subject to a high level of uncertainty. Growth in the Company's customer base depends on obtaining businesses and consumers who have historically used traditional means of commerce to purchase goods. For the Company to be successful, these market participants must accept and use novel ways of conducting business and exchanging information. E-commerce may not prove to be a viable medium for purchasing for the following reasons, any of which could seriously harm the Company's business: - the necessary infrastructure for Internet communications may not develop adequately; - the Company's potential customers, buyers and suppliers may have security and confidentiality concerns; - complementary products, such as high-speed modems and high-speed communication lines, may not be developed or be adequately available; - alternative-purchasing solutions may be implemented; - buyers may dislike the reduction in the human contact inherent in traditional purchasing methods; - use of the Internet and other online services may not continue to increase or may increase more slowly than expected; - the development or adoption of new technology standards and protocols may be delayed or may not occur; and -new and burdensome governmental regulations may be imposed. 29. THE COMPANY'S SUCCESS DEPENDS ON THE CONTINUED RELIABILITY OF THE INTERNET. The Internet continues to experience significant growth in the number of users, frequency of use and bandwidth requirements. There can be no assurance that the infrastructure of the Internet and other online services will be able to support the demands placed upon them. Furthermore, the Internet has experienced a variety of outages and other delays as a result of damage to portions of its infrastructure, and could face such outages and delays in the future. These outages and delays could adversely affect the level of Internet usage and also the level of traffic and the processing of transactions. In addition, the Internet or other online services could lose their viability due to delays in the development or adoption of new standards and protocols required to handle increased levels of Internet or other online service activity, or due to increased governmental regulation. Changes in or insufficient availability of telecommunications services or other Internet service providers to support the Internet or other online services also could result in slower response times and adversely affect usage of the Internet and other online services generally and the Company's service in particular. If use of the Internet and other online services does not continue to grow or grows more slowly than expected, if the infrastructure of the Internet and other online services does not effectively support growth that may occur, or if the Internet and other online services do not become a viable commercial marketplace, the Company will have to adapt its business model to the new environment, which would materially adversely affect its results of operations and financial condition. -32- 30. GOVERNMENT REGULATION OF THE INTERNET MAY IMPEDE THE COMPANY'S GROWTH OR ADD TO ITS OPERATING COSTS. Like many Internet-based businesses, the Company operates in an environment of tremendous uncertainty as to potential government regulation. The Internet has rapidly emerged as a commerce medium, and governmental agencies have not yet been able to adapt all existing regulations to the Internet environment. Laws and regulations have been introduced or are under consideration and court decisions have been or may be reached in the U.S. and other countries in which the Company does business that affect the Internet or other online services, covering issues such as pricing, user privacy, freedom of expression, access charges, content and quality of products and services, advertising, intellectual property rights and information security. In addition, it is uncertain how existing laws governing issues such as taxation, property ownership, copyrights and other intellectual property issues, libel, obscenity and personal privacy will be applied to the Internet. The majority of these laws were adopted prior to the introduction of the Internet and, as a result, do not address the unique issues of the Internet. Recent laws that contemplate the Internet, such as the Digital Millennium Copyright Act in the U.S., have not yet been fully interpreted by the courts and their applicability is therefore uncertain. The Digital Millennium Copyright Act provides certain "safe harbors" that limits the risk of copyright infringement liability for service providers such as the Company with respect to infringing activities engaged in by users of the service, such as end-users of the Company's customers' auction sites. The Company has adopted and is further refining its policies and practices to qualify for one or more of these safe harbors, but there can be no assurance that its efforts will be successful since the Digital Millennium Copyright Act has not been fully interpreted by the courts and its interpretation is therefore uncertain. In the area of user privacy, several states have proposed legislation that would limit the uses of personal user information gathered online or require online services to establish privacy policies. The Federal Trade Commission also has become increasingly involved in this area. The Company does not sell personal user information regarding its customers. The Company does use aggregated data for analysis regarding the Company network, and does use personal user information in the performance of its services for its customers. Since the Company does not control what its customers do with the personal user information they collect, there can be no assurance that its customers' sites will be considered compliant. As online commerce evolves, the Company expects that federal, state or foreign agencies will adopt regulations covering issues such as pricing, content, user privacy, and quality of products and services. Any future regulation may have a negative impact on its business by restricting its methods of operation or imposing additional costs. Although many of these regulations may not apply to its business directly, the Company anticipates that laws regulating the solicitation, collection or processing of personal information could indirectly affect its business. Title V of the Telecommunications Act of 1996, known as the Communications Decency Act of 1996, prohibits the knowing transmission of any comment, request, suggestion, proposal, image or other communication that is obscene or pornographic to any recipient under the age of 18. The prohibitions scope and the liability associated with a violation are currently unsettled. In addition, although substantial portions of the Communications Decency Act of 1996 have been held to be unconstitutional, the Company cannot be certain that similar legislation will not be enacted and upheld in the future. It is possible that such legislation could expose companies involved in online commerce to liability, which could limit the growth of online commerce generally. Legislation like the Communications Decency Act could reduce the growth in Internet usage and decrease its acceptance as a communications and commerce medium. -33- The worldwide availability of Internet web sites often results in sales of goods to buyers outside the jurisdiction in which the Company or its customers are located, and foreign jurisdictions may claim that the Company or its customers are required to comply with their laws. As an Internet Company, it is unclear which jurisdictions may find that the Company is conducting business therein. Its failure to qualify to do business in a jurisdiction that requires it to do so could subject the Company to fines or penalties and could result in its inability to enforce contracts in that jurisdiction. The Company is not aware of any recent related legislation not specifically mentioned herein but there can be no assurance that future government regulation will not be enacted further restricting use of the internet that might adversely affect the Company's business. 31. NEW TAXES MAY BE IMPOSED ON INTERNET COMMERCE. In the U.S., the Company does not collect sales or other similar taxes on goods sold through the Company's internet websites. The Internet Tax Freedom Act of 1998, (extended through November 2003), prohibits the imposition of taxes on electronic commerce by United States federal and state taxing authorities. However, a number of proposals have been made at the state and local level that would impose additional taxes on the sale of goods and services through the Internet. Such proposals, if adopted and not in conflict with federal prohibitions, could substantially impair the growth of electronic commerce, and could adversely affect the Company's opportunity to derive financial benefit from such activities. In addition, non-U.S. countries may seek to impose service tax (such as value-added tax) collection obligations on companies that engage in or facilitate Internet commerce. A successful assertion by one or more states or any foreign country that the Company should collect sales or other taxes on the sale of merchandise could impair its revenues and its ability to acquire and retain customers. 32. THERE MAY BE SIGNIFICANT SECURITY RISKS AND PRIVACY CONCERNS RELATING TO ONLINE COMMERCE. A significant barrier to online commerce and communications is the secure transmission of confidential information over public networks. A compromise or breach of the technology used to protect the Company's customers' and their end-users' transaction data could result from, among other things, advances in computer capabilities, new discoveries in the field of cryptography, or other events or developments. Any such compromise could have a material adverse effect on the Company's reputation and, therefore, on its business, results of operations and financial condition. Furthermore, a party who is able to circumvent the Company's security measures could misappropriate proprietary information or cause interruptions in its operations. The Company may be required to expend significant capital and other resources to protect against security breaches or to alleviate problems caused by such breaches. Concerns over the security of transactions conducted on the Internet and other online services and the privacy of users may also inhibit the growth of the Internet and other online services generally, especially as a means of conducting commercial transactions. The Company currently has practices and procedures in place to protect the confidentiality of its customers' and their end-users' information. However, its security procedures to protect against the risk of inadvertent disclosure or intentional breaches of security might fail to adequately protect information that it's obligated to keep confidential. The Company may not be successful in adopting more effective systems for maintaining confidential information, and its exposure to the risk of disclosure of the confidential information of others may grow with increases in the amount of information it possesses. To the extent that the Company activities involve the storage and transmission of proprietary information, such as credit card numbers, security breaches could damage its reputation and expose it to a risk of loss or litigation and possible liability. The Company's insurance policies may not be adequate to reimburse it for losses caused by security breaches. -34- 33. IF THE COMPANY'S FULFILLMENT CENTERS ARE NOT EFFECTIVELY OPERATED THE COMPANY'S BUSINESS MAY BE ADVERSELY AFFECTED. If the Company does not successfully operate its fulfillment centers such could significantly limit the Company's ability to meet customer's demands, which would likely result in diminished revenues, adversely affecting the Company's business. Because it is difficult to predict sales increases the Company may not manage its facilities in an optimal way which may result in excess inventory, warehousing, fulfillment and distribution capacity having an adverse impact on working capital of the Company, or the lack of sufficiency in such areas causing delays in fulfillment of customer orders adversely affecting customer confidence and loyalty. 34. THE COMPANY'S STOCK PRICE IS LIKELY TO BE HIGHLY VOLATILE. The stock market, and in particular the market for Internet-related stocks, has, from time to time, experienced extreme price and volume fluctuations. Many factors may cause the market price for the Company's common stock to decline, perhaps substantially, including: - failure to meet its development plans; - the demand for its common stock; - downward revision in securities analyst's estimates or changes in general market conditions; - technological innovations by competitors or in competing technologies; and - investor perception of the Company's industry or its prospects. The Company's stock pricing has fluctuated significantly in the past and there is no assurance such trend may not continue in the future. -35- Part II - Other Information Item 3-Controls and Procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated our disclosure controls and procedures within the 90 days proceeding the date of this filing. Under rules promulgated by the SEC, disclosure controls and procedures are defined as those controls or other procedures of an issuer that are designed to ensure that information required to be disclosed by the issuer in the reports filed or submitted by it under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Commission's rules and forms. Based on the evaluation of our disclosure controls and procedures, management determined that such controls and procedures were effective in timely alerting them to material information relating to the Company (including its Consolidated Subsidiaries) required to be included in the Company's periodic reports. Further, there were no significant changes in the internal controls or in other factors that could significantly affect these controls after May 11, 2004, the date of the conclusion of the evaluation of disclosure controls and procedures. Item 4-Submission of matters to vote of security holders. 13. No matters were submitted to vote of shareholders for the first quarter ended March 31, 2004. Item 6- Exhibits and Reports on Form 8-K (1) 31.1 Certification Pursuant to Exchange Act Rule 13a - 14(a) / 15d-14(a) signed by the Chief Executive Officer. 31.2 Certification Pursuant to Exchange Act Rule 13a - 14(a) / 15d-14(a) signed by the Chief Financial Officer. 32.1 Certification Pursuant to 18 U.S.C. Section 1350 as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002, signed by the Chief Executive Officer. 32.2 Certification Pursuant to 18 U.S.C. Section 1350 as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002, signed by Chief Financial Officer. (2) There was no reports filed on 8-K for the relevant period. -36- SIGNATURES Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Synergy Brands, Inc. /s/ Mair Faibish Date: 5/14/04 ----------------------- By: Mair Faibish Chief Executive Officer /s/ Mitchell Gerstein Date: 5/14/04 ------------------------ By: Mitchell Gerstein Chief Financial Officer -37- Exhibit 31.1 Certification Pursuant To Exchange Act Rule 13-a-14(a)/-15d-14(a) I, Mair Faibish, certify that: 1. I have reviewed this quarterly report on Form 10-QSB of Synergy Brands, Inc.; 2. Based on my knowledge, this quarterly 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 quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly 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 quarterly report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15 (e) and internal control over financial reporting (as defined in Exchange Act Rules 13-a-15(f) and 15(d) - 15(f) ) for the registrant and we have: (a) Designed such disclosure controls and procedures, or cause such disclosure controls and procedures to be designed under our supervision, 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 report is being prepared; (b) Designed such internal control over financial reporting, or caused such internal control over financing reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting, and the preparation of financial statements for external purposes in accordance with general accepted accounting principles; (c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and to the audit committee of the registrant's board of directors (or persons fulfilling the equivalent function): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: May 14, 2004 /s/ Mair Faibish ----------------- Mair Faibish Chief Executive Officer -38- Exhibit 31.2 Certification Pursuant To Exchange Act Rule 13-a-14(a)/-15d-14(a) I, Mitchell Gerstein, certify that: 1. I have reviewed this quarterly report on Form 10-QSB of Synergy Brands, Inc.; 2. Based on my knowledge, this quarterly 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 quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly 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 quarterly report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) and internal control over financial reporting (as defined in Exchange Act Rules 13-a-15(f) and 15(d) - 15(f) ) for the registrant and we have: (a) Designed such disclosure controls and procedures, or cause such disclosure controls and procedures to be designed under our supervision, 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 report is being prepared; (b) Designed such internal control over financial reporting, or caused such internal control over financing reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting, and the preparation of financial statements for external purposes in accordance with general accepted accounting principles; (c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and to the audit committee of the registrant's board of directors (or persons fulfilling the equivalent function): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: May 14, 2004 /s/ Mitchell Gerstein ----------------------- Mitchell Gerstein Chief Financial Officer -39- Exhibit 32.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 Pursuant to 18 U.S.C. Section 1350 (adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002), I, the undersigned Chief Executive Officer of Synergy Brands Inc., (the "Company"), hereby certify that the Quarterly Report on Form 10-QSB of the Company for the quarterly period ended March 31, 2004 (the "Report") fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, and that information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Dated: May 14, 2004 /s/ Mair Faibish ---------------- Mair Faibish Chief Executive Officer Exhibit 32.2 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 Pursuant to 18 U.S.C. Section 1350 (adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002), I, the undersigned Chief Financial Officer of Synergy Brands, Inc. (the "Company"), hereby certify that the Quarterly Report on Form 10-QSB of the Company for the quarterly period ended March 31, 2004 (the "Report") fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, and that information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Dated: May 14, 2004 /s/ Mitchell Gerstein --------------------- Mitchell Gerstein Chief Financial Officer -40-