United states
securities and exchange commission
WASHINGTON, D.C. 20549
Form 10-q
(Mark One)
| [X] | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 2015
or
| [ ] | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from _______________ to _______________
Commission file number 1-13636
Mendocino Brewing Company, Inc.
(Exact Name of Registrant as Specified in Its Charter)
| California | 68-0318293 | |
| (State or Other Jurisdiction of | (I.R.S. Employer | |
| Incorporation or Organization) | Identification No.) |
| 1601 Airport, Ukiah, California | 95482 | |
| (Address of principal executive offices) | (Zip Code) |
(707) 463-2087
(Registrant’s Telephone Number, Including Area Code)
Not Applicable
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [ ] Smaller reporting company [X]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
applicable only to corporate issuers:
The number of shares of Mendocino Brewing Company, Inc.’s common stock outstanding as of May 13, 2015 was 12,611,133.
MENDOCINO BREWING COMPANY, INC.
INDEX
| 2 |
MENDOCINO BREWING COMPANY, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
| March 31, 2015 | December 31, 2014 | |||||||
| (Unaudited) | ||||||||
| ASSETS | ||||||||
| Current Assets | ||||||||
| Cash | $ | 36,600 | $ | 145,100 | ||||
| Accounts receivable, net | 3,659,100 | 4,384,500 | ||||||
| Inventories | 1,783,900 | 2,117,900 | ||||||
| Prepaid expenses | 862,700 | 632,900 | ||||||
| Total Current Assets | 6,342,300 | 7,280,400 | ||||||
| Property and Equipment, net | 10,830,700 | 11,087,800 | ||||||
| Deposits and other assets | 385,000 | 310,400 | ||||||
| Total Assets | $ | 17,558,000 | $ | 18,678,600 | ||||
| LIABILITIES AND STOCKHOLDERS’ EQUITY | ||||||||
| Current Liabilities | ||||||||
| Secured lines of credit | $ | 2,289,500 | $ | 2,156,900 | ||||
| Accounts payable | 4,418,600 | 4,860,800 | ||||||
| Accrued liabilities | 1,373,900 | 1,768,600 | ||||||
| Note payable to related party | 1,554,000 | 1,038,700 | ||||||
| Current maturities of secured notes payable | 3,779,600 | 3,913,300 | ||||||
| Current maturity of long-term debt to related party | 495,000 | 519,300 | ||||||
| Current maturity of obligations under capital lease | 5,600 | 5,600 | ||||||
| Current maturity of severance payable | 114,000 | - | ||||||
| Total Current Liabilities | 14,030,200 | 14,263,200 | ||||||
| Long-Term Liabilities | ||||||||
| Subordinated convertible notes to related party | 3,611,400 | 3,588,900 | ||||||
| Long term debt to related party, less current maturity | 371,300 | 519,300 | ||||||
| Long term lease, less current maturity | 10,800 | 12,100 | ||||||
| Severance payable, less current maturity | 646,100 | 760,100 | ||||||
| Total Long-Term Liabilities | 4,639,600 | 4,880,400 | ||||||
| Total Liabilities | 18,669,800 | 19,143,600 | ||||||
| Commitments and contingencies | - | - | ||||||
| Stockholders’ Equity | ||||||||
| Preferred stock, Series A, no par value, with liquidation preference of $1 per share; 10,000,000 shares authorized, 227,600 shares issued and outstanding | 227,600 | 227,600 | ||||||
| Common stock, no par value 30,000,000 shares authorized, 12,611,133 shares issued and outstanding | 15,100,300 | 15,100,300 | ||||||
| Accumulated comprehensive income | 481,300 | 454,200 | ||||||
| Accumulated deficit | (16,921,000 | ) | (16,247,100 | ) | ||||
| Total Stockholders’ Equity | (1,111,800 | ) | (465,000 | ) | ||||
| Total Liabilities and Stockholders’ Equity | $ | 17,558,000 | $ | 18,678,600 | ||||
See accompanying notes to these condensed consolidated financial statements.
| F-1 |
MENDOCINO BREWING COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(Unaudited)
| Three Months Ended | ||||||||
| March 31, | ||||||||
| 2015 | 2014 | |||||||
| Sales | $ | 6,807,300 | $ | 7,986,700 | ||||
| Less excise taxes | 113,200 | 136,700 | ||||||
| Net Sales | 6,694,100 | 7,850,000 | ||||||
| Cost of goods sold | 4,598,500 | 5,521,700 | ||||||
| Gross Profit | 2,095,600 | 2,328,300 | ||||||
| Operating Expense | ||||||||
| Marketing | 1,402,900 | 1,527,900 | ||||||
| General and administrative | 1,211,600 | 1,120,300 | ||||||
| Total Operating Expense | 2,614,500 | 2,648,200 | ||||||
| Loss from operations | (518,900 | ) | (319,900 | ) | ||||
| Other income (expense): | ||||||||
| Other income | 3,100 | 1,900 | ||||||
| Profit on sale of asset | - | 11,100 | ||||||
| Interest expense | (154,300 | ) | (161,700 | ) | ||||
| Total Other Expense | (151,200 | ) | (148,700 | ) | ||||
| Loss before income taxes | (670,100 | ) | (468,600 | ) | ||||
| Provision for income taxes | 3,800 | - | ||||||
| Net loss | (673,900 | ) | (468,600 | ) | ||||
| Foreign currency translation gain (loss) | 27,100 | (11,400 | ) | |||||
| Comprehensive Loss | $ | (646,800 | ) | $ | (480,000 | ) | ||
| Net loss per common share (basic and diluted) | $ | (0.05 | ) | $ | (0.04 | ) | ||
| Weighted average common shares outstanding Basic and diluted | 12,611,133 | 12,611,133 | ||||||
See accompanying notes to these condensed consolidated financial statements.
| F-2 |
MENDOCINO BREWING COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
| Three Months Ended | ||||||||
| March 31, | ||||||||
| 2015 | 2014 | |||||||
| CASH FLOWS FROM OPERATING ACTIVITIES: | ||||||||
| Net Loss | $ | (673,900 | ) | $ | (468,600 | ) | ||
| Adjustments to reconcile net loss to net cash from operating activities: | ||||||||
| Depreciation and amortization | 284,700 | 272,900 | ||||||
| Allowance for doubtful accounts | (700 | ) | (8,600 | ) | ||||
| Profit on sale of assets | - | (11,100 | ) | |||||
| Changes in: | ||||||||
| Interest accrued on notes payable to related party | 37,800 | 27,000 | ||||||
| Accounts receivable | 643,200 | 238,400 | ||||||
| Inventories | 330,400 | (56,100 | ) | |||||
| Prepaid expenses | (257,900 | ) | 14,100 | |||||
| Deposits and other assets | (131,400 | ) | 57,700 | |||||
| Accounts payable | (345,400 | ) | (563,400 | ) | ||||
| Accrued liabilities | (365,300 | ) | 239,200 | |||||
| Net cash used in operating activities | (478,500 | ) | (258,500 | ) | ||||
| CASH FLOWS FROM INVESTING ACTIVITIES: | ||||||||
| Purchases of property, equipment, and leasehold improvements | (70,800 | ) | (156,800 | ) | ||||
| Proceeds from sale of assets | - | 11,100 | ||||||
| Net cash used in investing activities | (70,800 | ) | (145,700 | ) | ||||
| CASH FLOWS FROM FINANCING ACTIVITIES: | ||||||||
| Net borrowing (repayment) on line of credit | 183,000 | (95,600 | ) | |||||
| Borrowing on note payable to related party | 500,000 | 500,000 | ||||||
| Repayment on long-term debt | (133,700 | ) | (133,700 | ) | ||||
| Repayment of related party debt | (126,200 | ) | (137,900 | ) | ||||
| Payments on obligations under long term leases | (1,300 | ) | (1,300 | ) | ||||
| Net cash provided by financing activities | 421,800 | 131,500 | ||||||
| EFFECT OF EXCHANGE RATE CHANGES ON CASH | 19,000 | (7,100 | ) | |||||
| NET CHANGE IN CASH | (108,500 | ) | (279,800 | ) | ||||
| CASH, beginning of period | 145,100 | 324,800 | ||||||
| CASH, end of period | $ | 36,600 | $ | 45,000 | ||||
| SUPPLEMENTARY CASH FLOW INFORMATION | ||||||||
| Cash paid during the period for: | ||||||||
| Income taxes | $ | 3,800 | $ | - | ||||
| Interest | $ | 116,500 | $ | 134,700 | ||||
See accompanying notes to these condensed consolidated financial statements.
| F-3 |
MENDOCINO BREWING COMPANY, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. Description of Operations and Summary of Significant Accounting Policies
Description of Operations
Mendocino Brewing Company, Inc. (the “Company” or “MBC”), was formed in 1983 in California, and has two operating subsidiaries: Releta Brewing Company, LLC (“Releta”), and United Breweries International (UK) Limited (“UBIUK”). In the United States (the “US”), MBC and Releta operate two breweries that produce beer and malt beverages for the specialty “craft” segment of the beer market. The breweries are located in Ukiah, California and Saratoga Springs, New York. The majority of sales for MBC in the US are in California. The Company brews several brands, of which Red Tail Ale is the flagship brand. In addition, the Company performs contract brewing for several other brands. Generally, product shipments are made directly from the breweries to the wholesalers or distributors in accordance with state and local laws.
MBC’s United Kingdom (the “UK”) subsidiary, UBIUK, is a holding company for Kingfisher Beer Europe Limited (“KBEL”). KBEL is a distributor of alcoholic beverages, mainly Kingfisher Lager Beer, in the UK and Europe. The offices of KBEL are located in Maidstone, Kent in the UK. In addition, during the period covered by this report, through UBIUK, the Company had production and distribution rights to Kingfisher Premium Lager in Canada and the United States. The Company has the right to use the Kingfisher mark and the name “Kingfisher Brewing Company” in connection with the brewing and distribution of assorted beers in the United States pursuant to an agreement with Kingfisher America, Inc. Generally sales are made through distributors.
All of the Company’s beers sold in Europe (except for beers sold in Germany) are procured under a contract with Heineken UK Limited (“HUK”). This contract expires in October 2018. KBEL is the distributor of Kingfisher Premium Lager to specialty restaurant trade distributors, liquor and convenience stores in the United Kingdom, Ireland, and continental Europe, but does not physically distribute the Company’s products to customers. KBEL relies on HUK for distribution of the product in Europe in exchange for a fee paid to HUK, except for in Germany where beers are manufactured and distributed pursuant to a separate contract with a different entity. In addition, HUK has the exclusive right to sell Kingfisher Premium Lager, for a royalty fee payable to KBEL, to certain large retail customers, including, but not limited to, Sainsbury’s, Asda, and Tesco.
Subsequent Events
The Company evaluates events that occur subsequent to the balance sheet date of periodic reports, but before financial statements are issued for periods ending on such balance sheet dates, for possible adjustment to such financial statements or other disclosure. This evaluation generally occurs through the date on which the Company’s financial statements are electronically prepared for filing with the Securities and Exchange Commission (“SEC”).
Principles of Consolidation
The consolidated financial statements present the accounts of MBC and its wholly-owned subsidiaries, Releta and UBIUK. All material intracompany and inter-company balances, profits and transactions have been eliminated.
| F-4 |
Basis of Presentation and Organization
The accompanying unaudited condensed consolidated financial statements for the three months ended March 31, 2015 and 2014 have been prepared in accordance with accounting principles generally accepted in the US. These condensed financial statements should be read in conjunction with the audited consolidated financial statements included in the Company’s most recent Annual Report on Form 10-K, as filed with the SEC, which contains additional financial and operating information and information concerning significant accounting policies followed by the Company. The financial statements and notes are representations of the Company’s management (“Management”) and its board of directors (the “Board of Directors”), who are responsible for their integrity and objectivity.
Operating results from the three months ended March 31, 2015 are not necessarily indicative of the results that may be expected for the year ending December 31, 2015 or any future period.
Reclassifications
Certain items in the financial statements for the prior year have been reclassified to conform to the current year presentation. These reclassifications had no effect on net income or equity.
SIGNIFICANT ACCOUNTING POLICIES
There have been no significant changes in the Company’s significant accounting policies during the three months ended March 31, 2015 compared to what was previously disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.
Cash and Cash Equivalents, Short and Long-Term Investments
For purposes of cash flows, the Company considers all highly liquid investments purchased with a maturity of three months or less to be cash equivalents.
Revenue Recognition
The Company recognizes revenue from the brewing and distribution operations in accordance with Accounting Standards Codification 605 of the Financial Accounting Standards Board. The Company recognizes revenue from product sales, net of discounts.
The Company recognizes revenue only when all of the following criteria have been met:
| ● | Persuasive evidence of an arrangement exists; | |
| ● | Delivery has occurred or services have been rendered; | |
| ● | The fee for the arrangement is fixed or determinable; and | |
| ● | Collectability is reasonably assured. |
“Persuasive Evidence of an Arrangement” – The Company documents all terms of an arrangement in a written contract or purchase order signed by the customer prior to recognizing revenue.
“Delivery Has Occurred or Services Have Been Performed” – The Company delivers the products prior to recognizing revenue or performs services as per contractual terms. Product is considered delivered upon delivery to a customer’s designated location and services are considered performed upon completion of the Company’s contractual obligations.
| F-5 |
“The Fee for the Arrangement is Fixed or Determinable” – Prior to recognizing revenue, an amount is either fixed or determinable under the terms of the written contract. The price is negotiated at the outset of the arrangement and is not subject to refund or adjustment during the initial term of the arrangement.
“Collectability is Reasonably Assured” – The Company determines that collectability is reasonably assured prior to recognizing revenue. Collectability is assessed on a customer-by-customer basis based on criteria outlined by Management. The Company does not enter into arrangements unless collectability is reasonably assured at the outset. Existing customers are subject to ongoing credit evaluations based on payment history and other factors. If it is determined during the arrangement that collectability is not reasonably assured, revenue is recognized on a cash basis.
The Company records certain consideration paid to customers for services or placement fees as a reduction in revenue rather than as an expense. The Company reports these items on the income statement as a reduction in revenue and as a corresponding reduction in marketing and selling expenses.
Revenues from the Company’s brewpub and gift store are recognized when sales have been completed.
Allowance for Doubtful Accounts
The Company maintains allowances for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. Management considers the following factors when determining the collectability of specific customer accounts: customer credit-worthiness, past transaction history with the customer, current economic and industry trends and changes in customer payment terms. Balances over 90 days past due and other higher risk amounts are reviewed individually for collectability. If the financial condition of the Company’s customers were to deteriorate, adversely affecting their ability to make payments, additional allowances would be required. Based on Management’s assessment, the Company provides for estimated uncollectible amounts through a charge to earnings and a credit to a valuation allowance. Balances that remain outstanding after the Company has used reasonable collection efforts are written off through a charge to the valuation allowance and a credit to accounts receivable.
Inventories
Inventories are stated at the lower of average cost, which approximates the first-in, first-out method, or market (net realizable value). The Company regularly reviews its inventories for the presence of obsolete product attributed to age, seasonality and quality. Inventories that are considered obsolete are written off or adjusted to carrying value.
Deferred Financing Costs
Costs relating to obtaining financing are capitalized and amortized over the term of the related debt. When a loan is paid in full, any unamortized financing costs are removed from the related accounts and charged to operations. Deferred financing costs related to a borrowing made in June 2011 were $225,000. Amortization of deferred financing costs charged to operations was $11,300 for the three months ended March 31, 2015 and 2014.
Concentration of Credit Risks
Financial instruments that potentially subject the Company to significant concentration of credit risk consist primarily of cash and cash equivalents, and accounts receivable. Substantially all of the Company’s cash and cash equivalents are deposited with commercial banks in the US and the UK that have minimal credit risk. Accounts receivable are generally unsecured and customers are subject to an initial credit review and ongoing monitoring. Wholesale distributors account for substantially all accounts receivable; therefore, this risk concentration is limited due to the number of distributors and the laws regulating the financial affairs of distributors of alcoholic beverages. The Company has approximately $300 in cash deposits and $2,224,100 of accounts receivable due from customers located in the UK as of March 31, 2015.
Income Taxes
The Company accounts for income taxes in accordance with ASC 750 which requires an asset and liability approach for financial accounting and reporting for income taxes and allows recognition and measurement of deferred tax assets based upon the likelihood of realization of tax benefits in future years. Under the asset and liability approach, deferred taxes are provided for the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are recognized for deductible temporary differences and operating loss and tax credit carryforwards. The Company periodically assesses uncertain tax positions that the Company has taken or expects to take on a tax return, including a decision whether to file or not to file a return in a particular jurisdiction. The Company evaluated its tax positions and determined that there were no uncertain tax benefits as of March 31, 2015 and December 31, 2014.
| F-6 |
Basic and Diluted Earnings (Loss) per Share
The basic earnings (loss) per share is computed by dividing the earnings (loss) attributable to common stockholders by the weighted average number of common shares outstanding during the period. Basic net earnings (loss) per share exclude the dilutive effect of stock options or warrants and convertible notes. If the Company’s operations result in net loss for any period, diluted net loss per share would be the same as basic net loss per share, since the effect of any potentially dilutive securities would be anti-dilutive. Therefore, the conversion of the related party convertible notes (see “Subordinated Convertible Notes Payable” below) has been excluded from the Company’s calculation of net loss per share. The computations of basic and dilutive net loss per share are as follows:
| Three months ended March 31, | ||||||||
| 2015 | 2014 | |||||||
| Net loss | $ | (673,900 | ) | (468,600 | ) | |||
| Weighted average shares of common stock outstanding | 12,611,133 | 12,611,133 | ||||||
| Basic net loss per share | $ | (0.05 | ) | (0.04 | ) | |||
| Interest expense on convertible notes | $ | — | — | |||||
| Loss for purpose of computing diluted net earnings per share | $ | (673,900 | ) | (468,600 | ) | |||
| Incremental shares from assumed exercise of dilutive securities | — | — | ||||||
| Dilutive potential of shares of common stock | 12,611,133 | 12,611,133 | ||||||
| Diluted net earnings per share | $ | (0.05 | ) | (0.04 | ) | |||
Foreign Currency Translation
The Company has subsidiaries located in the UK, where the local currency, the UK Pound Sterling, is the functional currency. Financial statements of these subsidiaries are translated into US dollars using period-end exchange rates for assets and liabilities and average exchange rates during the period for revenues and expenses. Cumulative translation adjustments associated with net assets or liabilities are reported in non-owner changes in equity. Any exchange rate gains or losses related to foreign currency transactions are recognized in the income statement as incurred, in the same financial statement caption as the underlying transaction, and are not material for any year shown. Cash flows were translated at the average exchange rates for the three months then ended. Changes in cash resulting from the translations are presented as a separate item in the statements of cash flows.
| F-7 |
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the US includes having the Company make estimates and assumptions affecting the reported amounts of assets, liabilities, revenues and expenses, and disclosure of contingent assets and liabilities. The amounts estimated could differ from actual results. Significant estimates include the allowance for bad debts, depreciation and amortization periods, and the future utilization of deferred tax assets.
Comprehensive Income (Loss)
Comprehensive income (loss) is composed of the Company’s net loss and changes in equity from non-stockholder sources. The accumulated balances of these non-stockholder sources are reflected as a separate item in the equity section of the balance sheet.
Reportable Segments
The Company manages its operations through two business segments: (i) brewing operations and tasting room operations in the US and distributor operations in Canada (the “North American Territory”) and (ii) distributor operations in Europe, including the UK (the “Foreign Territory”). The Company evaluates performance based on net operating profit. Where applicable, portions of the administrative function expenses are allocated between the operating segments. The operating segments do not share manufacturing or distribution facilities. In the event any materials and/or services are provided to one operating segment by the other, the transaction is valued according to the Company’s transfer policy, which approximates market price. The costs of operating the manufacturing plants are captured discretely within each segment. The Company’s property, plant and equipment, inventory, and accounts receivable are captured and reported discretely within each operating segment.
2. Liquidity and Management Plans
On June 23, 2011, MBC and Releta entered into a Credit and Security Agreement (the “Agreement”) with Cole Taylor Bank, an Illinois banking corporation (“Cole Taylor”). Cole Taylor merged into MB Financial Bank, an Illinois banking corporation (“MB Financial”) on August 18, 2014. As used in this Report, “Lender” shall refer to Cole Taylor prior to August 18, 2014 and to MB Financial, as successor in interest to Cole Taylor, on or after August 18, 2014. The Agreement provided a credit facility with a maturity date of June 23, 2016 of up to $10,000,000 consisting of a $4,119,000 revolving facility, a $1,934,000 machinery and equipment term loan, a $2,947,000 real estate term loan and a $1,000,000 capital expenditure line of credit. Convertible promissory notes issued to United Breweries of America, Inc. (“UBA”), one of the Company’s principal shareholders, are subordinated to Lender’s facility.
The Agreement requires MBC and Releta to maintain certain minimum fixed charge coverage ratios for trailing twelve month periods and minimum tangible net worth. The minimum tangible net worth MBC and Releta are required to maintain is subject to increase based on the net income of MBC and Releta. On March 29, 2013, MBC, Releta, and Lender entered into a First Amendment to the Agreement to clarify the method by which the fixed charge coverage ratio is calculated, with retrospective application.
The required fixed charge coverage ratio for the trailing twelve month periods ended March 31, 2013 onwards fell short of the required ratio. The tangible net worth fell short of the required amount for the period beginning June 1, 2013 onwards.
On September 18, 2013, MBC and Releta received a notice (the “Default Notice”) from Lender regarding its intention to exercise certain rights with respect to events of default of the Company pursuant to the Agreement.
The Agreement provides that the failure of MBC and Releta to observe any covenant will constitute an event of default under the Agreement. Under the Agreement, upon the occurrence of an event of default, all of MBC’s and Releta’s obligations under the Agreement may, at the option of the Lender, be declared, and immediately shall become, due and payable, without notice of any kind. The event of default shall be deemed continuing until waived in writing by the Lender. The Default Notice states that Lender has elected, effective September 1, 2013, to charge a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement. The Company estimates that the increased rate currently results in approximately $120,000 additional annual interest expense.
| F-8 |
On April 18, 2014, MBC and Releta received a second notice (the “Second Default Notice”) from Lender regarding its intention to exercise certain rights with respect to events of default of the Company pursuant to the Agreement. As stated in the Second Default Notice, the Company has continued to be in default on the fixed charge coverage ratio for each measurement period beginning March 31, 2013 through February 28, 2015. The required fixed charge coverage ratio was initially required to be at least 1.05 to 1.00, but as of July 31, 2013, the required fixed charge coverage ratio increased to 1.10 to 1.00 pursuant to the terms of the Agreement.
The Second Default Notice also stated that the tangible net worth of MBC and Releta continued to fall short of the required amount as measured through February 28, 2014. The Company calculated that the required tangible net worth of MBC and Releta was $6,181,400 as of December 31, 2014 and the actual tangible net worth on such date was $3,843,400. The Company does not anticipate that it will regain compliance with the required fixed charge coverage ratio or the minimum tangible net worth in the immediate future. In addition, the Second Default Notice required MBC and Releta to engage a consultant to perform a viability analysis and prepare a revised projection for 2014.
Effective August 20, 2014, pursuant to a notice to MBC and Releta dated August 18, 2014 (the “Third Default Notice”) which referred to MBC’s and Releta’s continued failure to meet the required fixed charge coverage ratio and the tangible net worth requirement, Lender notified MBC and Releta that it would reduce the advance rate for (i) eligible finished goods and raw material inventory and (ii) eligible work-in progress inventory by 2% each month. The advance rates are used in the calculation of the borrowing base of each of MBC and Releta, which is used in the determination of the amount available to each of MBC and Releta pursuant to the revolving facility. Under the terms of the Agreement, if such availability is less than $0, or if certain components of the borrowing base of each of MBC and Releta fall below certain limits in relation to outstanding revolving loans, such difference shall be immediately due and payable.
On January 21, 2015, MBC, Releta, and Lender entered into a Second Amendment (the “Second Amendment”) to the Agreement.
The Second Amendment reduced the maximum amount of the Revolver from $4,119,000 to $2,500,000. The Second Amendment also changed the definition of borrowing base (including by lowering certain advance rates) such that the calculation of the borrowing base will result in a lower number than it would have if calculated prior to the effectiveness of the Second Amendment. The borrowing base is used in the determination of the amount available to each Borrower pursuant to the Revolver. Pursuant to the Agreement, if such availability is less than $0, or if certain components of the borrowing base fall below certain limits in relation to outstanding revolving loans, such difference shall be immediately due and payable.
The Second Amendment reduced the advance rate for (i) eligible finished goods and raw material inventory and (ii) eligible work-in progress inventory by two percent (2%) and continues to reduce each by an additional two percent (2%) on the 20th day of each month thereafter. The advance rates are used in the calculation of the borrowing base of each Borrower, which is used in the determination of the amount available to each Borrower pursuant to the Revolver. As stated above, if such availability is less than $0, or if certain components of the borrowing base fall below certain limits in relation to outstanding revolving loans, such difference shall be immediately due and payable.
| F-9 |
Lender has not waived the events of default described in the Default Notice, the Second Default Notice or the Third Default Notice and has reserved the right to all other available rights and remedies under the Agreement, certain other related documents and applicable law. Lender could declare the full amount owed under the Agreement due and payable at any time for any reason or no reason. Since receiving the Second Amendment, the Company has not received any notice or other communication from Lender that it intends to exercise any other remedies available to it under the Agreement in connection with the events of default. Lender continues to charge a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement. The exercise of additional remedies by Lender may have a material adverse effect on the Company’s financial condition and the Company’s ability to continue to operate. If it becomes necessary for MBC and Releta to seek additional financing, there is no guarantee that MBC and Releta will be able to obtain such financing on terms favorable to the Company or on any terms.
As of March 31, 2015, the fixed charge coverage ratio was required to be 1.10 to 1. The Company calculated that the fixed charge coverage ratio as of March 31, 2015 was -1.35 to 1. The Company calculated that the required tangible net worth of MBC and Releta was $6,181,400 as of March 31, 2015 and the actual tangible net worth on such date was $3,650,600. The Company does not anticipate that it will regain compliance with the required fixed charge coverage ratio or the minimum tangible net worth in the immediate future.
At March 31, 2015, The Company had cash and cash equivalents of $36,600, an accumulated deficit of $16,921,000, and a working capital deficit of $7,687,900 due to losses incurred and reclassification of debts owing to MB Financial as a result of the default under the Agreement described above. In addition, the book value of the Company’s assets was lower than the book value of its liabilities at March 31, 2015.
The Company received a letter dated November 11, 2013 from UBHL, the Company’s indirect majority shareholder, expressing its willingness to commit to invest $2,000,000 in the Company in four installments to be paid every six months over a two year period. The letter did not state definitive terms for the proposed investment but stated that UBHL would consider additional investment based on a business plan to be provided by the Company. The Company provided a business plan in February 2015 and requested additional investment from UBHL and are awaiting UBHL’s response. If the Company is not unable to come to a final agreement with UBHL on the terms of the proposed investment or if UBHL does not agree to an additional investment the Company will pursue other sources of funds.
If the Company is are unable to find any source of funds, it may result in a material adverse effect on the Company’s ability to continue operations. For example, MB Financial may seek to satisfy any outstanding obligations through recourse against the applicable pledged collateral which may include the Company’s real property, fixed assets and current assets. The loss of any material pledged asset would likely have a material adverse effect on the Company’s financial position and results of operations.
In response to the losses incurred in connection with the Company’s operations, UBHL, the Company’s indirect majority shareholder, issued a letter of comfort to the Company’s accountants on March 5, 2015 (the “Letter of Comfort”), to confirm that UBHL had agreed to provide funding on an as needed basis to ensure that the Company is able to meet its financial obligations as and when they fall due. The Letter of Comfort does not specify either the terms of UBHL’s support, or a maximum dollar limit and is not a legally binding agreement. UBHL’s financial support is contingent upon compliance with any applicable exchange control requirements, other applicable laws, and regulations relating to the transfer of funds from India. The Letter of Comfort does not specify any time limit for extending support. If it becomes necessary to seek UBHL’s financial assistance under the Letter of Comfort and UBHL is either unable or unwilling to provide such financial assistance to MBC, it may result in a material adverse effect on the Company’s financial position and on its ability to continue operations. UBHL controls the Company’s two largest shareholders, United Breweries of America, Inc. (“UBA”) and Inversiones, and as such, is the Company’s indirect majority shareholder. The Company’s Chairman of the Board, Dr. Vijay Mallya, is also the Chairman of the board of directors of UBHL.
| F-10 |
On January 22, 2014, Catamaran Services, Inc., (“Catamaran”), a related party (see “Notes Payable to Related Parties”, below), provided a note loan of $500,000 repayable upon receipt of an equity investment by the Company’s majority shareholder. On April 24, 2014, another note loan of $500,000 was received from Catamaran on terms similar to the previous note. On February 5, 2015, another note loan of $500,000 was received from Catamaran on terms similar to the previous notes. On each date on which Catamaran provided a note loan, the Company received a letter from Lender permitting the Company to obtain loans subject to certain conditions, including that no portion of such loans would be payable until either (a) certain obligations of the Company to Lender pursuant to the Agreement were satisfied in full, or (b) such payment was a Permitted Payment. A “Permitted Payment” is a payment made from the portion of an equity investment by the Company’s majority shareholder that is over $500,000.
Management has taken several actions to enable the Company to meet its working capital needs through March 31, 2016, including reducing discretionary expenditures, reducing manpower and securing additional brewing contracts in an effort to utilize a portion of excess production capacity. The Company has requested UBHL to make a capital infusion. If UBHL is unwilling or unable to infuse additional capital, the Company may seek capital from other sources.
If it becomes necessary to seek UBHL’s financial assistance under the Letter of Comfort and UBHL does not fulfill its commitment to MBC, it may result in a material adverse effect on the Company’s financial position and on its ability to continue operations. In addition, the Company’s lenders may seek to satisfy any outstanding obligations through recourse against the applicable pledged collateral which may include the Company’s real property and fixed and current assets. The loss of any material pledged asset would likely have a material adverse effect on the Company’s financial position and results of operations.
3. Inventories
Inventories are stated at the lower of average cost or market and consist of the following:
| March 31,2015 | December 31, 2014 | |||||||
| Raw Materials | $ | 626,500 | $ | 740,300 | ||||
| Beer-in-process | 356,400 | 259,400 | ||||||
| Finished Goods | 729,700 | 1,034,200 | ||||||
| Merchandise | 71,300 | 84,000 | ||||||
| TOTAL | $ | 1,783,900 | $ | 2,117,900 | ||||
4. Secured Lines of Credit
In June 2011, Cole Taylor provided a line of credit, from which may be drawn up to 85% of eligible receivables and 60% of eligible inventory for the period expiring in June 2016. The borrowings are collateralized, with recourse, by MBC’s and Releta’s trade receivables and inventory located in the US. This facility currently carries interest (including default interest) at a rate of prime plus 3% and is secured by substantially all of the assets of Releta and MBC. The amount outstanding on this line of credit as of March 31, 2015 was approximately $1,102,700. Included in the Company’s balance sheet as at March 31, 2015 are account balances totaling $1,435,000 of accounts receivable and $1,702,300 of inventory collateralized to MB Financial, as successor in interest to Cole Taylor, under this facility.
On April 26, 2005, Royal Bank of Scotland Commercial Services Limited (“RBS”) provided an invoice discounting facility to KBEL based on 80% prepayment against qualified accounts receivable related to KBEL’s UK customers. The initial term of the facility was one year, after which time the facility could be terminated by either party upon six months’ notice. The facility carries an interest rate of 1.38% above the RBS base rate and a service charge of 0.10% of each invoice discounted. The amount outstanding on this line of credit as of March 31, 2015 was approximately $1,186,800. Included in the Company’s balance sheet at March 31, 2015 are account balances totaling $2,224,100 of accounts receivable collateralized to RBS under this facility.
| F-11 |
5. Notes Payable to Related Parties
Notes payable to related parties consist of notes payable to Catamaran dated January 22, 2014, April 24, 2014 and February 5, 2015 for a total value of $1,554,000 including interest of $54,000 at US prime rate plus 1.5% per year, but not to exceed 10%. Catamaran Holdings, Ltd., the sole shareholder of Catamaran (“Holdings”), has directors in common with Inversiones, one of the major shareholders of MBC. The indirect beneficial owner of Inversiones is UBHL. Dr. Vijay Mallya, the Chairman of the Board of Directors of the Company is also the Chairman of the Board of Directors of UBHL. The Company has asked Catamaran whether any relationships exist between the shareholders of Holdings and any affiliates of the Company, and has not received a response to such inquiries.
The notes are payable within six months following the date of the notes, subject to the receipt by the Company of an equity investment by the Company’s majority shareholder in an amount sufficient either (a) to pay the notes through Permitted Payments, as defined below, or (b) to pay the notes and certain existing obligations of the Company to Lender. “Permitted Payments” on the notes are payments made from the portion of equity investment by the Company’s majority shareholder that is in excess of $500,000. If the Company is not able to satisfy its obligations on the notes within the six month period following the date of the notes, the notes are automatically extended for additional six month terms until they are paid.
6. Secured Notes Payable
Maturities of secured notes payable for succeeding years are as follows:
| March 31, 2015 | December 31, 2014 | |||||||
| Loan from Cole Taylor, payable in monthly installments of $12,300, plus interest (including default interest) at prime plus 4% with a balloon payment of approximately $2,202,500 in June 2016; secured by substantially all assets of Releta and MBC. | $ | 2,386,700 | $ | 2,423,600 | ||||
| Loans from Cole Taylor, payable in monthly installments of $32,300 plus interest (including default interest) at prime plus 3.5% with a balloon payment of approximately $908,700 in June 2016; secured by substantially all assets of Releta and MBC. | 1,392,900 | 1,489,700 | ||||||
| 3,779,600 | 3,913,300 | |||||||
| Less current maturities | 3,779,600 | 3,913,300 | ||||||
| $ | - | $ | - | |||||
7. Long-Term Debt – Related Party
| March 31, 2015 | December 31, 2014 | |||||||
| Loan from Heineken UK Limited, payable in quarterly installments of $123,800, plus interest at UK prime plus 5% maturing on October 9, 2016, secured by licensing rights pursuant to a Sub-License Agreement. | $ | 866,300 | $ | 1,038,600 | ||||
| Less current maturities | 495,000 | 519,300 | ||||||
| $ | 371,300 | $ | 519,300 | |||||
Maturities of debt for succeeding years are as follows:
| Nine months ending December 31, 2015 | $ | 371,300 | ||
| Year ending December 31, 2016 | $ | 495,000 |
On April 18, 2013, KBEL entered into a Loan Agreement (the “HUK Loan Agreement”) with HUK pursuant to which HUK provided KBEL with a secured term loan of £1,000,000 on October 9, 2013 to be repaid in twelve quarterly installment of £83,333.33 each, commencing from January 9, 2014 along with interest at the rate of 5% above the Bank of England base rate. Prepayment is permitted. Upon an Event of Default, as defined in the HUK Loan Agreement, if HUK and KBEL fail to agree on a payment plan acceptable to HUK, HUK may, among other remedies, declare the loan immediately due and repayable or exercise its right to an exclusive license pursuant to the Sub-License Agreement as described and defined in the HUK Loan Agreement.
| F-12 |
8. Capital Lease Obligations
The Company leases certain brewing equipment under an agreement that is classified as a capital lease. The future minimum lease payments required under the capital lease and the present value of the net minimum lease payments as of March 31, 2015, are as follows:
| Nine months Ending December 31, 2015 | $ | 4,800 | ||
| Year Ending December 31, 2016 | 6,400 | |||
| Year Ending December 31, 2017 | 6,400 | |||
| 17,600 | ||||
| Less amounts representing interest | (1,200 | ) | ||
| Present value of minimum lease payments | 16,400 | |||
| Less current maturities | 5,600 | |||
| Non-current leases payable | $ | 10,800 |
9. Subordinated Convertible Notes Payable to Related Party
Subordinated convertible notes to a related party included notes payable to UBA (the “UBA Notes”) for a total value of $3,611,400 as of March 31, 2015, including interest at the prime rate plus 1.5% per year, but not to exceed 10%. Thirteen of the UBA Notes are convertible into common stock at a rate of $1.50 per share and one UBA Note is convertible at a rate of $1.44 per share. The UBA Notes have been extended until June 2015 but have automatic renewals after such maturity date for successive one year terms, provided that either the Company or UBA may elect not to extend the term upon written notice given to the other party no more than 60 days and no fewer than 30 days prior to the expiration of the applicable term. Under the terms of the UBA Notes, UBA may demand payment within 60 days following the end of the extension period but UBA has agreed to subordinate the UBA Notes to the Company’s long-term debt agreements with MB Financial, as successor-in-interest to Cole Taylor, which mature in June 2016. Therefore, the Company will not require the use of working capital to repay any of the UBA Notes until the Lender’s facility is repaid. The UBA Notes include $1,696,000 and $1,673,500 of accrued interest at March 31, 2015 and December 31, 2014, respectively.
10. Severance Payable
The Company is a party to a Separation and Severance Agreement (the “Separation Agreement”) with Mr. Yashpal Singh, its President and Chief Executive Officer. Pursuant to the terms of the Separation Agreement, upon Mr. Singh’s (i) termination of employment for Good Reason (as defined in the Separation Agreement), (ii) termination of employment at the end of the employment term, (iii) death, (iv) disability or (v) termination by the Company without Cause (as defined in the Separation Agreement), he shall be entitled to certain severance benefits and payments. The severance payment shall equal the product of 2.5 times his average monthly base salary (calculated over the twelve (12) month period preceding the termination event), multiplied by the number of years (on a pro-rated basis) he had been employed by the Company at the Termination Date (as defined in the Separation Agreement); provided, however, that the severance payment may not exceed thirty (30) months of Mr. Singh’s average monthly base salary (calculated over the twelve (12) months preceding his termination date). Payments due to Mr. Singh under the Separation Agreement shall be paid in equal monthly installments by the Company over a 20 month period. The receipt of payments is contingent on Mr. Singh executing a release of claims for the benefit of the Company. As of March 31, 2015, the Company estimated this obligation to be $760,100.
| F-13 |
11. Commitments and Contingencies
Purchase of raw materials
Production of the Company’s beverages requires quantities of various processed agricultural products, including malt and hops for beer. The Company fulfills its commodities requirements through purchases from various sources, some through contractual arrangements and others on the open market.
Legal
The Company is periodically involved in legal actions and claims that arise as a result of events that occur in the normal course of operations. Management and the Company’s legal counsel assess such contingent liabilities, and such assessment inherently involves the exercise of judgment.
On September 26, 2014, The New Buffalo Brewing Co., Inc. (“NBB”) initiated an action against Releta in the Supreme Court of the State of New York for the County of Erie to recover damages for alleged breaches of a Brewing Production Agreement between NBB and Releta dated September 6, 2013 (the “Brewing Production Agreement”), as well as for a declaration rescinding and nullifying the Brewing Production Agreement, and, in case of Releta’s failure to answer or appear, damages resulting from the alleged breaches, rescission of the Brewing Production Agreement, attorneys’ fees and any other relief deemed proper by the court. In a demand letter to Releta dated October 16, 2014, NBB demanded payment of the sum of $500,000. The Company has engaged a law firm in New York to respond.
The Company is not currently aware of any legal proceedings or claims that the Company believes will have, individually or in the aggregate, a material adverse effect on the Company’s financial position or results of operations.
Operating Leases
The Company leases some of its operating and office facilities for various terms under long-term, non-cancelable operating lease agreements. The leases expire at various dates between 2015 and 2019 and provide for renewal options ranging from month-to-month to five years. In the normal course of business, it is expected that these leases will be renewed or replaced by leases on similar properties. The leases provide for increases in future minimum annual rental payments based on defined increases which are generally meant to correlate with the Consumer Price Index, subject to certain minimum increases. Also, the agreements generally require the Company to pay certain costs, including real estate taxes, insurance and repairs.
MBC and its subsidiaries have various lease agreements for the brewpub and gift store in Ukiah, California, the brewery at Releta’s Saratoga Springs, New York facility, a building in the UK, and certain equipment. The New York lease includes a renewal option for three additional five-year periods, which Releta intends to exercise, and some leases are adjusted annually for changes in the Consumer Price Index.
12. Related-Party Transactions
The Company conducts business with United Breweries of America, Inc. (“UBA”), which owns approximately 25% of the Company’s common stock. Until October 2013, KBEL had significant transactions with Shepherd Neame, Ltd., which is a related party with respect to a former Board member. KBEL also had significant transactions with HUK, a related party with respect to one of MBC’s Board members, beginning in October 2013.
| F-14 |
The following table reflects the value of such transactions during the quarters ended March 31, 2015 and 2014 and the balances outstanding as of March 31, 2015 and December 31, 2014.
| TRANSACTIONS | March 31, 2015 | March 31, 2014 | ||||||
| Purchases from HUK | $ | 2,404,600 | $ | 3,119,600 | ||||
| Expense reimbursement to HUK | $ | 208,500 | $ | 243,700 | ||||
| Interest expense related to UBA convertible notes | $ | 22,400 | $ | 22,400 | ||||
| Interest expenses related to Catamaran notes | $ | 15,300 | $ | 4,500 | ||||
| ACCOUNT BALANCES | Mar 31, 2015 | Dec 31, 2014 | ||||||
| Accounts payable and accrued liability to HUK | $ | 1,325,400 | $ | 1,802,300 | ||||
13. Segment Information
The Company’s business presently consists of two segments – the North American Territory and the Foreign Territory. The Company’s operations in the North American Territory consist primarily of brewing and marketing proprietary craft beers. For distribution in the North American Territory, the Company brews its brands in its own facilities, which are located in Ukiah, California and Saratoga Springs, New York. The Company’s operations in the Foreign Territory, which are conducted through its wholly-owned subsidiary UBIUK and UBIUK’s wholly-owned subsidiary KBEL, consist primarily of the marketing and distribution of Kingfisher Premium Lager in the Foreign Territory.
A summary of each segment is as follows:
| Three Months Ended March 31, 2015 | ||||||||||||
| North American Territory | Foreign Territory | Total | ||||||||||
| Net Sales | $ | 2,373,700 | $ | 4,320,400 | $ | 6,694,100 | ||||||
| Operating Income (Loss) | $ | (581,000 | ) | $ | 62,100 | $ | (518,900 | ) | ||||
| Identifiable Assets | $ | 13,398,300 | $ | 4,159,700 | $ | 17,558,000 | ||||||
| Depreciation & Amortization | $ | 168,700 | $ | 116,000 | $ | 284,700 | ||||||
| Capital Expenditures | $ | - | $ | 70,800 | $ | 70,800 | ||||||
| Three Months Ended March 31, 2014 | ||||||||||||
| North American Territory | Foreign
Territory | Total | ||||||||||
| Net Sales | $ | 2,734,900 | $ | 5,115,100 | $ | 7,850,000 | ||||||
| Operating Income (Loss) | $ | (490,900 | ) | $ | 171,000 | $ | (319,900 | ) | ||||
| Identifiable Assets | $ | 14,617,700 | $ | 4,031,900 | $ | 18,649,600 | ||||||
| Depreciation & Amortization | $ | 169,600 | $ | 103,300 | $ | 272,900 | ||||||
| Capital Expenditures | $ | 50,400 | $ | 106,400 | $ | 156,800 | ||||||
14. Unrestricted Net Assets
The Company’s wholly-owned subsidiary, UBIUK, had undistributed losses of $665,200 as of March 31, 2015. Under KBEL’s line of credit agreement with RBS, distributions and other payments to MBC from KBEL are not permitted if retained earnings drop below $1,485,000. Condensed financial information of MBC, together with its other subsidiary, Releta is as follows:
| F-15 |
Balance Sheets
| Balance Sheets | March 31, 2015 | December 31, 2014 | ||||||
| (unaudited) | ||||||||
| Assets | ||||||||
| Cash and cash equivalents | $ | 36,300 | $ | 61,500 | ||||
| Accounts receivable, net | 1,435,000 | 1,365,000 | ||||||
| Inventories | 1,702,300 | 2,047,700 | ||||||
| Other current assets | 92,700 | 173,600 | ||||||
| Total current assets | 3,266,300 | 3,647,800 | ||||||
| Investment in subsidiary | 1,225,000 | 1,225,000 | ||||||
| Property and equipment | 9,747,000 | 9,904,500 | ||||||
| Intercompany receivable | 452,700 | 421,900 | ||||||
| Other assets | 385,000 | 310,400 | ||||||
| Total assets | $ | 15,076,000 | $ | 15,509,600 | ||||
| Liabilities | ||||||||
| Line of credit | $ | 1,102,700 | $ | 1,192,900 | ||||
| Accounts payable | 2,681,100 | 2,620,000 | ||||||
| Accrued liabilities | 930,100 | 1,031,300 | ||||||
| Note payable related party | 1,554,000 | 1,038,700 | ||||||
| Current maturities of debt, leases and severance | 3,899,200 | 3,918,900 | ||||||
| Total current liabilities | 10,167,100 | 9,801,800 | ||||||
| Long-term capital leases | 10,800 | 12,100 | ||||||
| Subordinated convertible notes payable | 3,611,400 | 3,588,900 | ||||||
| Severance payable | 646,100 | 760,100 | ||||||
| Total liabilities | 14,435,400 | 14,162,900 | ||||||
| Stockholders’ equity | ||||||||
| Common stock | 15,100,300 | 15,100,300 | ||||||
| Preferred stock | 227,600 | 227,600 | ||||||
| Accumulated deficit | (14,687,300 | ) | (13,981,200 | ) | ||||
| Total stockholders’ equity | 640,600 | 1,346,700 | ||||||
| Total liabilities and stockholders’ equity | $ | 15,076,000 | $ | 15,509,600 | ||||
| Statements of Operations | Quarter ended March 31, | |||||||
| 2015 | 2014 | |||||||
| (unaudited) | (unaudited) | |||||||
| Net sales | $ | 2,373,700 | $ | 2,734,900 | ||||
| Cost of goods sold | 2,122,600 | 2,358,400 | ||||||
| Selling, marketing, and retail expenses | 353,400 | 365,300 | ||||||
| General and administrative expenses | 480,100 | 503,400 | ||||||
| Loss from operations | (582,400 | ) | (492,200 | ) | ||||
| Other (income) and expense | (3,100 | ) | (1,900 | ) | ||||
| Interest expense | 123,000 | 125,700 | ||||||
| Provision for taxes | 3,800 | - | ||||||
| Net loss | $ | (706,100 | ) | $ | (616,000 | ) | ||
| Statements of Cash Flows | Quarter ended March 31, | |||||||
| 2015 | 2014 | |||||||
| (unaudited) | (unaudited) | |||||||
| Cash flows from operating activities | $ | (269,200 | ) | $ | (482,000 | ) | ||
| Purchase of property and equipment | - | (50,400 | ) | |||||
| Net borrowing (repayment) on line of credit | (90,200 | ) | 3,700 | |||||
| Borrowing on long term debt | - | - | ||||||
| Borrowing on note payable | 500,000 | 500,000 | ||||||
| Repayment on long term debt | (133,700 | ) | (133,700 | ) | ||||
| Payment on obligation under capital lease | (1,300 | ) | (1,300 | ) | ||||
| Net change in payable to UBIUK | (30,800 | ) | 94,100 | |||||
| Decrease in cash | (25,200 | ) | (69,600 | ) | ||||
| Cash, beginning of period | 61,500 | 113,700 | ||||||
| Cash, end of period | $ | 36,300 | $ | 44,100 | ||||
15. Income Taxes
In the three months ended March 31, 2015 and 2014, the Company recorded tax expenses related to state franchise taxes only, and did not record income tax expenses due to the availability of deferred tax assets to offset any taxable income in the US (at the federal and state level to the extent applicable) and the UK. The Company has established a full valuation allowance against the Company’s deferred tax assets based on an assessment that the criteria that deferred tax assets will more likely than not be realized has not yet been met. During the three months ended March 31, 2015 and 2014, the Company’s effective tax rates were de minimis.
The Company’s major tax jurisdictions are (i) US (federal), (ii) California (state), (iii) New York (state) and (iv) UK. Tax returns remain open to examination by the applicable governmental authorities for tax years 2011 through 2014. The federal and state taxing authorities may choose to audit tax returns for prior years due to significant tax attribute carryforwards for those prior years. However, such audits will be limited to adjustments to such carryforward tax attributes. The Company is not currently being audited in any tax jurisdiction.
| F-16 |
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion summarizes the significant factors affecting the consolidated operating results, financial condition and liquidity/cash flows of the Company for the three months ended March 31, 2015, compared to the three months ended March 31, 2014. This discussion should be read in conjunction with the Consolidated Financial Statements and Notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.
In the rest of this Quarterly Report on Form 10-Q, the terms “we”, “us”, “our”, and “the Company” and its variants are generally used to refer to Mendocino Brewing Company, Inc. and its subsidiaries, while the term “MBC” is used to refer to Mendocino Brewing Company, Inc. as an individual entity standing alone.
Forward Looking Statements
Various portions of this Quarterly Report on Form 10-Q, including but not limited to the section captioned “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contain forward-looking information. Such information involves risks and uncertainties that are based on current expectations, estimates and projections about the Company’s business, Management’s beliefs, and assumptions made by Management. Words such as “expects,” “anticipates,” “intends,” “plans,” “believes,” “seeks,” “estimates,” and variations of those and similar words are intended to identify such forward-looking information. Any forward-looking statements made by the Company are intended to provide investors with additional information with which they may assess the Company’s future potential. All forward-looking statements are based on assumptions about an uncertain future and are based on information available as of the date such statements are issued. Actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking information due to numerous factors, including but not limited to, changes in the pricing environment for the Company’s products, changes in demand for malt beverage products in different Company markets, changes in distributor relationships or performance, changes in customer preference for the Company’s malt beverage products, regulatory or legislative changes, the impact of competition, changes in the prices of raw materials, availability of financing for operations, changes in interest rates, changes in the Company’s European beer business, and other risks discussed elsewhere in this Quarterly Report on Form 10-Q and from time to time in the Company’s Securities and Exchange Commission (“SEC”) filings and reports. In addition, such statements could be affected by general industry and market conditions and growth rates, and general domestic, Canadian and European economic and political conditions. The Company undertakes no obligation to update these forward-looking statements to reflect facts, circumstances, assumptions or events that occur after the date the forward-looking statements are made or to publicly release the results of any revisions to these forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements.
Segment Information
Prior to 2001, the Company’s business operations were exclusively located in the US, and consisted of the manufacture and distribution of beer. With the Company’s acquisition of United Breweries International (UK), Ltd. (“UBIUK”) in August 2001, the Company gained a new business segment ― distribution of beer outside the US, primarily in the United Kingdom (the “UK”) and continental Europe (collectively, the “Foreign Territory”). This segment accounted for 64% of the Company’s gross sales during the first quarter of 2015 and 2014, with the US and Canada (the “North American Territory”) accounting for the remaining 36% during the first quarter of 2015 and 2014.
Seasonality
Sales of the Company’s products are somewhat seasonal. Historically, sales volumes in both the Company’s North American and Foreign Territories have been comparatively low during the first quarter of the calendar year. The volume of sales in any given area may also be affected by local weather conditions. Because of the seasonality of the Company’s business, results for any one quarter are not necessarily indicative of the results that may be achieved for the full fiscal year.
| 3 |
Summary of Financial Results
The Company ended the first quarter of 2015 with a net loss of $673,900, as compared to a net loss of $468,600 for the same period in 2014. As set forth more fully under the section captioned “Results of Operations” below, during the first quarter of 2015, the Company experienced a decrease in net sales of $1,155,900 compared to the first quarter of 2014. Compared to the first quarter of 2014, costs of goods sold decreased by $923,200, operating expenses decreased by $33,700, and net other expenses increased by $2,500 in the first quarter of 2015, all of which contributed to the Company’s results for the period.
RESULTS OF OPERATIONS
Three months ended March 31, 2015 compared to Three Months ended March 31, 2014
Net Sales
Overall net sales for the first quarter of 2015 were $6,694,100, a decrease of $1,155,900, or 15%, compared to $7,850,000 for the first quarter of 2014.
North American Territory: Net sales in the North American Territory for the first quarter of 2015 were $2,373,700, compared to $2,734,900 for the same period in 2014, a decrease of $361,200, or 13%. The sales volume decreased to 11,600 barrels in the first quarter of 2015 from 12,900 barrels in the first quarter of 2014, representing a decrease of 1,300 barrels, or 10%. Of the numerical barrel decrease, sales of our brands decreased by 1,700 barrels, and sales of contract brands increased by 400 barrels mainly due to lower demand. The Company continues to solicit opportunities to enter into non-binding contract brewing arrangements to address the low production capacity utilization rates in our Ukiah, California and Saratoga Springs, New York brewing facilities, and anticipate that fluctuations in the availability of such contract brewing arrangements will continue to impact our net sales in the North American Territory.
Foreign Territory: Net sales in the Foreign Territory for the first quarter of 2015 were $4,320,400, compared to $5,115,100 during the corresponding period of 2014, a decrease of $794,700, or 16%. The decrease was due to lower sales in core channels and currency rate fluctuation. Our selling price includes excise duty. Excise duty was lowered during the first quarter of 2015 resulting in our lowering selling price.
Cost of Goods Sold
Cost of goods sold as a percentage of net sales during the first quarter of 2015 was 69% compared to 70% during the first quarter of 2014.
North American Territory: Cost of goods sold as a percentage of net sales in the North American Territory during the first quarter of 2015 was 89%, as compared to 86% during the corresponding period of 2014, due to lower sales volume. Utilization of our production capacity has a direct impact on cost. Generally, when facilities are operating at lower percentage of production capacity, cost is unfavorably affected because fixed and semi-variable operating costs, such as depreciation and production costs, are spread over a smaller volume base. Our production capacity is currently underutilized. In addition to capacity utilization, other factors that could affect cost of sales include unanticipated increases in material and shipping costs, the availability and prices of raw materials and packaging materials, and the availability of contract brewing arrangements.
Foreign Territory: Cost of goods sold as a percentage of net sales in the Foreign Territory during the first quarter of 2015 was 57% compared to 62% during the first quarter of the year 2014. The reduction was due to lower purchase prices due to reduction in excise duty and currency rate fluctuation.
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Gross Profit
As a result of the decrease in net sales described above, gross profit for the first quarter of 2015 decreased to $2,095,600, compared to $2,328,300 during the corresponding period of 2014. As a percentage of net sales, gross profit during the first quarter of 2015 increased to 31% compared to 30% in 2014 due to lower cost of goods sold.
Operating Expenses
Operating expenses for the first quarter of 2015 were $2,614,500, a decrease of $33,700, or 1%, as compared to $2,648,200 for the first quarter of 2014. Operating expenses consist of marketing and distribution expenses and general and administrative expenses.
Marketing and Distribution Expenses
The Company’s marketing and distribution expenses for the first quarter of 2015 were $1,402,900, as compared to $1,527,900 for the first quarter of 2014, representing a decrease of $125,000, or 8%. These expenses increased to 21% of net sales for the first quarter of 2015 compared to 20% during the first quarter of 2014.
North American Territory: Marketing and distribution expenses in the North American Territory for the first quarter of 2015 were $353,400, compared to $365,300 during first quarter of 2014, representing a decrease of $11,900, or 3% due to reduction in manpower. As a percentage of net sales in the North American Territory, marketing and distribution expenses increased to 15% of net sales for the first quarter of 2015 compared to 13% during the first quarter of 2014.
Foreign Territory: Marketing and distribution expenses in the Foreign Territory for the first quarter of 2015 were $1,049,500, compared to $1,162,600 during the first quarter of 2014, representing a decrease of $113,100, or 10%. As a percentage of net sales in the UK, marketing and distribution expenses during the first quarter of 2015 was 24% compared to 23% during the first quarter of 2014. The increase was mainly due to exchange rate fluctuation.
General and Administrative Expenses
The Company’s general and administrative expenses were $1,211,600 for the first quarter of 2015, compared to $1,120,300 for the first quarter of 2014, representing an increase of $91,300, or 8%. As a percentage of net sales, these expenses were 19% and 14% during the first quarter of 2015 and 2014 respectively.
North American Territory: General and administrative expenses related to the North American Territory were $480,100 during the first quarter of 2015, compared to $503,400 for the corresponding period of 2014, representing a decrease of $23,300, or 5% mainly due to reduction in manpower. As a percentage of net sales in the North American Territory, expenses increased to 20% during the first quarter of 2015, compared to 18% during the first quarter of 2014.
Foreign Territory: General and administrative expenses related to the Foreign Territory increased to $731,500 for the first quarter of 2015, representing an increase of $114,600, or 19%, compared to $616,900 for the first quarter of 2014. As a percentage of net sales in the Foreign Territory, expenses increased to 17% during the first quarter of 2014, compared to 12% during the first quarter of 2014. The increase was mainly due to increase in manpower costs including recruitment and training.
Other Expenses
Other expenses for the first quarter of 2015 totaled $151,200, representing an increase of $2,500 or 2% when compared to other expenses of $148,700 for the first quarter of 2014.
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Income Taxes
The Company recorded provisions of $3,800 for income taxes associated with operations in the North American Territory during the first quarter of 2015. The Company did not record any provision for income taxes associated with operations in the North American territory in the first quarter of 2014.
Net Loss
The Company’s net loss for the first quarter of 2015 was $673,900, as compared to a net loss of $468,600 for the first quarter of 2014. After providing for a positive foreign currency translation adjustment of $27,100 during the first quarter of 2015, as compared to a negative adjustment of $11,400 for the same period in 2014, the comprehensive loss for the first quarter of 2015 was $646,800, as compared to $480,000 for the same period in 2014.
LIQUIDITY AND CAPITAL RESOURCES
Unused capacity at our Ukiah, California and Saratoga Springs, New York facilities has continued to place demands on our working capital. Historically, our operations have not generated sufficient cash flows to provide us with sufficient working capital. However, we believe that the liquidity we derive from the debt financing and cash flows attributable to our operations is sufficient to fund our capital expenditures, debt maturities and other business needs for the next twelve months. We normally generate our liquidity and capital resources primarily through operations and available debt financing.
On June 23, 2011, MBC and Releta entered into a Credit and Security Agreement (the “Agreement”) with Cole Taylor Bank, an Illinois banking corporation (“Cole Taylor”). Cole Taylor merged into MB Financial Bank, an Illinois banking corporation (“MB Financial”) on August 18, 2014. As used in this Report, “Lender” shall refer to Cole Taylor prior to August 18, 2014 and to MB Financial, as successor in interest to Cole Taylor, on or after August 18, 2014. The Agreement provided a credit facility with a maturity date of June 23, 2016 of up to $10,000,000 consisting of a $4,119,000 revolving facility, a $1,934,000 machinery and equipment term loan, a $2,947,000 real estate term loan and a $1,000,000 capital expenditure line of credit. Convertible promissory notes issued to United Breweries of America, Inc. (“UBA”), one of the Company’s principal shareholders, are subordinated to Lender’s facility.
The Agreement requires MBC and Releta to maintain certain minimum fixed charge coverage ratios for trailing twelve month periods and minimum tangible net worth. The minimum tangible net worth MBC and Releta are required to maintain is subject to increase based on the net income of MBC and Releta. On March 29, 2013, MBC, Releta, and Lender entered into a First Amendment to the Agreement to clarify the method by which the fixed charge coverage ratio is calculated, with retrospective application.
The required fixed charge coverage ratio for the trailing twelve month periods ended March 31, 2013 onwards fell short of the required ratio. The tangible net worth fell short of the required amount for the period beginning June 1, 2013 onwards.
On September 18, 2013, MBC and Releta received a notice (the “Default Notice”) from Lender regarding its intention to exercise certain rights with respect to events of default of the Company pursuant to the Agreement.
The Agreement provides that the failure of MBC and Releta to observe any covenant will constitute an event of default under the Agreement. Under the Agreement, upon the occurrence of an event of default, all of MBC’s and Releta’s obligations under the Agreement may, at the option of the Lender, be declared, and immediately shall become, due and payable, without notice of any kind. The event of default shall be deemed continuing until waived in writing by the Lender. The Default Notice states that Lender has elected, effective September 1, 2013, to charge a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement. The Company estimates that the increased rate currently results in approximately $120,000 additional annual interest expense.
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On April 18, 2014, MBC and Releta received a second notice (the “Second Default Notice”) from Lender regarding its intention to exercise certain rights with respect to events of default of the Company pursuant to the Agreement. As stated in the Second Default Notice, the Company has continued to be in default on the fixed charge coverage ratio for each measurement period beginning March 31, 2013 through February 28, 2015. The required fixed charge coverage ratio was initially required to be at least 1.05 to 1.00, but as of July 31, 2013, the required fixed charge coverage ratio increased to 1.10 to 1.00 pursuant to the terms of the Agreement.
The Second Default Notice also stated that the tangible net worth of MBC and Releta continued to fall short of the required amount as measured through February 28, 2014. The Company calculated that the required tangible net worth of MBC and Releta was $6,181,400 as of December 31, 2014 and the actual tangible net worth on such date was $3,843,400. The Company does not anticipate that it will regain compliance with the required fixed charge coverage ratio or the minimum tangible net worth in the immediate future. In addition, the Second Default Notice required MBC and Releta to engage a consultant to perform a viability analysis and prepare a revised projection for 2014.
Effective August 20, 2014, pursuant to a notice to MBC and Releta dated August 18, 2014 (the “Third Default Notice”) which referred to MBC’s and Releta’s continued failure to meet the required fixed charge coverage ratio and the tangible net worth requirement, Lender notified MBC and Releta that it would reduce the advance rate for (i) eligible finished goods and raw material inventory and (ii) eligible work-in progress inventory by 2% each month. The advance rates are used in the calculation of the borrowing base of each of MBC and Releta, which is used in the determination of the amount available to each of MBC and Releta pursuant to the revolving facility. Under the terms of the Agreement, if such availability is less than $0, or if certain components of the borrowing base of each of MBC and Releta fall below certain limits in relation to outstanding revolving loans, such difference shall be immediately due and payable.
On January 21, 2015, MBC, Releta, and Lender entered into a Second Amendment (the “Second Amendment”) to the Agreement.
The Second Amendment reduced the maximum amount of the Revolver from $4,119,000 to $2,500,000. The Second Amendment also changed the definition of borrowing base (including by lowering certain advance rates) such that the calculation of the borrowing base will result in a lower number than it would have if calculated prior to the effectiveness of the Second Amendment. The borrowing base is used in the determination of the amount available to each Borrower pursuant to the Revolver. Pursuant to the Agreement, if such availability is less than $0, or if certain components of the borrowing base fall below certain limits in relation to outstanding revolving loans, such difference shall be immediately due and payable.
The Second Amendment reduced the advance rate for (i) eligible finished goods and raw material inventory and (ii) eligible work-in progress inventory by two percent (2%) and continues to reduce each by an additional two percent (2%) on the 20th day of each month thereafter. The advance rates are used in the calculation of the borrowing base of each Borrower, which is used in the determination of the amount available to each Borrower pursuant to the Revolver. As stated above, if such availability is less than $0, or if certain components of the borrowing base fall below certain limits in relation to outstanding revolving loans, such difference shall be immediately due and payable.
Lender has not waived the events of default described in the Default Notice, the Second Default Notice or the Third Default Notice and has reserved the right to all other available rights and remedies under the Agreement, certain other related documents and applicable law. Lender could declare the full amount owed under the Agreement due and payable at any time for any reason or no reason. Since entering into the Second Amendment, the Company has not received any notice or other communication from Lender that it intends to exercise any other remedies available to it under the Agreement in connection with the events of default. Lender continues to charge a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement. The exercise of additional remedies by Lender may have a material adverse effect on the Company’s financial condition and the Company’s ability to continue to operate. If it becomes necessary for MBC and Releta to seek additional financing, there is no guarantee that MBC and Releta will be able to obtain such financing on terms favorable to the Company or on any terms.
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As of March 31, 2015, the fixed charge coverage ratio was required to be 1.10 to 1. The Company calculated that the fixed charge coverage ratio as of March 31, 2015 was -1.35 to 1. The Company calculated that the required tangible net worth of MBC and Releta was $6,181,400 as of March 31, 2015 and the actual tangible net worth on such date was $3,650,600. The Company does not anticipate that it will regain compliance with the required fixed charge coverage ratio or the minimum tangible net worth in the immediate future.
At March 31, 2015, the Company had cash and cash equivalents of $36,600, an accumulated deficit of $16,921,000, and a working capital deficit of $7,687,900 due to losses incurred and reclassification of debts owing to MB Financial as a result of the defaults under the Agreement described above. In addition, the book value of the Company’s assets was lower than the book value of its liabilities at March 31, 2015.
The Company received a letter dated November 11, 2013 from UBHL, our indirect majority shareholder, expressing its willingness to commit to invest $2,000,000 in the Company in four installments to be paid every six months over a two year period. The letter did not state definitive terms for the proposed investment but stated that UBHL would consider such additional investment based on a business plan to be provided by the Company. We provided a business plan in February 2015 and requested additional investment from UBHL and are awaiting UBHL’s response. If we are unable to come to a final agreement with UBHL on the terms of the proposed investment or if UBHL does not agree to provide additional investment we will pursue other sources of funds.
In response to the losses incurred in connection with our operations, UBHL, our indirect majority shareholder, issued a letter of comfort to the Company’s accountants on March 5, 2015 (the “Letter of Comfort”), to confirm that UBHL would provide funding on an as needed basis to ensure that the Company is able to meet its financial obligations as and when they fall due. The Letter of Comfort does not specify either the terms of UBHL’s support, or a maximum dollar limit and is not a legally binding agreement. UBHL’s financial support is contingent upon compliance with any applicable exchange control requirements, other applicable laws, and regulations relating to the transfer of funds from India. The Letter of Comfort does not specify any time limit for extending support. If it becomes necessary to seek UBHL’s financial assistance under the Letter of Comfort and UBHL is either unable or unwilling to provide such financial assistance to MBC, it may result in a material adverse effect on the Company’s financial position and on its ability to continue operations. UBHL controls the Company’s two largest shareholders, United Breweries of America, Inc. (“UBA”) and Inversiones, and as such, is the Company’s indirect majority shareholder. The Company’s Chairman of the Board, Dr. Vijay Mallya, is also the Chairman of the board of directors of UBHL.
In addition, the Company’s lenders may seek to satisfy any outstanding obligations through recourse against the applicable pledged collateral which may include our real property and fixed and current assets. The loss of any material pledged asset would likely have a material adverse effect on the Company’s financial position and results of operations.
Management has taken several actions to enable the Company to meet its working capital needs through March 31, 2016, including reducing discretionary expenditures, reducing manpower and securing additional brewing contracts in an effort to utilize a portion of excess production capacity. The Company has requested UBHL to make a capital infusion. If UBHL is unwilling or unable to infuse additional capital, the Company may seek capital from other sources.
If the Company is unable to find any source of funds, it may result in a material adverse effect on its ability to continue operations. For example, MB Financial may seek to satisfy any outstanding obligations through recourse against the applicable pledged collateral which may include our real property, fixed assets and current assets. The loss of any material pledged asset would likely have a material adverse effect on the Company’s financial position and results of operations.
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On January 22, 2014, Catamaran Services, Inc., (“Catamaran”), a related party (see “Notes Payable to Related Parties”, below), provided a note loan of $500,000 repayable upon receipt of an equity investment by the Company’s majority shareholder. On April 24, 2014, another note loan of $500,000 was received from Catamaran on terms similar to the previous note. On February 5, 2015, another note loan of $500,000 was received from Catamaran on terms similar to the previous notes. On each date on which Catamaran provided a note loan, the Company received a letter from Lender permitting the Company to obtain loans subject to certain conditions, including that no portion of such loans would be payable until either (a) certain obligations of the Company to Lender pursuant to the Agreement were satisfied in full, or (b) such payment was a Permitted Payment. A “Permitted Payment” is a payment made from the portion of an equity investment by the Company’s majority shareholder that is over $500,000.
We have several loans, lines of credit, other credit facilities and lease agreements which are currently outstanding (collectively, “Indebtedness”). We currently make timely payments of principal and interest relating to the Indebtedness as they fall due and anticipate that we will continue to make such timely payments in the immediate future. However, if we fail to maintain any of the financial covenants under the various agreements governing Indebtedness (such as the defaults under the Agreement described above), fail to make timely payments of amounts due under the Indebtedness, or commit any other breach resulting in an event of default under the agreements governing Indebtedness, such events of default (including cross-defaults) could have a material adverse effect on our financial condition. If our existing debt were accelerated and terminated, we would need to obtain replacement financing, the lack of which would have a material adverse effect on our financial condition and ability to continue operations. In addition, actions taken by secured parties against the Company’s assets which have been pledged as collateral could have a material adverse effect on our financial condition and operations.
Our ability to meet future working capital requirements will depend on many factors, including the rate of our revenue growth, whether we successfully introduce new products and expansion of sales and marketing activities. There can be no assurance that we will be able to increase sales to provide cash for operating activities. To the extent our available cash is insufficient to fund our future activities, we may need to raise additional funds through bank credit arrangements, or public or private equity or debt financings. We may not be able to obtain bank credit arrangements or to effect an equity or debt financing on terms acceptable to us or at all.
Cash Flow Results
Net cash used in operating activities for the three months ended March 31, 2015 was $478,500, compared to net cash used in operations of $258,500 for the three months ended March 31, 2014. During the first quarter of 2015, accounts receivable decreased by $643,200 due to increased collections in Foreign Territory. Accounts payable during the first quarter of 2015 decreased by $345,400, mainly due to a reduction in the accounts payable in our Foreign Territory. Our inventory decreased by $330,400 during the first three months of 2015 due to lower production in North American Territory. Accrued liabilities decreased by $365,300 due to lower procurement of goods and services.
Net cash used in investing activities totaled $70,800 for the first quarter of 2015, compared to $145,700 during the corresponding period in 2014, due to reduced purchases of beer dispensing equipment.
Net cash provided by financing activities during the first quarter of 2015 totaled $421,800, compared to net cash provided by financing activities during the first quarter of 2014 of $131,500, as a result of an increase in borrowing against the notes payable to Catamaran in the North American Territory and net increase in use of the revolving line of credit in the Foreign Territory and repayment of debts to MB Financial and HUK.
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Description of Our Indebtedness
MB Financial Facility
On June 23, 2011, MBC and Releta entered into the Agreement with Lender (as described in “Liquidity and Capital Resources”). The Agreement provided a credit facility of up to $10,000,000 with a maturity date of June 23, 2016, consisting of a $4,119,000 revolving facility, a $1,934,000 machinery and equipment term loan, a $2,947,000 real estate term loan and a $1,000,000 capital expenditure line of credit. At the time that the applicable loan or advance is made, we may choose, subject to certain contingencies, an interest rate based on either LIBOR or the Wall Street Journal prime rate as follows: (a) with respect to the revolving facility, either LIBOR plus a margin of 3.50% or the Wall Street Journal prime rate plus a margin of 1.00%, (b) with respect to the machinery and equipment term loan and the capital expenditure term loan, either LIBOR plus a margin of 4.25% or the Wall Street Journal prime rate plus a margin of 1.50%, and (c) with respect to the real estate term loan, either LIBOR plus a margin of 4.75% or the Wall Street Journal prime rate plus a margin of 2.00%. As described below, effective September 1, 2013, Lender is charging a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement. As described below, the Second Amendment (among other things) reduces the advance rate for (i) eligible finished goods and raw material inventory and (ii) eligible work-in progress inventory by 2% each month. The advance rates are used in the calculation of the borrowing base of each of MBC and Releta, which is used in the determination of the amount available to each of MBC and Releta pursuant to the revolving facility. Under the terms of the Agreement, if such availability is less than $0, or if certain components of the borrowing base of each of MBC and Releta fall below certain limits in relation to outstanding revolving loans, such difference shall be immediately due and payable. The Second Amendment also reduces the maximum amount of the Revolver from $4,119,000 to $2,500,000 and changes the definition of borrowing base (including by lowering certain advance rates). The Agreement binds us to certain financial covenants including maintaining prescribed minimum tangible net worth and prescribed minimum fixed charges coverage. There is a prepayment penalty if we prepay all of our obligations prior to the maturity date. The credit facility is secured by a first priority interest in all of MBC’s and Releta’s personal property and a first mortgage on our Ukiah, California real property, among other MBC and Releta assets.
On March 29, 2013, MBC and Releta entered into the Amendment to the Agreement (as described in “Liquidity and Capital Resources”). The Amendment clarifies the method by which the fixed charge coverage ratio shall be calculated.
As previously disclosed, the Company has been and remains in default of the fixed charge coverage ratio and the minimum tangible net worth requirement among other covenants contained in the Agreement. On September 18, 2013, April 18, 2014 and August 18, 2014, MBC and Releta received the Default Notice, the Second Default Notice and the Third Default Notice, respectively, from Lender regarding its intention to exercise certain rights with respect to events of default of the Company pursuant to the Agreement. Under the Agreement, upon the occurrence of an event of default, all of MBC’s and Releta’s obligations under the Agreement may, at the option of Lender, be declared, and immediately shall become, due and payable, without notice of any kind. The Default Notice stated that Lender has elected to charge a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement effective September 1, 2013. The Second Default Notice required MBC and Releta to engage a consultant to perform a viability analysis and prepare a revised projection for 2014. The Third Default Notice notified us that Lender would be reducing the advance rate for (i) eligible finished goods and raw material inventory and (ii) eligible work-in progress inventory by 2% each month. For more details on the defaults, please refer to “Liquidity and Capital Resources” above.
On January 21, 2015, MBC, Releta, and Lender entered into a Second Amendment (the “Second Amendment”) to the Agreement.
The Second Amendment reduced the maximum amount of the Revolver from $4,119,000 to $2,500,000. The Second Amendment also changed the definition of borrowing base (including by lowering certain advance rates) such that the calculation of the borrowing base will result in a lower number than it would have if calculated prior to the effectiveness of the Second Amendment. The borrowing base is used in the determination of the amount available to each Borrower pursuant to the Revolver. Pursuant to the Agreement, if such availability is less than $0, or if certain components of the borrowing base fall below certain limits in relation to outstanding revolving loans, such difference shall be immediately due and payable.
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The Second Amendment reduced the advance rate for (i) eligible finished goods and raw material inventory and (ii) eligible work-in progress inventory by two percent (2%) and continues to reduce each by an additional two percent (2%) on the 20th day of each month thereafter. The advance rates are used in the calculation of the borrowing base of each Borrower, which is used in the determination of the amount available to each Borrower pursuant to the Revolver. As stated above, if such availability is less than $0, or if certain components of the borrowing base fall below certain limits in relation to outstanding revolving loans, such difference shall be immediately due and payable.
Master Line of Credit and UBA Notes
On August 31, 1999, MBC and UBA, one of our principal shareholders, entered into a Master Line of Credit Agreement, which was subsequently amended in April 2000 and February 2001 (the “Credit Agreement”). The terms of the Credit Agreement provide us with a line of credit in the principal amount of up to $1,600,000. As of the date of this filing, UBA has made thirteen separate advances to us under the Credit Agreement and one additional advance on March 2, 2005 on substantially the same terms as those under the Credit Agreement, pursuant to a series of individual eighteen-month promissory notes issued by us to UBA (the “UBA Notes”). Thirteen of the UBA Notes are convertible into common stock at a rate of $1.50 per share and one UBA Note is convertible at a rate of $1.44 per share. UBA has executed an Extension of Term of Notes under Master Line of Credit Agreement and an amendment to the March 2, 2005 note (together, the “Extension Agreements”). The Extension Agreements, as amended, confirm UBA’s extension of the terms of the UBA Notes for a period ending on June 30, 2015 with automatic renewals after such maturity date for successive one year terms, provided that either MBC or UBA may elect not to extend a term upon written notice given to the other party no more than 60 days and no fewer than 30 days prior to the expiration of the applicable term.
The UBA Notes require us to make quarterly interest payments to UBA on the first day of April, July, October, and January. To date, UBA has permitted us to capitalize all accrued interest; therefore, we have borrowed the maximum amount available under the facility. Upon maturity of any of the UBA Notes, unless UBA has given us prior instructions to commence repayment of the outstanding principal balance, the outstanding principal and accrued but unpaid interest on such UBA Notes may be converted, at the option of UBA, into shares of our common stock. During the extended term of the UBA Notes, UBA has the right to require us to repay the outstanding principal balance, along with the accrued and unpaid interest thereon, to UBA within 60 days.
The UBA Notes are subordinated to credit facilities extended to us by Cole Taylor pursuant to a subordination agreement executed by UBA. Per the terms of the subordination agreement, UBA is precluded from demanding repayment of the UBA Notes unless and until the Lender’s facility is repaid in full.
The aggregate outstanding principal amount of the UBA Notes as of March 31, 2015 was $1,915,400, and the accrued but unpaid interest thereon was equal to approximately $1,696,000, for a total amount outstanding of $3,611,400.
As of March 31, 2015, the outstanding principal and interest on the UBA Notes was convertible into approximately 2,425,600 shares of our common stock. However, as the current market price of our common stock is substantially less than the conversion rate, voluntary conversion by UBA is unlikely.
Catamaran Notes:
On January 22, 2014, the Company issued a promissory note to Catamaran in the principal amount of $500,000. Catamaran Holdings, Ltd., the sole shareholder of Catamaran (“Holdings”) has directors in common with Inversiones, one of the major shareholders of the Company. The indirect beneficial owner of Inversiones is UBHL. Dr. Vijay Mallya, the Chairman of the Board of Directors of the Company is also the Chairman of the Board of Directors of UBHL. The Company has asked Catamaran whether any relationships exist between the shareholders of Holdings and any affiliates of the Company, and has not received a response to such inquiries. On April 24, 2014, the Company issued another note to Catamaran in the principal amount of $500,000 on terms similar to the note issued on January 22, 2014. On February 5, 2015, the Company issued a third note to Catamaran in the principal amount of $500,000, on terms similar to the notes issued earlier.
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Pursuant to the terms of the notes, the Company promises to pay each note with accrued interest, as described below, to Catamaran within six months following the date of the note, subject to the receipt by the Company of an equity investment by its majority shareholder (the “Shareholder Investment”) in an amount sufficient either (a) to pay the notes through Permitted Payments, as defined below, or (b) to pay both the notes and certain existing obligations of the Company to Lender in full. “Permitted Payments” on the notes are payments made from the portion of a Shareholder Investment that is in excess of $500,000.
If the Company is not able to satisfy its obligations on the notes within the six month period following the date of the notes, the notes are automatically extended for additional six month terms until a Shareholder Investment sufficient to satisfy the notes is received. Interest shall accrue from the date of the notes on the unpaid principal at a rate equal to the lesser of (i) one and one-half percent (1.5%) per annum above the prime rate offered from time to time by the Bank of America Corporation in San Francisco, California, or (ii) ten percent (10%) per annum, until the principal is fully paid.
The notes may be prepaid without penalty at the option of the Company; however, no payments on the notes may be made unless such payment is a Permitted Payment or certain existing obligations of the Company to Lender have been satisfied in full. The notes may not be amended without the prior written consent of Lender.
Other Loans, Credit Facilities and Commitments
Heineken Loan
On April 18, 2013, KBEL entered into a loan agreement with Heineken UK Limited (“HUK”) pursuant to which HUK agreed to provide KBEL with a secured term loan facility of £1,000,000 (the “HUK Loan Agreement”) which was made available, upon the fulfillment of certain conditions precedent, on October 9, 2013 and to be repaid in full by October 9, 2016. Interest on the loan is payable quarterly in arrears on the outstanding balance of the loan at the rate of 5% above the Bank of England base rate. Prepayment is permitted. Upon an event of default, as defined in the HUK Loan Agreement, if HUK and KBEL fail to agree on a payment plan acceptable to HUK, HUK may, among other remedies, declare the loan immediately due and repayable or exercise its right to an exclusive license pursuant to the Sub-Licence Agreement as described and defined in the HUK Loan Agreement.
Royal Bank of Scotland Facility
On April 26, 2005, Royal Bank of Scotland Commercial Services Limited (“RBS”) provided KBEL with an approximately $2.8 million (£1,750,000) maximum revolving line of credit with an advance rate based on 80% of KBEL’s qualified accounts receivable. This facility has a minimum maturity of twelve months, but is automatically extended unless terminated by either party upon six months’ written notice.
Weighted Average Interest
The weighted average interest rates paid on our US debts was 6% for the first quarters of 2015 and 2014. For loans primarily associated with our Foreign Territory, the weighted average rate paid was 5% for the first quarters of 2015 and 2014.
Current Ratio
Our ratio of current assets to current liabilities on March 31, 2015 was 0.45 to 1.00 and the ratio of total assets to total liabilities was 0.94 to 1.00. Our ratio of current assets to current liabilities on March 31, 2014 was 0.50 to 1.00 and the ratio of total assets to total liabilities was 1.03 to 1.00.
Restricted Net Assets
The Company’s wholly-owned subsidiary, UBIUK, had undistributed losses of $665,200 as of March 31, 2015. Under KBEL’s line of credit agreement with RBS, distributions and other payments to MBC from KBEL are not permitted if retained earnings drop below approximately $1,485,000.
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
Not required for smaller reporting companies.
Item 4. Controls and Procedures
Disclosure Controls And Procedures
Our Management team, under the supervision and with the participation of our chief executive officer (our principal executive officer) and our chief financial officer (our principal financial officer), evaluated the effectiveness of the design and operation of our disclosure controls and procedures as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the last day of the quarter ended March 31, 2015. The term disclosure controls and procedures means our controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to Management, including our chief executive officer and chief financial officer, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Based on this evaluation, our chief executive officer and our chief financial officer concluded that our disclosure controls and procedures were effective as of March 31, 2015.
Changes In Internal Control Over Financial Reporting
There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter ended March 31, 2015 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
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OTHER INFORMATION
Item 3. Defaults Upon Senior Securities
The discussion provided under the heading “Liquidity and Capital Resources” with respect to our default under our agreement with MB Financial, as successor in interest to Cole Taylor, and the discussion under the subheading “MB Financial Facility,” under the heading “Description of Our Indebtedness,” both set forth in Item 2 of PART I of this Report, are hereby incorporated by reference in their entirety.
| Exhibit Number | Description | ||
| 10.1 | (A) | Second Amendment to Credit and Security Agreement effective January 21, 2015, by and among MB Financial Bank, N.A., successor in interest to Cole Taylor Bank, Mendocino Brewing Company, Inc. and Releta Brewing Company LLC. | |
| 10.2 | (B) | Promissory Note of Mendocino Brewing Company, Inc., in favor of Catamaran Services, Inc., dated February 5, 2015. | |
| 31.1 | Certification of Principal Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934.* | ||
| 31.2 | Certification of Principal Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934.* | ||
| 32.1 | Certification of Principal Executive Officer Pursuant to Rule 13a-14(b)/15d-14(b) of the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350.** | ||
| 32.2 | Certification of Principal Financial Officer Pursuant to Rule 13a-14(b)/15d-14(b) of the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350.** | ||
| 101.INS | XBRL Instance Document | ||
| 101.SCH | XBRL Taxonomy Extension Schema Document | ||
| 101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document | ||
| 101.DEF | XBRL Taxonomy Extension Definition Linkbase Document | ||
| 101.LAB | XBRL Taxonomy Extension Label Linkbase Document | ||
| 101.PRE | XBRL Taxonomy Extension Presentation Linkbase Document |
* Filed herewith.
** Furnished herewith.
NOTE: Each Exhibit listed above that is annotated with one of the following letters is incorporated by reference from the following sources:
| (A) | MBC’s Current Report on Form 8-K filed as of January 27, 2015. |
| (B) | MBC’s Current Report on Form 8-K filed as of February 11, 2015. |
| 14 |
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| mendocino brewing company, inc. | ||
| Dated: May 15, 2015 | By: | /s/ Yashpal Singh |
| Yashpal Singh | ||
| President and Chief Executive Officer | ||
| (Principal Executive Officer) | ||
| Dated: May 15, 2015 | By: | /s/ Mahadevan Narayanan |
| Mahadevan Narayanan | ||
| Chief Financial Officer and Secretary | ||
| (Principal Financial and Accounting Officer) | ||
| 15 |
CERTIFICATION
I, Yashpal Singh, certify that:
| 1. | I have reviewed this quarterly report on Form 10-Q of Mendocino Brewing Company, Inc.; | |
| 2. | Based on my knowledge, this 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 report; | |
| 3. | Based on my knowledge, the financial statements, and other financial information included in this 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 report; | |
| 4. | The registrant’s other certifying officer 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 13a-15(f) and 15d-15(f)) for the registrant and have: |
| a. | Designed such disclosure controls and procedures, or caused 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 financial 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 generally 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 (the registrant’s fourth fiscal quarter in the case of an annual report) 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 the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): |
| 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 15, 2015 | |
| /s/ Yashpal Singh | |
| Yashpal Singh, | |
| Chief Executive Officer | |
| (Principal Executive Officer) |
CERTIFICATION
I, Mahadevan Narayanan, certify that:
| 1. | I have reviewed this quarterly report on Form 10-Q of Mendocino Brewing Company, Inc.; | |
| 2. | Based on my knowledge, this 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 report; | |
| 3. | Based on my knowledge, the financial statements, and other financial information included in this 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 report; | |
| 4. | The registrant’s other certifying officer 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 13a-15(f) and 15d-15(f)) for the registrant and have: |
| a. | Designed such disclosure controls and procedures, or caused 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 financial 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 generally 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 (the registrant’s fourth fiscal quarter in the case of an annual report) 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 the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): |
| 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 15, 2015 | /s/ Mahadevan Narayanan |
| Mahadevan Narayanan | |
| Chief Financial Officer | |
| (Principal Financial and Accounting Officer) |
CERTIFICATION
In connection with the Quarterly Report of Mendocino Brewing Company, Inc. (the “Company”) on Form 10-Q for the quarterly period ended March 31, 2015, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Mahadevan Narayanan, Chief Financial Officer of the Company, certify, pursuant to Title 18, United States Code, Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
| (1) | The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and | |
| (2) | The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. |
A signed original of this written statement required by Section 906 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.
| Date: May 15, 2015 | /s/ Yashpal Singh |
| Yashpal Singh | |
| Title: Chief Executive Officer | |
| (Principal Executive Officer) |
CERTIFICATION
In connection with the Quarterly Report of Mendocino Brewing Company, Inc. (the “Company”) on Form 10-Q for the quarterly period ended March 31, 2015, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Mahadevan Narayanan, Chief Financial Officer of the Company, certify, pursuant to Title 18, United States Code, Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
| (1) | The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and | |
| (2) | The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. |
A signed original of this written statement required by Section 906 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.
| Date: May 15, 2015 | /s/ Mahadevan Narayanan |
| Mahadevan Narayanan | |
| Title: Chief Financial Officer | |
| (Principal Financial and Accounting Officer) |
|
Long-Term Debt - Related Party - Schedule of Related Party Debt (Details) (USD $)
|
Mar. 31, 2015
|
Dec. 31, 2014
|
|---|---|---|
| Less current maturities | $ 495,000 | $ 519,300 |
| Long-term debt non-current | 371,300 | 519,300 |
| Loan from Heineken UK Limited Notes With 5% Prime Plus Interest Rate [Member] | ||
| Long term debt, total | 866,300 | 1,038,600 |
| Less current maturities | 495,000 | 519,300 |
| Long-term debt non-current | $ 371,300 | $ 519,300 |
|
Unrestricted Net Assets (Details Narrative) (UBIUK [Member], USD $)
|
Mar. 31, 2015
|
|---|---|
|
UBIUK [Member]
|
|
| Undistributed losses of UBIUK | $ 665,200 |
| Minimum Retained Earning required for distributions and other payments to MBC from KBEL | $ 1,485,000 |