-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, GIZ/q7oCLeaShnss1dhXDR52e010ZAPT0HuqcS0RkDAMthihfKNeEIZFQglCkj6y IHNbWJuT/iyC6YLl70X5sQ== 0001144204-07-068047.txt : 20071218 0001144204-07-068047.hdr.sgml : 20071218 20071218135226 ACCESSION NUMBER: 0001144204-07-068047 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20070630 FILED AS OF DATE: 20071218 DATE AS OF CHANGE: 20071218 FILER: COMPANY DATA: COMPANY CONFORMED NAME: FAMILYMEDS GROUP, INC. CENTRAL INDEX KEY: 0000921878 STANDARD INDUSTRIAL CLASSIFICATION: WHOLESALE-DRUGS PROPRIETARIES & DRUGGISTS' SUNDRIES [5122] IRS NUMBER: 341755390 STATE OF INCORPORATION: NV FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-15445 FILM NUMBER: 071312478 BUSINESS ADDRESS: STREET 1: 312 FARMINGTON AVENUE CITY: FARMINGTON STATE: CT ZIP: 06032-1968 BUSINESS PHONE: 8606761222 MAIL ADDRESS: STREET 1: 312 FARMINGTON AVENUE CITY: FARMINGTON STATE: CT ZIP: 06032-1968 FORMER COMPANY: FORMER CONFORMED NAME: DRUGMAX INC DATE OF NAME CHANGE: 20011128 FORMER COMPANY: FORMER CONFORMED NAME: DRUGMAX COM INC DATE OF NAME CHANGE: 20000208 FORMER COMPANY: FORMER CONFORMED NAME: NUTRICEUTICALS COM CORP DATE OF NAME CHANGE: 19990629 10-Q 1 v097384_10q.htm Unassociated Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q

x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2007
 
OR
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
Commission File Number 1-15445
  
FAMILYMEDS GROUP, INC.
(Exact name of registrant as specified in its charter)
    
 
 NEVADA
 34-1755390
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
 
2 Bridgewater Road, Farmington, CT 06032
(Address of principal executive offices)
 
(860) 676-1222
(Registrant’s telephone number, including area code)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes   ¨     No   x
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934).
 
Large accelerated filer  ¨          Accelerated filer   ¨         Non-accelerated filer   x
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Securities Exchange Act of 1934).    Yes   ¨     No   x
 
As of November 15, 2007 there were 6,962,171 shares of common stock, par value $0.001 per share, outstanding.
 

 
FAMILYMEDS GROUP, INC. AND SUBSIDIARIES
FORM 10-Q
FOR THE THREE MONTHS ENDED JUNE 30, 2007
TABLE OF CONTENTS
 
 
Page No.
PART I - FINANCIAL INFORMATION
 
 
 
Item 1. Condensed Consolidated Financial Statements of Familymeds Group, Inc. and Subsidiaries
 
 
  
Condensed Consolidated Statement of Net Assets as of June 30, 2007 (Liquidation Basis) (unaudited)
 1
Condensed Consolidated Balance Sheet as of December 30, 2006 (Going Concern Basis) (unaudited)
2
Condensed Consolidated Statement of Changes in Net Assets for three months ended June 30, 2007 (Liquidation Basis) (unaudited)
 3
Condensed Consolidated Statements of Operations for three months ended March 31, 2007 and three and six months ended July 1, 2006 (unaudited)
 4
Condensed Consolidated Statements of Cash Flows for three months ended March 31, 2007 and six months ended July 1, 2006 (unaudited)
 5
Notes to (unaudited) Condensed Consolidated Financial Statements
 6
 
  
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
 16
 
  
Item 3. Quantitative and Qualitative Disclosures About Market Risk
 34
 
  
Item 4. Controls and Procedures
 34
 
  
PART II - OTHER INFORMATION
  
 
  
Item 1. Legal Proceedings
 34
 
  
Item 1A. Risk Factors
 34
 
  
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 
 35
 
  
Item 3. Default upon Senior Securities
 35
 
  
Item 4. Submission of Matters to a Vote of Security Holders
 35
 
  
Item 5. Other Information
 35
 
  
Item 6. Exhibits
36
 
  
SIGNATURES
 37
 
i

PART I - FINANCIAL INFORMATION
 
Item 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 
FAMILYMEDS GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF NET ASSETS AS OF JUNE 30, 2007 (LIQUIDATION BASIS)
(in thousands)
(unaudited)

 
  
June 30, 2007
 
ASSETS 
      
Cash and cash equivalents
  
$
20,147
  
Restricted cash
    
3,000
 
Trade receivables, net of allowance for doubtful accounts of approximately $3,733
    
3,983
 
Inventories, net
    
1,946
 
Prepaid expenses and other assets
    
2,114
 
         
Property and equipment, net of accumulated depreciation and amortization of approximately $9,009
    
395
 
         
Intangible assets, net of accumulated amortization of approximately $4,246
    
72
 
         
TOTAL ASSETS
    
31,657
 
         
LIABILITIES
        
         
Notes payable
    
10,000
 
Promissory notes payable
    
121
 
Accounts payable
    
10,214
 
Accrued expenses
    
3,388
 
Other liabilities
    
37
 
         
TOTAL LIABILITIES
    
23,760
 
         
COMMITMENTS AND CONTINGENCIES
    
-
 
         
NET ASSETS IN LIQUIDATION
  
$
7,897
  
       
See notes to condensed consolidated financial statements.
        
 
1

FAMILYMEDS GROUP, INC. AND SUBSIDIARIES 
CONDENSED CONSOLIDATED BALANCE SHEET AS OF DECEMBER 30, 2006 (GOING CONCERN BASIS) 
(in thousands, except share data) 
(unaudited) 
 
 
  
December 30, 2006
 
ASSETS 
      
CURRENT ASSETS:
        
Cash and cash equivalents
  
$
845
  
Trade receivables, net of allowance for doubtful accounts of approximately $3,720
    
16,038
 
Inventories, net
    
22,417
 
Prepaid expenses and other current assets
    
1,553
 
         
Total current assets
    
40,853
 
         
PROPERTY AND EQUIPMENT—Net of accumulated depreciation and amortization of approximately $14,502
    
6,269
 
 
        
INTANGIBLE ASSETS—Net of accumulated amortization of approximately $20,657
    
1,289
 
         
OTHER NONCURRENT ASSETS
    
750
 
         
TOTAL ASSETS
  
$
49,161
  
         
LIABILITIES AND STOCKHOLDERS’ DEFICIT
        
         
CURRENT LIABILITIES:
        
Notes payable, net of discount of $2,247
  
$
6,753
  
Promissory notes payable
    
76
 
Revolving credit facility
    
37,467
 
Accounts payable
    
14,843
 
Accrued expenses
    
4,269
 
Other current liabilities
    
59
 
         
Total current liabilities
    
63,467
 
         
COMMITMENTS AND CONTINGENCIES
        
         
STOCKHOLDERS’ DEFICIT:
        
Series A convertible preferred stock, $1,000 par value, 500,000 authorized and none outstanding
   
-
 
Common stock, $.001 par value, 200,000,000 shares authorized; 6,962,821 shares issued and outstanding
    
67
 
Additional paid in capital
    
230,949
 
Accumulated deficit
    
(245,322
)
         
Total stockholders’ deficit
    
(14,306
)
         
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT
 
$
49,161
  
         
See notes to condensed consolidated financial statements.
        
 
2

FAMILYMEDS GROUP, INC. AND SUBSIDIARIES 
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN NET ASSETS (LIQUIDATION BASIS)
(in thousands) 
(Unaudited) 

   
Period from
April 1 to
  
   
June 30, 2007
  
       
NET REVENUES
  
$
19,927
  
         
COST OF SALES
    
17,265
 
         
Gross margin
    
2,662
 
         
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
    
11,638
 
DEPRECIATION AND AMORTIZATION EXPENSE
    
360
 
         
OPERATING LOSS
    
(9,336
)
         
OTHER INCOME (EXPENSE):
        
Interest expense
    
(2,573
)
Interest income
    
18
 
Other income
    
18
 
         
Total other expense, net
    
(2,537
)
         
NET LOSS
    
(11,873
)
         
SHAREHOLDERS' DEFICIT AT MARCH 31, 2007
    
(14,907
)
         
Gain on liquidation of pharmacy assets
    
40,028
 
Adjustment to liquidation basis
    
(5,351
)
         
NET ASSETS IN LIQUIDATION, JUNE 30, 2007
  
$
7,897
  
         
See notes to condensed consolidated financial statements.
        
 
3

FAMILYMEDS GROUP, INC. AND SUBSIDIARIES     
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Going Concern Basis)    
(in thousands, except per share data)     
(Unaudited)     

   
Three Months
Ended
  
Three Months
Ended
  
Six Months
Ended
  
   
March 31, 2007
  
July 1, 2006
  
July 1, 2006
  
               
NET REVENUES
  
$
52,396
  
$
60,743
  
$
116,783
  
                 
COST OF SALES
    
42,626
   
48,870
   
93,995
 
                     
Gross margin
    
9,770
   
11,873
   
22,788
 
                     
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
    
11,963
   
14,454
   
27,441
 
GAIN ON SALE OF PHARMACY ASSETS
    
(3,100
)
  
-
   
-
 
DEPRECIATION AND AMORTIZATION EXPENSE
    
524
   
889
   
1,727
 
                     
OPERATING INCOME (LOSS)
    
383
   
(3,470
)
  
(6,380
)
                     
OTHER INCOME (EXPENSE):
                    
Gain on extinguishment of debt
    
-
   
13,086
   
13,086
 
Interest expense
    
(1,031
)
  
(1,407
)
  
(2,803
)
Interest income
    
-
   
31
   
41
 
Other income
    
-
   
1
   
60
 
                     
Total other income (expense), net
    
(1,031
)
  
11,711
   
10,384
 
                     
Income (loss) from continuing operations
    
(648
)
  
8,241
   
4,004
 
Loss from discontinued operations
    
-
   
(403
)
  
(222
)
NET INCOME (LOSS)
  
$
(648
)
$
7,838
  
$
3,782
  
                     
                     
BASIC INCOME (LOSS) PER COMMON SHARE:
                    
Income (loss) from continuing operations
  
$
(0.09
)
$
1.25
  
$
0.61
  
Loss from discontinued operations
    
-
   
(0.06
)
  
(0.03
)
Net income (loss)
  
$
(0.09
)
$
1.20
  
$
0.58
  
                     
FULLY DILUTED INCOME (LOSS) PER COMMON SHARE:
                    
Income (loss) from continuing operations
  
$
(0.09
)
$
1.24
  
$
0.61
  
Loss from discontinued operations
    
-
   
(0.06
)
  
(0.03
)
Net income (loss)
  
$
(0.09
)
$
1.19
  
$
0.58
  
                     
                     
WEIGHTED AVERAGE SHARES OUTSTANDING:
                    
Basic
    
6,963
   
6,606
   
6,597
 
Fully diluted
    
6,963
   
6,633
   
6,610
 
                     
See notes to condensed consolidated financial statements.
                    
 
4

FAMILYMEDS GROUP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Going Concern Basis)  
 
(in thousands)   
(Unaudited)   

   
Three Months
Ended
 
Six Months
Ended
 
   
March 31, 2007
  
July 1, 2006
  
CASH FLOWS FROM OPERATING ACTIVITIES:
              
Net income (loss)
  
$
(648
)
$
3,782
  
Adjustments to reconcile net income (loss) to net cash used in operating activities:
              
Depreciation and amortization
    
524
   
1,727
 
Stock compensation expense
    
47
   
301
 
Noncash interest expense
    
126
   
848
 
Amortization of deferred financing fees
    
76
   
124
 
Provision for doubtful accounts
    
286
   
(2
)
Gain on extinguishment of debt
    
-
   
(13,086
)
Gain on sale of pharmacy assets
    
(3,100
)
  
-
 
Effect of changes in operating assets and liabilities:
              
Trade receivables
    
2,248
   
(2,638
)
Inventories
    
2,223
   
3,332
 
Prepaid expenses and other current assets
    
54
   
518
 
Accounts payable
    
(1,932
)
  
4,265
 
Accrued expenses
   
(767
)
  
(374
)
Other
    
(4
)
  
(248
)
               
Net cash used in operating activities
    
(867
)
  
(1,451
)
               
CASH FLOWS FROM INVESTING ACTIVITIES:
              
Purchases of property and equipment
    
(147
)
  
(2,715
)
Purchases of pharmacy assets
    
-
   
(244
)
Proceeds from sale of pharmacy assets
    
5,130
   
-
 
 
              
Net cash provided by (used in) investing activities
    
4,983
   
(2,959
)
               
CASH FLOWS FROM FINANCING ACTIVITIES:
              
(Repayment of) proceeds from revolving credit facility, net
    
(4,107
)
  
1,988
 
Repayment of promissory notes payable
    
-
   
(1,209
)
Payment of deferred financing fees
          
(21
)
Proceeds from exercise of stock options
    
-
   
9
 
               
Net cash provided by (used in) financing activities
    
(4,107
)
  
767
 
               
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
    
9
   
(3,643
)
               
CASH AND CASH EQUIVALENTS—Beginning of period
    
845
   
6,681
 
               
CASH AND CASH EQUIVALENTS—End of period
  
$
854
  
$
3,038
  
               
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
              
Cash paid for interest
  
$
797
  
$
1,736
  
Noncash transactions—
              
Subordinated Convertible Debenture interest payments made in common stock
        
$
229
  
Retirement of ABDC subordinated notes payable
        
$
23,089
  
Issuance of subordinated notes payable to Deerfield
        
$
10,000
  
               
See notes to condensed consolidated financial statements.
              
 
5
 
FAMILYMEDS GROUP, INC. AND SUBSIDIARIES
Notes to (Unaudited) Condensed Consolidated Financial Statements
 
NOTE 1 - BUSINESS
 
1.
ASSET SALE, PLAN OF COMPLETE LIQUIDATION AND DISSOLUTION, BUSINESS, DISCONTINUED OPERATIONS AND GOING CONCERN
 
Familymeds Group, Inc. (“Familymeds,” the “Company,” or “we” and other similar pronouns) is a pharmacy and drug distribution provider formed by the merger on November 12, 2004 of DrugMax, Inc. and Familymeds Group, Inc.  Familymeds Group, Inc. was formerly known as DrugMax, Inc. and on July 10, 2006, the Company amended its Articles of Incorporation to change its name from DrugMax, Inc. to Familymeds Group, Inc. As of June 30, 2007, we operated 11 Company-owned locations including 9 pharmacies, one health and beauty location and one non-pharmacy mail order center.  The Company also franchises 7 pharmacies.   The Company’s pharmacies are located in 4 states and operate under the Familymeds Pharmacy and Arrow Pharmacy & Nutrition Center brand names. The Company reports on a 52-53 week fiscal year.  

Familymeds strategic plan had been to seek long term sustainable profits by increasing sales through organic growth, continued focus on same store sales growth and expansion of new pharmacies in clinic and Worksite settings. However, in light of the current competitive environment and the Company’s highly leveraged capital structure, the Board of Directors believed that the Company lacked the capital resources necessary in the long-term to compete effectively in its industry.  In an effort to maximize the value of the shareholders’ investment in the Company, the Board of Directors decided to examine certain financial and strategic alternatives to the Company remaining independent.
 
In October 2006, the Board of Directors retained JMP Securities LLC (“JMP Securities”) as its financial advisor to examine these alternatives and to contact certain potential strategic and financial partners with respect to a transaction with the Company.  With the Board of Directors frequent consultation and guidance throughout a process extending many months, management and JMP Securities considered a number of strategic alternatives for the Company and its business.  This included an analysis of the operating history and prospects for growth of the Company as a whole.
 
By December 2006, the Company received several written indications of interest and verbal expressions of continued interest.  The proposals were in the form of financing commitments, stock exchanges, and others in the form of asset purchases.   
 
On February 7, 2007, our Board of Directors approved the Asset Purchase Agreement and the Plan of Complete Liquidation and Dissolution of the Company.  Its decision was based on a review of the Company’s past performance, projected future growth, ongoing liquidity constraints, vendor relations, industry outlook, and strategic alternatives.

Plan of Complete Liquidation and Dissolution

As discussed above, Familymeds’ Board of Directors approved the proposed Plan of Complete Liquidation and Dissolution of Familymeds (referred to herein as the “Plan of Complete Liquidation and Dissolution”) on February 7, 2007, subject to the approval of its shareholders which was obtained at the Special Meeting held March 30, 2007.

The Plan of Complete Liquidation and Dissolution provides that upon its approval by its shareholders, the Board of Directors, without further action by the Company’s shareholders, may:
 
 
·
Dissolve Familymeds;
 
6

 
·
liquidate the Company’s assets;
 
 
·
pay, or provide for the payment of, any remaining, legally enforceable obligations of Familymeds; and
 
 
·
distribute any remaining assets to the Company’s shareholders.

Therefore, effective April 1, 2007, the Company adopted the liquidation basis of accounting (“Liquidation Basis”) and the financial statements as of June 30, 2007 and for the period from April 1, 2007 to June 30, 2007 have been prepared on the liquidation basis. Accordingly, assets have been valued at estimated net realizable value and liabilities include estimate costs associated with carrying out the plan of liquidation. Upon adoption of Liquidation Basis the Company recorded adjustments to convert from the going concern basis to the Liquidation Basis which resulted in a decrease in carrying value of $4.8 million which is included in the condensed consolidated statement of changes in net assets for the period from April 1, 2007 to June 30, 2007. The adjustment was comprised of the following (in 000’s):
 
Adjust balance of notes payable to Deerfield
  
$
1,000
  
Write down intangible and other long lived assets to their net realizable value
    
2,455
  
Accrual of legal settlements/wind-up costs
    
1,315
  
Income tax provision
    
581
  
Net adjustment to adopt liquidation basis of accounting
  
$
5,351
  

The condensed consolidated balance sheet as of December 30, 2006 and the condensed consolidated statements of operations for the three months ended March 31, 2007 and the three and six months ended June 30, 2006 have been prepared using the going concern basis of accounting on which the Company had previously reported its financial condition and its results of operations.

Asset Sale

On February 14, 2007, Familymeds Group, Inc. together with its wholly owned subsidiaries Familymeds, Inc. and Arrow Prescription Corp., entered into an Asset Purchase Agreement with Walgreen Co., an Illinois corporation, Walgreen Eastern Co., Inc., a New York corporation (together with Walgreen Co., “Walgreens”), pursuant to which the Company sold 54 of our locations and related assets to Walgreens (the “Asset Sale”). Of the 54 locations, 33 of the clinic and Worksite locations will remain open and continue to operate in place. In connection with the Asset Sale, which was consummated during the second quarter of 2007, the Company received proceeds of $58.5 million which included $14.9 million for the value of inventories and reimbursement for certain occupancy costs related to those locations. The gain on the Asset Sale was approximately $40.0 million and is included as a component of gain on liquidation of pharmacy assets in the condensed consolidated statement of changes in net assets for the period from April 1, 2007 to June 30, 2007. $3.0 million of the purchase price was placed into escrow and is presented as restricted cash in the accompanying condensed consolidated statement of net assets as of June 30, 2007. The restrictions on this cash balance will be released at the earlier of one year from the date of closing or the final distribution of assets to the Company’s shareholders or dissolution of Familymeds.

In addition to the asset sale, during the first quarter of 2007 the Company sold 11 other locations for proceeds $3.5 million, resulting in a gain of $3.1 million which is included as a component of gain on sale of pharmacy assets in the condensed consolidated statement of operations for the three months ended March 31, 2007.
 
7

Overview of Business- On March 19, 2004, Familymeds Group, Inc. (“FMG”) entered into an Agreement and Plan of Merger which was amended on July 1, 2004 and on October 11, 2004 (as amended, the “Merger Agreement”) with DrugMax, Inc. (“DrugMax”). Under the terms of the Merger Agreement, on November 12, 2004, FMG merged into DrugMax, and DrugMax became the surviving corporation in the merger (the “Merger”). The Merger was treated as a purchase of DrugMax by FMG for accounting purposes. Accordingly, for periods prior to the Merger, the information contained herein is the historical information of FMG. On July 10, 2006, DrugMax changed its name back to Familymeds Group, Inc,
 
The results of operations acquired in the merger have been included in the Company’s consolidated statements of operations (primarily in discontinued operations as described below).
 
During fiscal year ended December 31, 2005, the Company operated two drug distribution facilities: Valley Drug Company and Valley Drug Company South. During the third quarter of 2005, the Company determined that it would sell certain assets of the drug distribution business and eliminate operations conducted out of the New Castle, Pennsylvania facility and the St. Rose, Louisiana facility related to the distribution to independent pharmacies. Accordingly, since October 1, 2005, the Company considered substantially all of the wholesale distribution business as discontinued operations for financial statement presentation purposes.

There were no net revenues related to the discontinued operations for the three months ended June 30, 2007 and April 1, 2006, respectively.  The loss from discontinued operations was $0.0 million and $0.4 million for the three months ended March 31, 2007 and July 1, 2006, respectively.
 
NOTE 2 - PER SHARE INFORMATION

The computations of basic and diluted net loss per common share are based upon the weighted average number of common shares outstanding and potentially dilutive securities. Potentially dilutive securities would include all-in-the money stock options and warrants.  All outstanding options and warrants to purchase shares of common stock were excluded from the March 31, 2007 computations of diluted net loss per common share because they were out of the money and inclusion of such shares would have been anti-dilutive had they have been in the money. Options and warrants to purchase 249,090 and 285,717 shares of common stock, respectively, were included in the July 1, 2006 computations of diluted net income per common share.
 
NOTE 3 - STOCK BASED COMPENSATION
 
In December 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS 123(R), “Share-Based Payment (as amended).” SFAS No. 123(R) eliminates the alternative to use the intrinsic value method of accounting that was provided in SFAS No. 123, which generally resulted in no compensation expense recorded in the financial statements related to the issuance of equity awards to employees. SFAS No. 123(R) requires that the cost resulting from all share-based payment transactions be recognized in the financial statements. SFAS No. 123(R) establishes fair value as the measurement objective in accounting for share-based payment arrangements and requires all companies to apply a fair-value-based measurement method in accounting generally for all share-based payment transactions with employees and was adopted by the Company on January 1, 2006.
 
Share Based Compensation Plans
 
As of June 30, 2007, we have two share-based compensation plans, which are described below.
 
8

The DrugMax, Inc. 1999 Incentive and Non-Statutory Stock Option Plan permits the granting of stock options to purchase shares of common stock up to a total of 600,000 shares. The exercise price per share of common stock covered by an option may not be less than the par value per share on the date of grant, and in the case of an incentive stock option, the exercise price may not be less than the market value per share on the date of grant. The terms of any option grants are established by the Board of Directors and / or compensation committee, subject to the requirements of the plan, but, generally, these options vest over a three year period at a rate of 33% each year. The Plan will expire on the earlier of the completion of the plan of liquidation or August 13, 2009. Options were issued to non-employee directors under this plan.
 
Each outside Director is issued an option to purchase 1,000 shares of common stock annually each year following his or her election to the Board of Directors. Each outside Director who serves as a member of a committee is issued an option to purchase 500 shares of the Company’s common stock annually. The chairperson of each committee, other than the Audit Committee, is issued an option to purchase an additional 500 shares of common stock annually. The chairperson of the Audit Committee and the Chairman of the Board shall receive an option to purchase 1,000 shares of the Company’s common stock annually. The foregoing options are granted under the Company’s 1999 Incentive and Non-Statutory Stock Option Plan. The exercise price for the options is determined as of the annual shareholders meeting of each year.
 
The DrugMax, Inc. 2003 Restricted Stock Plan permits the granting of shares of restricted common stock up to a total of 350,000 shares. The Board of Directors determines the price, if any, on the date of grant. The Plan will expire on the earlier of the completion of the plan of liquidation or August 27, 2013. Restricted shares are issued to non-employee directors under this plan.
 
The Company uses the Black-Scholes option-pricing model to calculate the fair value of options. The key assumptions for this valuation method include the expected term of the option, stock price, volatility, risk-free interest rate, dividend yield and exercise price. Many of these assumptions are judgmental and highly sensitive in the determination of compensation expense. Under the assumptions indicated below, there were no option grants during the three months ended June 30, 2007 and the weighted-average fair value for each option granted during the three months ended July 1, 2006 was $4.40. The table below indicates the key assumptions used in the option valuation calculations for options granted in the three months ended July 1, 2006 and a discussion of our methodology for developing each of the assumptions used in the valuation model:. 
 
 
  
Three Months 
Ended 
July 1,
2006
  
Risk-free interest rate
    
4.94-4.97
%
Expected life
    
3 years
  
Volatility
    
80
%
Dividend yield
    
-
%
 
 Term - This is the period of time over which the options granted are expected to remain outstanding. Options granted have a maximum term of ten years. An increase in the expected term will increase compensation expense.
 
Volatility - This is a measure of the amount by which a price has fluctuated or is expected to fluctuate. Volatilities are based on implied volatilities from traded options of the Company’s shares, historical volatility of the Company’s shares, and other factors, such as expected changes in volatility arising from planned changes in the Company’s business operations. An increase in the expected volatility will increase compensation expense.
 
9

Risk-Free Interest Rate - This is the U.S. Treasury rate on the date of the grant having a term equal to the expected term of the option. An increase in the risk-free interest rate will increase compensation expense.
 
Dividend Yield - We have never made any dividend payments and we have no plans to pay dividends in the foreseeable future. An increase in the dividend yield will decrease compensation expense.
 
The following table summarizes information about our stock option plan for the six months ended June 30, 2007. 
 
 
  
Number of
Options
  
Weighted
Average
Exercise
Price
  
Weighted  
Average 
Remaining 
Contractual
life
  
Weighted  
Average 
Fair Value
  
Balance, December 30, 2006
    
390,907
  
$
11.61
    
8.1 years
 
$
18.24
  
Granted
    
-
    
-
    
-
   
-
 
Exercised
    
-
    
-
    
-
   
-
 
Forfeited
    
7,180
    
17.98
        
6.71
 
 
                    
Options outstanding, June 30, 2007
    
383,727
  
$
11.49
    
7.6 years
 
$
18.46
  
 
                    
Options exercisable, June 30, 2007
    
304,205
  
$
11.79
    
7.9 years
 
$
21.93
  
 
As of June 30, 2007, there was $0.0 million of total unrecognized compensation cost related to stock options. There was no cash received from stock option exercises for the three months and six months ended June 30, 2007. There were no income tax benefits from share based arrangements.
 
Share based compensation expense was $0.6 million and $0.7 million for the three and six months ended June 30, 2007, respectively, and was $0.2 million and $0.4 million for the three and six months ended July 1, 2006, respectively.

The following table summarizes information about restricted stock awards issued under the 2003 Restricted Stock Plan for the three months ended June 30, 2007:
 
 
  
Shares
 
Weighted
Average
Grant-Date
Fair Value
 
 
  
   
 
     
 
Non Vested Balance at December 30, 2006
    
42,825
  
$
10.46
  
Granted
    
-
    
-
  
Vested
    
9,667
    
14.29
  
 
          
Non Vested Balance at June 30, 2007
    
33,158
  
$
9.34
  
 
As of June 30, 2007, there was $0.0 million of total unrecognized compensation costs related to restricted stock awards. At June 30, 2007, an aggregate of 382,192 shares of common stock remained available for future grants under our stock plans, which cover restricted stock awards and stock options. We issue shares to satisfy stock option exercises and restricted stock awards.
 
10

NOTE 4 - INTANGIBLE ASSETS
 
The carrying value of intangible assets is as follows (in thousands):
 
 
  
June 30,
2007
  
December 30,
2006
  
 
  
Gross
Carrying
Amount
  
Accumulated
Amortization
  
Gross
Carrying
Amount
  
Accumulated
Amortization
  
Prescription files
  
$
4,318
  
$
(4,246
)
$
21,946
  
$
(20,657
)
 
The prescription files remaining as of June 30, 2007 are expected to be sold in connection with the plan of liquidation and the weighted average amortization period for these intangible assets is approximately 1 year. Amortization expense related to intangible assets was approximately $0.1 million and $0.5 million for the three months ended June 30, 2007 and July 1, 2006, respectively. Amortization expense related to intangible assets was approximately $0.3 million and $1.1 million for the six months ended June 30, 2007 and July 1, 2006, respectively.
 
NOTE 5 —DEBT
 
Debt consists of the following (amounts in thousands):

 
  
June 30,
2007
  
December 30,
2006
  
Revolving credit facility
  
$
-
  
$
37,467
  
Promissory notes payable
    
121
    
76
  
Subordinated notes payable, net of discount of $2,247 at December 30, 2006
    
10,000
    
6,753
  
Total
  
$
10,121
  
$
44,296
  

Credit Facility

On October 12, 2005, the Company entered into a Loan and Security Agreement with Wells Fargo Retail Finance, LLC (“WFRF”), pursuant to which WFRF will provide the Company with a senior secured revolving credit facility up to $65.0 million (the “New Credit Facility”). On that same date the Company terminated its $65.0 million Amended and Restated Credit Agreement with General Electric Capital Corporation (“GECC”) and in connection therewith repaid all outstanding amounts due under the credit facility to GECC along with a $0.5 million termination fee. The $65.0 million of maximum availability under the New Credit Facility is reduced by a $7.0 million reserve. Available credit is based on eligible receivables, inventory and prescription files, as defined in and determined pursuant to the agreement, and may be subject to reserves as determined by the lender from time to time. Interest on the revolving line of credit is calculated at the prime index rate plus an applicable prime margin (as defined in the agreement), unless the Company or the lender chooses to convert the loan to a LIBOR-based loan. In each case, interest is adjusted quarterly. The applicable prime index margin as of June 30, 2007 and December 30, 2006 was 8.25% and 8.25%, respectively. As of June 30, 2007 and December 30, 2006, the interest rate, including applicable margin, used to calculate accrued interest was 8.5% and 8.5%, respectively. Interest is payable monthly.

The New Credit Facility included usual and customary events of default (subject to applicable grace periods) for facilities of this nature and provides that, upon the occurrence of an event of default, payment of all amounts payable under the New Credit Facility may be accelerated and/or the lenders’ commitments may be terminated. In addition, upon the occurrence of certain insolvency or bankruptcy related events of default, all amounts payable under the New Credit Facility shall automatically become immediately due and payable, and the lenders’ commitments shall automatically terminate. The New Credit Facility does not include any financial covenants.

11

The New Credit Facility includes an early termination fee of $0.7 million if paid in full before October 12, 2008. The New Credit Facility is secured by substantially all assets of the Company.

In connection with the Walgreens’ Asset Sale, Wells Fargo Retail Finance, LLC, as agent for the revolving credit lenders pursuant to the Loan and Security Agreement dated as of October 12, 2005 (as amended, modified, supplemented or restated and in effect from time to time, the “Loan Agreement”) among (i) Familymeds Group, Inc. (f/k/a Drugmax, Inc.), as Lead Borrower, (ii) the other Borrowers party thereto from time to time, (iii) the Revolving Credit Lenders party thereto from time to time, (iv) and Wells Fargo, has consented to the Asset Sale and the consummation of the sale, subject to various terms and conditions. Among those conditions, we agreed that all proceeds received by us from the sale shall be paid to Wells Fargo for application to the credit facility until all amounts due under the facility are paid in full and the Loan Agreement is terminated. Each such payment of proceeds applied to the credit facility shall permanently reduce the commitments in the amount of such payment.
   
On May 11, 2007, in connection with the Asset Sale, the Company paid all amounts outstanding and terminated its $65 million Loan Agreement and in connection therewith repaid all outstanding amounts under the Loan Agreement along with a termination fee of $0.7 million. The termination fee is included as a component of interest expense in the accompanying condensed consolidated statement of changes in net assets.

Note and Warrant Purchase Agreement

On June 29, 2006, the Company entered into a Note and Warrant Purchase Agreement and certain other agreements, each effective as of June 23, 2006, with Deerfield Special Situations Fund, L.P. (“Deerfield L.P.”) and Deerfield Special Situations Fund International, Limited (“Deerfield International”), pursuant to which Deerfield L.P. and Deerfield International (collectively, “Deerfield”) purchased two secured promissory notes in the aggregate principal amount of $10.0 million (one note in the principal amount of $3.3 million and the second note in the amount of $6.7 million collectively the “Notes”) and eight warrants to purchase an aggregate of 1.65 million shares of Familymeds Group, Inc. common stock (the “Warrants”), for an aggregate purchase price of $10.0 million.

The $10.0 million purchase price for the Notes and Warrants was used entirely for an early repayment, settlement and termination of approximately $23.0 million in outstanding subordinated debt with Familymeds Group’s former supplier AmerisourceBergen Drug Corporation (“ABDC”). The subordinated debt with ABDC consisted of a subordinated convertible debenture in the original principal amount of $11.5 million and a subordinated promissory note in the original principal amount of $11.5 million. Both original debt instruments were 5-year agreements maturing in September 2010. In connection with the Deerfield transaction, Familymeds Group and ABDC entered into a payoff and mutual release agreement pursuant to which the parties agreed to settle and retire both existing debt instruments for a lump sum repayment of $10.0 million. Wells Fargo Retail Finance, LLC (“WFRF”), the Company’s senior lender, consented to Familymeds Group’s early repayment of the ABDC debt and waived any default under Familymeds Group’s credit facility with WFRF as a result of such repayment by entering into an amendment to such credit facility with Familymeds Group and its subsidiaries. . The Company extinguished the ABDC Notes on June 29, 2006 which resulted in a gain on the extinguishment of $13.1 million.

Principal on each of the Notes is due and payable in successive quarterly installments each in the amount of $0.17 million and $0.33 million, respectively, beginning on September 1, 2006 and on each December 1, March 1, June 1 and September 1 thereafter and continuing until June 23, 2011, on which date all outstanding principal and accrued and unpaid interest is due. The Notes bear interest at a rate equal to 2.5% for the first year, 5.0% for the second year, 10.0% for the third year, 15.0% for the fourth year and 17.5% for the fifth year. The Notes may be prepaid by the Company at anytime without penalty. Interest expense has been estimated over the five year period to be approximately $1.8 million (excludes the effect of amortization of the debt discount of $2.5 million discussed below) and due to the increasing interest rate on this debt, the Company records the average quarterly interest expense and record a corresponding asset or liability for the difference not currently payable each quarter. As of June 30, 2007, the Company has classified this liability as current as it expects to retire this obligation within 12 months of the balance sheet date.
 
12

In lieu of making any interest payments in cash during the first and second year of the Notes, the Company may issue and deliver to Deerfield shares of Company common stock.  Pursuant to an amendment in October 2006, such shares shall be issued annually and Deerfield shall not be able to transfer or sell such shares until such time as the quarterly interest payment represented by those shares shall become due. 

On December 15, 2006, the Company and Deerfield agreed pursuant to an amendment to the Notes and an investor rights agreement, that in lieu of making the December 1, 2006 principal payment in cash, the Company shall issue and deliver to Deerfield a number of shares of common stock, par value $0.001 per share, of Borrower equal to 269,059.

The Notes contain usual and customary events of default for notes of these dollar amounts and provide that, upon the occurrence of an event default, the entire outstanding principal balance and all interest accrued under each note shall immediately become due and payable without demand or notice to the Company.
 
The Notes are secured by subordinated security interests in substantially all of the assets of the Company and its subsidiaries, Familymeds, Inc. and Valley Drug Company South (“Valley South”). These subordinated security interests are evidenced by three security agreements: (i) a Security Agreement between the Company and Deerfield L.P., as agent for Deerfield (the “Agent”), (ii) a Security Agreement between Familymeds, Inc. and the Agent, and (iii) a Security Agreement between Valley South and the Agent (collectively, the “Security Agreements”). The Security Agreements are expressly subordinated to the prior lien rights of WFRF pursuant to the Company’s existing credit facility with WFRF. Both Familymeds and Valley South have entered into guaranty agreements pursuant to which they have guaranteed all of the obligations of the Company under the Notes.

In connection with the issuance of these Notes, 1.65 million of stock warrants were issued as follows: warrants for 0.30 million common shares were issued at an exercise price of $6.10 per share; warrants for 0.55 million common shares were issued at an exercise price of $7.50 per share; warrants for 0.55 million common shares were issued at an exercise price of $7.80 per share; and warrants for 0.25 million common shares were issued at an exercise price of $9.20 per share. Proceeds from each warrant exercised by Deerfield will be used to equally repay the Notes and for the working capital needs of the Company. All of the Warrants are exercisable for a period of five years from the closing date.

On June 29, 2006, in accordance with Accounting Principles Board (“APB”) Opinion No. 14 “Accounting for Convertible Debt and Debt Issued with Stock Purchase Warrants,” the Company allocated the proceeds received between the debt and the detachable warrants based upon the relative fair market values on the dates the proceeds were received. The net value allocated to the warrants was $2.5 million and was determined using the Black-Scholes option pricing formula. The $2.5 million has been recorded as debt discount and will be amortized over the life of the related debt using the effective interest method. The effective interest rate on the Notes, after giving effect to the amortization of the debt discount is approximately 17.0% annually.

NOTE 6 - INCOME TAXES
 
The Company recorded income tax expense of $0.6 million for the period from April 1, 2007 to June 30, 2007. This was based on alternative minimum tax calculations that result in tax liability on the gain on the sale of the Company’s assets despite the net operating losses available to offset such income and is included as a component of the adjustment to convert to Liquidation Basis included in the accompanying condensed consolidated statement of changes in net assets. No income tax expense had been recorded during three months ended March 31, 2007 and the three and six months ended July 1, 2006 due to the significant net operating losses available to the Company to offset such net income. The Company had established a valuation allowance on all of its deferred tax assets due to the uncertainty of their realization.
 
13

On December 31, 2006, the Company adopted the Financial Accounting Standards Interpretation No. 48, “Accounting for Uncertainty in Income Taxes,” (“FIN 48”) an interpretation of Financial Accounting Standards Statement No. 109, “Accounting for Income Taxes.” FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The interpretation requires that the Company recognize in the financial statements, the impact of a tax position, if that position is more likely than not of being sustained on audit, based on the technical merits of the position. FIN 48 also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods and disclosure. The adoption of FIN 48 had no material impact on its financial position or results of operations as a full valuation allowance has been established.

NOTE 7- CONTINGENCIES
 
Prior to fiscal 2006, the Company’s drug distribution operations operated out of two locations, one in New Castle, Pennsylvania and one in St. Rose, Louisiana.  The Pennsylvania operations were located at 209 Green Ridge Road, New Castle, Pennsylvania 16105, a facility consisting of approximately 45,000 square feet of office, warehouse, shipping and distribution space. Valley Drug Company (“Valley North”) leased this premises from Becan Development LLC (“Becan”), a company owned by a current director of the Company (Jugal Taneja) and certain former directors, officers and employees of the Company. The original lease (dated December 30, 2003) (the “Original Lease”) provided for a term of 15 years, expiring December 30, 2018, and monthly lease payments of $17,000.  When the Original Lease was executed, Becan and Valley North entered into a Consent, Subordination and Assumption Agreement (the “Guarantee”) with the Pennsylvania Industrial Development Authority (“PIDA”) and Regional Industrial Development Corporation of Southwest Pennsylvania (“RIDC”) dated December 30, 2003, pursuant to which, among other things, Becan and Valley North, jointly and severally, assumed all obligations of RIDC to make payments and discharge all obligations expenses, costs and liabilities of RIDC in connection with the PIDA note (the “PIDA Note”). The PIDA Note is also secured by the Original Lease and the property.

In connection with the sale of the business operated out of the Pennsylvania facility to Rochester Drug Cooperative (“RDC”) (the “Asset Sale”), Becan and Valley North agreed to shorten the lease to five years ending, December 2010, and to sublease the premises to RDC. It was the intent of the parties at that time to assign the lease to RDC upon the consent to such assignment by PIDA. RDC held back $0.3 million of the purchase price related to the Asset Sale pending receipt of PIDA’s consent.  PIDA recently agreed to consent to the assignment of the lease to RDC subject to the preparation of final documents, including documents evidencing the parties agreement to shorten the maturity of the PIDA Note to five years ending December 2010; but, during October 2006, RDC notified PIDA that it was withdrawing its application to PIDA and that it was no longer willing to assume the lease. Contemporaneously with its notice to PIDA, RDC notified the Company that it refused to pay the $0.3 million holdback to Valley because of the delays in obtaining the PIDA consent. RDC has signed a sublease for the property and remains legally responsible for the lease payments. In October 2006, the Company filed a demand for arbitration claiming RDC has acted in bad faith and demanding $0.3 million. Becan and its principals, including Mr. Taneja, indemnified Valley North and the Company against any claims or demands PIDA may bring against Valley or the Company in connection with the PIDA Note and will use their best efforts to have Valley released from all obligations under the PIDA Note.
 
As of June 30, 2007 and December 30, 2006, the Company had not recorded any liabilities related to the Guarantee. However, should the Company be required to perform under the terms of the Guarantee, the Company would be required to pay all amounts owed under the PIDA Note, which as of June 30, 2007 was approximately $0.8 million. The Company believes it will not be required to perform under the terms of the Guarantee. Further any requirement to perform under the Guarantee would be mitigated by the indemnification by Becan and its principals. Additionally, management believes, the fair value of the Pennsylvania facility that could be realized upon the sale of the facility exceeds the amounts outstanding on the PIDA Note and the other loans related to the premises.

14

NOTE 8 – DEPARTURES OF PRINCIPAL OFFICERS AND DIRECTORS

In accordance with the plan of liquidation and dissolution, during the quarter several officers and directors either resigned or were involuntarily terminated. Severence payments in the amount of $2.0 million are included in the statement of changes in net assets as part of selling, general and administrative expenses.

 NOTE 9 – SUBSEQUENT EVENTS

Sale of Pharmacy Assets
 
On August 27, 2007, the Company completed a sale of certain assets to Pharmacy Management Group LLC, a Mississippi Limited Liability Company (“PMG”). Under the terms of the sale transaction, the Company sold to PMG the pharmacy assets of five Mississippi pharmacies and one Alabama pharmacy operating under the brand name Familymeds for total consideration of approximately $2.6 million. Of the total approximate $2.6 million purchase price, the Company received approximately $2.1 million in cash and approximately $0.5 million in a secured promissory note payable over 24 months with a balloon payment in the 24th month.
 
Payoff of Deerfield Notes
 
As previously disclosed, the Company previously entered into a Note and Warrant Purchase Agreement and certain other agreements, each effective as of June 23, 2006, with Deerfield Special Situations Fund, L.P. (“ Deerfield L.P.”) and Deerfield Special Situations Fund International, Limited (“ Deerfield International”), pursuant to which Deerfield L.P. and Deerfield International (collectively, “ Deerfield”) purchased two secured promissory notes in the aggregate principal amount of $10.0 million (collectively the “Notes”) and eight warrants to purchase an aggregate of 1.65 million shares of common stock (the “Warrants”), for an aggregate purchase price of $10.0 million (the “Deerfield Investment”). Also as previously disclosed: (a) as of March 31, 2007, the Company classified the Notes as current as it expected to retire the Notes within 12 months of such date in connection with its plan of complete liquidation; (b) the Notes may be prepaid by the Company at anytime without penalty and (c) with Deerfield’s agreement, the Company did not make the March 1, 2007 or June 1, 2007 principal payments on the Notes in anticipation of the early repayment of the Notes. In accordance with the forgoing, on July 24, 2007, the Company fully satisfied the Notes by paying to Deerfield $9.750 million in cash and delivered $250,000 into a secured, segregated cash collateral account, which funds will be released to Deerfield in 12 equal monthly amounts. Deerfield and the Company have terminated all agreements related to the Deerfield Investment and released each other from all obligations and claims related thereto.
 
Payment of Liquidating Distribution
 
Effective July 31, 2007, the Company filed a certificate of dissolution with the Nevada secretary of state. At that date the Company’s stock transfer books were closed, and shareholders of record on that date will be entitled to all liquidating distributions paid by the Company.
 
On August 10, 2007, an initial liquidating distribution was made to shareholders of record in the amount of $0.70 per share for a total of $4.8 million.
 
15

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
 
The following Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our unaudited condensed consolidated financial statements and the related notes found elsewhere in this Form 10-Q. This discussion, as well as the notes to our unaudited condensed consolidated financial statements, contain forward-looking statements based upon our current expectations that involve risks and uncertainties, such as our plans, objectives, expectations and intentions, as set forth under “Cautionary Statement Regarding Forward-Looking Statements.” Our actual results and the timing of events could differ materially from those anticipated in these forward-looking statements as a result of many factors.

On February 7, 2007, our Board of Directors approved the sale of the majority of its pharmacy assets and a Plan of Complete Liquidation and Dissolution of the Company.  Its decision was based on a review of the Company’s past performance, projected future growth, ongoing liquidity constraints, vendor relations, industry outlook, and strategic alternatives.

On February 14, 2007, Familymeds Group, Inc. (“Familymeds”) together with its wholly owned subsidiaries Familymeds, Inc. and Arrow Prescription Corp., entered into an Asset Purchase Agreement with Walgreen Co., an Illinois corporation, Walgreen Eastern Co., Inc., a New York corporation (together with Walgreen Co., “Walgreens”), pursuant to which we will, subject to certain terms and conditions, sell up to 53 of the Company’s locations and related assets to Walgreens (the “Asset Sale”). The Company intends to sell the remaining assets to several other national and regional pharmacy operators.

On March 30, 2007, Familymeds Group, Inc.’s shareholders voted to approve the Asset Sale. Shareholders also voted to approve and adopt a plan of complete liquidation and dissolution of the Company and the transactions contemplated thereby pursuant to which the Company will be dissolved and liquidated
 
Cautionary Statement Concerning Forward-Looking Statements
 
This Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Familymeds bases these forward-looking statements on its expectations and projections about future events, which Familymeds has derived from the information currently available to it. In addition, from time to time, Familymeds or its representatives may make forward-looking statements orally or in writing. Furthermore, forward-looking statements may be included in Familymeds’ filings with the United States Securities and Exchange Commission or press releases or oral statements made by or with the approval of one of Familymeds’ executive officers. For each of these forward-looking statements, Familymeds claims the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. These forward-looking statements relate to future events or Familymeds’ future performance, including but not limited to:
 
 
·
expected closing and timing of the closing of Familymeds’ anticipated asset sales and liquidation;
 
 
·
expected cash to be received from the asset sales and cash to be disbursed to settle our obligations and liabilities, both known and unknown;
 
 
·
expected cash distributions to shareholders amounts and the timing of these distributions;
 
 
·
expected expenses in connection with the asset sales and the liquidation;
 
 
·
possible or assumed future results of operations; and
 
 
·
future revenue and earnings.
 
16

Forward-looking statements are those that are not historical in nature, particularly those that use terminology such as may, could, will, should, likely, expects, anticipates, contemplates, estimates, believes, plans, projected, predicts, potential or continue or the negative of these or similar terms. The statements contained in this Form 10-Q that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding Familymeds’ expectations, beliefs, intentions or strategies regarding the future. Forward-looking statements are subject to certain known and unknown risks and uncertainties that could cause actual results to differ materially from those expressed in any forward-looking statements. These risks and uncertainties include, but are not limited to, the following important factors with respect to Familymeds:
 
 
·
the satisfaction of conditions to complete the asset sales, regulatory approvals and third party consents;
 
 
·
 the amount of costs, fees and expenses related to the asset sales, interim operations, sales of the other remaining assets, and subsequent liquidation and dissolution of Familymeds;
 
 
·
the uncertainty of general business and economic conditions;
 
 
·      
the amount to be recovered for inventories and other assets and the amount collected from accounts receivable and the amount paid to settle our obligations and liabilities;
 
 
·
the loss of key personnel including pharmacists;
 
 
·
the impact of competition, both expected and unexpected;
 
 
·
adverse developments, outcomes and expenses in legal proceedings; and
 
 
·
other risk factors as further described in this Form 10-Q.

Forward-looking statements are only predictions as of the date they are made and are not guarantees of performance. All forward-looking statements included in this document are based on information available to Familymeds on the date of this Form 10-Q. Readers are cautioned not to place undue reliance on forward-looking statements. The forward-looking events discussed in this Form 10-Q and other statements made from time to time by Familymeds or its representatives may not occur, and actual events and results may differ materially and are subject to risks, uncertainties and assumptions about Familymeds including without limitation those discussed elsewhere in this Form 10-Q and the risks discussed in our United States Securities and Exchange Commission filings. Except for its ongoing obligations to disclose material information as required by the federal securities laws, Familymeds is not obligated to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise.

Recent Developments - Plan of Liquidation

On February 7, 2007, our Board of Directors approved the sale of a majority of our pharmacy assets (the “Asset Sale”) to Walgreen Co., an Illinois corporation, and Walgreen Eastern Co., Inc., a New York corporation (collectively, “Walgreens”) and a related plan of complete liquidation and dissolution of the Company (the “Plan of Complete Liquidation and Dissolution”) based upon a review of our past performance, projected future growth, ongoing liquidity constraints, vendor relations, industry outlook, and strategic alternatives. At a special meeting of shareholders held on March 30, 2007, our shareholders ratified the sale of a majority of our pharmacy assets and the Plan of Complete Liquidation and Dissolution.

17

Pursuant to the Plan of Complete Liquidation and Dissolution, as approved by our shareholders, our Board of Directors, without further action by our shareholders, may:
 
 
·
dissolve the Company;
 
 
·
liquidate our assets;
 
 
·
pay, or provide for the payment of, any remaining, legally enforceable obligations of the Company; and
 
 
·
distribute any remaining assets to our shareholders.

Since the approval of the Plan of Complete Liquidation and Dissolution by our shareholders on March 30, 2007, we have begun implementing the plan by attempting to sell our assets and satisfy our obligations. Among other things, on April 4, 2007, we began to the process of closing the Asset Sale to Walgreens. The Asset Sale to Walgreens will be completed on a staggered basis. The closing of the sale of all of the assets to Walgreens was completed by June 30, 2007. Through June 30, 2007, Walgreens has paid approximately $57.2 million in cash proceeds of which $3.0 million will be kept in escrow to satisfy our post-closing indemnification obligations, if any. The final $1.3 million due from Walgreens was received on July 20, 2007.

Pursuant to our Asset Purchase Agreement with Walgreens, dated February 14, 2007, we sold 54 of our locations and related assets to Walgreens. Of the 54 locations, 33 of the clinic and Worksite locations will remain open and continue to operate in place. As consideration for this sale, Walgreens assumed only certain of our liabilities, including certain automobile and real estate leases, and paid us approximately $58.5 million which included $14.9 million for and the value of inventories and reimbursement for certain occupancy costs related to those locations.

In connection with the Asset Sale, Wells Fargo Retail Finance, LLC, as agent for the revolving credit lenders pursuant to the Loan and Security Agreement dated as of October 12, 2005 (as amended, modified, supplemented or restated and in effect from time to time, the “Loan Agreement”) among (i) Familymeds Group, Inc. (f/k/a Drugmax, Inc.), as Lead Borrower, (ii) the other Borrowers party thereto from time to time, (iii) the Revolving Credit Lenders party thereto from time to time, (iv) and Wells Fargo, has consented to the Asset Sale and the consummation of the sale, subject to various terms and conditions. Among those conditions, we agreed that all proceeds received by us from the sale shall be paid to Wells Fargo for application to the credit facility until all amounts due under the facility are paid in full and the Loan Agreement is terminated. Each such payment of proceeds applied to the credit facility shall permanently reduce the commitments in the amount of such payment.

Additionally, as a result of its announcement to sell the majority of its assets and to execute its Plan of Complete Liquidation and Dissolution, the Company has started to lose key employees and certain account receivable have delayed payments to the Company. Further, while the Company continues to expect the final Walgreens transaction to close by the end of the second quarter of 2007 as previously disclosed, the Company has incurred delays in the staggered Walgreens closings.
 
These factors, coupled with delays in the sales of the Company’s remaining assets, currently are expected to result in (a) delays in implementing the Plan of Complete Liquidation and Dissolution, including delays in the initial distributions to shareholders, which initial distributions management previously estimated would take place by the end of the second quarter of 2007 but which actually took place on August 10, 2007 at a rate of $0.70 per share (b) lower than previously-estimated amounts being distributed to shareholders in connection with the Plan of Complete Liquidation and Dissolution, unless the Company is successful in selling its remaining assets at a greater value or recovering greater value through the reduction of its estimated liabilities, of which there can be no assurances.
 
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Management currently does not believe it can quantify the aggregate impact of these factors on the amount of the distribution to shareholders.

Additionally, we have begun to satisfy certain of our obligations and we have begun to reduce our credit facility with Wells Fargo from the proceeds received from the Asset Sale. On May 11, 2007, the Company terminated its $65 million Loan Agreement and in connection therewith repaid all outstanding amounts under the Loan Agreement along with a termination fee of $650,000.

In connection with the Plan of Liquidation and Dissolution, once the Asset Sale is completed, we intend to file a certificate of dissolution with the State of Nevada, dissolving the Company. Pursuant to Nevada law, we will continue to exist for two years after the dissolution becomes effective or for such longer period as the Nevada courts shall direct, for the purpose of prosecuting and defending suits against us and enabling us gradually to close our business, to dispose of our property, to discharge our liabilities and to distribute to our shareholders any remaining assets. See “Risk Factors.”

Additionally, we intend to close our stock transfer books and discontinue recording transfers of our common stock at the close of business on the date we file the certificate of dissolution with the Nevada Secretary of State, which we refer to as the “final record date.” Thereafter, certificates representing our common stock will not be assignable or transferable on our books except by will, intestate succession or operation of law. The proportionate interests of all of our shareholders will be fixed on the basis of their respective stock holdings at the close of business on the final record date, and, after the final record date, any distributions made by us will be made solely to the shareholders of record at the close of business on the final record date, except as may be necessary to reflect subsequent transfers recorded on our books as a result of any assignments by will, intestate succession or operation of law. See “Risk Factors.”

General Description of the Business

Familymeds Group, Inc. (“Familymeds,” the “Company,” or “we” and other similar pronouns) is a pharmacy and drug distribution provider formed by the merger on November 12, 2004 of DrugMax, Inc. and Familymeds Group, Inc.  Familymeds Group, Inc. was formerly known as DrugMax, Inc. and on July 10, 2006, the Company amended its Articles of Incorporation to change its name from DrugMax, Inc. to Familymeds Group, Inc. We are incorporated in the state of Nevada and our corporate offices are located at 2 Bridgewater Road, Farmington, CT 06032, telephone (860) 676-1222. As of June 30, 2007, we operated 11 Company-owned locations including 9 pharmacies, one health and beauty location and one non-pharmacy mail order center.  The Company also franchises 7 pharmacies.  During the first six months of 2007, we have sold 64 pharmacy locations and we expect to sell 6 additional locations by the end of the third quarter of 2007 pursuant to signed asset purchase agreements  Our pharmacies are located in 4 states and operate under the Familymeds Pharmacy and Arrow Pharmacy & Nutrition Center brand names.
 
As of June 30, 2007 the Company had Net Assets in Liquidation of $7.9 milliion, and at December 30, 2006, the Company had a net shareholders’ deficit of $14.3 million. On a going concern basis, the Company had net losses of $0.6 million, $7.2 million, $54.9 million and $39.8 million for the three months ended March 31, 2007 and for the years ended December 30, 2006, December 31, 2005, and January 1, 2005, respectively. 

On January 17, 2007, Familymeds received a letter from The NASDAQ Stock Market notifying Familymeds that NASDAQ had determined to delist Familymeds’ shares of common stock from the NASDAQ Capital Market effective as of the open of business on January 18, 2007 as a result of Familymeds failure to maintain compliance with 4310(c)(2)(B) (the requirement to maintain a minimum shareholders equity, market value of listed securities, or net income from continuing operations).
 
On January 18, 2007, Familymeds’ common stock began being quoted on the Over-the-Counter Bulletin Board, which we refer to as the “OTC Bulletin Board,” under the symbol “FMRX.OB.” The OTC Bulletin Board is a regulated quotation service that displays real-time quotes, last-sale prices and volume information in over-the-counter equity securities. As a result of our common stock being delisted from the Nasdaq Capital Market, your ability to resell your shares of our common stock could be adversely affected.
 
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General information, financial news releases and filings with the United States Securities and Exchange Commission, including annual and quarterly reports on Forms 10-K and 10-Q, current reports on Form 8-K, and all amendments to these reports are available free of charge on our website at www.Familymedsgroup.com or www.sec.gov.

Pharmacy Operations 

As of June 30, 2007, we operated 11 Company owned locations including 9 pharmacies, one home health center and one health and beauty location, in 4 states under the Familymeds Pharmacy and Arrow Pharmacy & Nutrition Center brand names. We have pharmacies which are located at the point of care between physicians and patients, oftentimes inside medical office buildings or on a medical campus. The balance of our locations are usually nearby medical facilities though more retail accessible.  

We operate our pharmacies under the trade names Familymeds Pharmacy (“Familymeds”) and Arrow Pharmacy and Nutrition Centers (“Arrow”). Familymeds is primarily used for pharmacies outside of New England. The Familymeds locations were primarily originated by acquiring the base pharmacy business from HMO’s, hospitals and regional independent operators. The locations are primarily clinic size with a small footprint, usually less than 1,500 sq. ft. The Arrow trade name is used in New England where most of the pharmacies were opened as a start-up or re-acquired from former Arrow franchise operators who opened these legacy pharmacy operations as start-ups. These locations are primarily apothecary size, approximately 2,000 sq. ft. and may be more visible as retail type locations, though primarily nearby hospitals or medical campus locations.

Our prior strategy also included offering our customers or patients multiple sales channels by which they can purchase our products. We offer them the opportunity to purchase a broad array of health-related products including a comprehensive selection of prescription medications, vitamins and nutritional supplements, home medical equipment, and health and beauty aids directly from our pharmacies, by mail order and via the Internet. Familymeds.com is the foundation of our Internet offering. This website is one of the few sites certified as a Verified Internet Pharmacy Provider Site (VIPPS) by the National Association of Boards of Pharmacy (NABP). The VIPPS program is a voluntary certification program designed to approve and identify online pharmacies that are appropriately licensed and prepared to practice Internet pharmacy. Familymeds.com is the non-prescription Internet commerce partner for select prescription benefit managers (PBMs) including Medco Health.
  
Worksite PharmacySM

We operated Worksite Pharmacies SM (pharmacies that service a single, defined population) for large employers who are seeking to control overall employee prescription drug benefit expenditures while maintaining high employee satisfaction through improved accessibility. Our Worksite Pharmacies SM offer prescription services exclusively to the employer’s covered population. We can deliver these services at or near the employer’s work site by opening, staffing and managing a pharmacy. Our initial results have proven that this strategy reduces healthcare costs for the employer. Our research has shown that many employers, especially large Fortune 500 companies are seeking more aggressive methods to control healthcare expenditures, especially the pharmacy component of benefits. We have identified key large employers, those with over 2,000 employees in a single location, to be target opportunities for this type of employer sponsored Worksite PharmacySM. We had a Worksite Pharmacy SM in the employee center of the Mohegan Sun Casino in Connecticut and Scotts Company LLC headquarters in Marysville, Ohio. Combined, these employers have more than 14,000 employees and dependents as potential patients.

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On January 2, 2007, our third Worksite Pharmacy opened to provide exclusive service to Toyota team members, participating on-site suppliers and their dependants. Under the contract with Toyota, Familymeds operates a full service pharmacy at the site of Toyota's newly constructed plant in San Antonio. The plant employs approximately 2,000 Toyota personnel.

All 3 of our Worksite Pharmacies were sold as part of the Walgreens transaction in the second quarter of 2007.
  
Medical Supply

In February 2006, we reopened and began providing distribution services from our St. Rose, Louisiana facility which had previously been closed due to Hurricane Katrina. We reconfigured and replenished the warehouse to facilitate the direct distribution of pharmaceuticals to physicians, medical clinics and other health care providers. In October 2006, the operations known as Valley Medical Supply were relocated to the Company’s corporate location in Farmington, Connecticut and until recently did business as Familymeds Medical Supply.  This move reduced operating expenses.  Familymeds Medical Supply ceased doing business in the second quarter of 2007.

Patient Compliance

We have developed programs designed to improve patient compliance and to reduce costs. For example, we have a prescription compliance program called Reliable Refill, a discount plan called Senior Save15. Reliable Refill is a compliance program that identifies prescriptions that are due to be filled and schedules them for filling before the patient has run out of the previous prescriptions. Our Senior Save15 program, introduced prior to the Medicare Modernization Act, is our own discount program that gives senior customers access to all of our prescription and over-the-counter products at discounted prices. These and other programs are designed to improve medication therapy management among patients with chronic therapeutic needs especially the elderly population. Our data warehouse allows us to identify and target patients with special needs.

Medicare Part D

As of January 1, 2006, Medicare beneficiaries had the opportunity to receive subsidized prescription drug coverage through the Medicare Part D program. The new drug benefit is delivered by competing plans, and our pharmacies have contracted with each of the major providers to ensure our customers can continue purchasing their prescriptions from our pharmacies. While the new Medicare drug benefit is entirely voluntary, we believe a significant portion of the Medicare population will enjoy this new benefit. During the three months ended March 31, 2007 and July 1, 2006, net revenues from Medicare Part D prescriptions represented 20.8% and 19.8% of total prescription sales, respectively. The gross margin from this business is less than what the traditional prescription drug plans provide and the accounts receivable days outstanding is more than what the traditional prescription drug plans.
 
Supply Chain Management

Because of higher purchasing costs due to our inability to buy on a more credit worthy basis during fiscal year ended December 31, 2005, we began to experience a decrease in our ability to supply products to our customers and a decline in our gross margin.

McKesson Corporation and Familymeds Group, Inc. entered into a Supply Agreement effective as of December 28, 2006 and continuing for a term of 3 years. The Supply Agreement may be terminated prior to the 3 year term upon certain conditions including ninety (90) days written notice to the other party. Under the terms of the Supply Agreement, McKesson has agreed to continue as our primary supplier for prescription and non-prescription items. McKesson will continue to provide delivery to our locations up to 5 times per week and we will pay for such goods delivered 7 days from the date of invoice.

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Discontinued Operations

During fiscal year ended December 31, 2005, we operated two drug distribution facilities: Valley Drug Company and Valley Drug Company South. During the third quarter of 2005, we determined that we would sell certain assets of the drug distribution business and eliminate operations conducted out of the New Castle, Pennsylvania facility and the St. Rose, Louisiana facility related to the distribution to independent pharmacies. Accordingly, as of October 1, 2005, we considered substantially all of the wholesale distribution business as discontinued operations for financial statement presentation purposes. In December 2005, Rochester Drug Cooperative (“RDC”) acquired certain assets from our wholly-owned subsidiary, Valley Drug Company, including a customer list, furniture, fixtures and equipment located at our New Castle, Pennsylvania facility (the “RDC Sale”). In connection with the sale, RDC assumed certain property leases, customer and other miscellaneous contracts. The total purchase price for these select assets was $0.7 million, of which $0.4 million was received upon closing and $0.3 million is required to be paid if and when the Pennsylvania Industrial Development Authority (“PIDA”) consents to a lease assignment of the New Castle facility to RDC. We leased this premises from Becan Development LLC (“Becan”), a company owned by a current director of the Company (Jugal Taneja) and certain former directors, officers and employees of the Company.

   The original lease (dated December 30, 2003) (the “Original Lease”) provided for a term of 15 years, expiring December 30, 2018, and monthly lease payments of $0.017 million.  When the Original Lease was executed, Becan and Valley North entered into a Consent, Subordination and Assumption Agreement (the “Guarantee”) with the Pennsylvania Industrial Development Authority (“PIDA”) and Regional Industrial Development Corporation of Southwest Pennsylvania (“RIDC”) dated December 30, 2003, pursuant to which, among other things, Becan and Valley Drug Company (Valley North”), jointly and severally, assumed all obligations of RIDC to make payments and discharge all obligations expenses, costs and liabilities of RIDC in connection with the PIDA note (the “PIDA Note”).  The PIDA Note is also secured by the Original Lease and the property.
 
   In connection with the RDC Sale, Becan and Valley North agreed to shorten the lease to five years ending, December 2010, and to sublease the premises to RDC. It was the intent of the parties at that time to assign the lease to RDC upon the consent to such assignment by PIDA.  RDC held back $0.3 million of the purchase price related to the RDC Sale pending receipt of PIDA’s consent. PIDA agreed to consent to the assignment of the lease to RDC subject to the preparation of final documents, including documents evidencing the parties agreement to shorten the maturity of the PIDA Note to five years ending December 2010; but, during October 2006, RDC notified PIDA that it was withdrawing its application to PIDA and that it was no longer willing to assume the lease.   Contemporaneously with its notice to PIDA, RDC notified us that it refused to pay the $0.3 million holdback to Valley because of the delays in obtaining the PIDA consent.  RDC has signed a sublease for the property and remains legally responsible for the lease payments.  In October 2006, we filed a demand for arbitration claiming RDC has acted in bad faith and demanding $0.3 million. Becan and its principals, including Mr. Taneja, indemnified Valley North and us against any claims or demands PIDA may bring against Valley or us in connection with the PIDA Note and will use their best efforts to have Valley released from all obligations under the PIDA Note. 
 
In connection with the sale of these assets, we transferred a portion of the New Castle, Pennsylvania pharmaceutical inventory to our retail pharmacies as well as a portion to its St. Rose, Louisiana facility for continued distribution to our retail pharmacies and for use in the Valley Medical Supply operations. In October 2006, these operations were relocated to our corporate location in Farmington, Connecticut and are now doing business under the name Familymeds Medical Supply.
 
During the six months ended June 30, 2007, there were no activities relating to our discontinued operations. This compares with no net revenues related to the discontinued operations and loss from discontinued operations of $0.4 million and $0.2 million for the three and six months ended July 1, 2006.
 
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Comparison of Operating Results for the three months ended March 31, 2007 and three and six months ended July 1, 2006.

The Company’s shareholders approved the Plan of Complete Liquidation and Dissolution on March 30, 2007, the last business day of the fiscal quarter ended March 31, 2007. Accordingly, effective March 31, 2007, the Company adopted the liquidation basis of accounting. The condensed consolidated statement of net assets as of June 30, 2007 has been prepared on the liquidation basis of accounting while the condensed consolidated balance sheet as of December 30, 2006 and the condensed consolidated statements of operations and cash flows for the three months ended March 31, 2007 and six months ended July 1, 2006 have been prepared on the going concern basis of accounting. No condensed consolidated statement of changes in net assets has been presented for the one day ended March 31, 2007 because such activity was not material.

We refer to prescription products as Rx products and to the remaining products, such as over-the-counter medications, home medical equipment and home health appliances, as non-Rx products. While non-Rx reflects a smaller percentage of our overall revenues, the gross margin for non-Rx products is higher. The Rx portion of the pharmacy business is dependent upon a number of third party payors that pay a portion or all of the Rx cost on behalf of the customers, “Third Party Customers.” Prescriptions generated by Third Party Customers represented approximately 93% and 94%, respectively of Rx revenues for the three months ended March 31, 2007 and July 1, 2006, respectively.

For financial statement presentation purposes, the Company has reported substantially all of the full-line wholesale drug distribution as discontinued operations.
 
 Net Revenues
 
Net revenue performance on a going-concern basis is detailed below:
 
   
Three months
Ended  
March 31, 2007  
  
Three months
Ended
July 1, 2006
  
Six months
Ended
July 1, 2006
  
Net Rx and non-Rx revenues (in millions) (1)  
  
$
51.4
  
$
56.5
  
$
111.7
  
Familymeds Medical Supply  
    
1.0
   
4.2
   
5.1
 
Total net revenues (in millions)  
  
$
52.4
  
$
60.7
  
$
116.8
  
Rx % of location net revenues  
    
93.3
%
  
93.7
%
  
93.8
%
Third party % of Rx net revenues  
    
96.4
%
  
93.7
%
  
93.6
%
Number of Company locations  
    
64
   
79
   
79
 
Average location net revenue per location (in millions)  
  
$
0.8
  
$
0.7
  
$
1.4
  
 
(1)  Net revenues are net of contractual allowances.
 
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Net revenue performance on a liquidation basis is detailed below:
 
   
Three months
Ended  
June 30, 2007  
  
Net Rx and non-Rx revenues (in millions) (1)  
  
$
19.9
  
Familymeds Medical Supply  
    
-
 
Total net revenues (in millions)  
  
$
19.9
  
Rx % of location net revenues  
    
91.4
%

Gross Margin

Gross margin was $2.7 million or 13.3% for the three months ended June 30, 2007. This compares to $11.8 million or 19.5% for the three months ended July 1, 2006. Gross margin was $12.4 million or 17.1% for the six months ended June 30, 2007. This compares to $22.8 million or 19.5% for the six months ended July 1, 2006.

Operating Expenses and Income
 
Operating expenses include selling, general and administrative (“SG&A”) expenses, depreciation and amortization expense. Net operating expenses were $12.0 million or 60.2% of net revenues for the three months ended June 30, 2007. This compared to $15.3 million or 22.3% of net revenues for the three months ended July 1, 2006. Net operating expenses were $24.5 million or 33.9% of net revenues for the six months ended June 30, 2007. This compared to $29.2 million or 25.0% of net revenues for the six months ended July 1, 2006.

Interest Expense
 
Interest expense was $2.6 million and $3.6 million for the three and six months ended June 30, 2007 versus $1.4 million and $2.8 million for the three and six months ended July 1, 2006. The increase was due to the write off of the Deerfield debt discount in the second quarter of 2007 partially offset by a decrease due to a lower outstanding debt balances.

Income Taxes
 
The Company recorded income tax expense of $0.6 million for the three months ended June 30, 2007. This was based on alternative minimum tax calculations that result in tax liability on the gain on the sale of the Company’s assets despite the net operating losses available to offset such income. The Company also recorded net income for the six months ended July 1, 2006. No income tax expense had been recorded during this period due to the significant net operating losses available to the Company to offset such net income. The Company has established a valuation allowance on all of its remaining deferred tax assets due to the uncertainty of their realization.
 
Net Loss
 
Net loss for the three and six months ended June 30, 2007 was $11.9 million and $12.5 million versus net income of $7.8 million and $3.8 million for the three and six months ended July 1, 2006, respectively.  Factors impacting these results are discussed above.

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Gain on liquidation of pharmacy assets (liquidation basis)
 
The following table shows the computation of the gain on liquidation:

   
Three months
Ended
June 30, 2007
  
Total cash received or receivable
  
$
58,451
  
Inventory purchased
    
(14,112
)
Payment for reimbursement of rent, utilities etc.
    
(793
)
Net book value of fixed and intangible assets sold
    
(3,518
)
Net gain on liquidation of pharmacy assets
  
$
40,028
  
 
Adjustment to liquidation basis

The adjustment to liquidation basis is made up of the following:
 
   
Three months
Ended
June 30, 2007
  
Impairment of fixed and intangible assets to net realizable value  
  
$
2,455
  
Settlement of Deerfield warrants
    
1,000
 
Accrual of legal settlements/wind-up costs  
    
1,315
 
Income tax provision
    
581
  
Total adjustment to liquidation basis  
  
$
5,351
  

Inflation and Seasonality
 
Management believes that inflation had no material effect on the operations or our financial condition for the three months ended June 30, 2007 and July 1, 2006. Historically, our third quarter business has been affected by seasonality and has been lower than our other three fiscal quarters’ business due to the effect of reduced patient visits and doctor referrals during typical summer vacation months.

LIQUIDITY AND CAPITAL RESOURCES
 
We have financed our operations and have met our capital requirements primarily through private issuances of equity securities, convertible notes, bank borrowings, trade creditors and cash generated from operations.  Our principal sources of liquidity as of June 30, 2007, consisted of cash and cash equivalents of approximately $23.1 million.

The Board of Directors approved the Asset Sale and the Plan of Complete Liquidation in part because we believe that our existing cash and amounts available under our senior credit facility and cash generated from operating activities may not be sufficient to meet our vendor terms and anticipated cash needs for the next 12 months.
 
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Credit Facility

On October 12, 2005, the Company entered into a Loan and Security Agreement with Wells Fargo Retail Finance, LLC (“WFRF”), pursuant to which WFRF will provide the Company with a senior secured revolving credit facility up to $65.0 million (the “New Credit Facility”). On that same date the Company terminated its $65.0 million Amended and Restated Credit Agreement with General Electric Capital Corporation (“GECC”) and in connection therewith repaid all outstanding amounts due under the credit facility to GECC along with a $0.5 million termination fee. The $65.0 million of maximum availability under the New Credit Facility is reduced by a $7.0 million reserve. Available credit is based on eligible receivables, inventory and prescription files, as defined in and determined pursuant to the agreement, and may be subject to reserves as determined by the lender from time to time. Interest on the revolving line of credit is calculated at the prime index rate plus an applicable prime margin (as defined in the agreement), unless the Company or the lender chooses to convert the loan to a LIBOR-based loan. In each case, interest is adjusted quarterly. The applicable prime index margin as of June 30, 2007 and December 30, 2006 was 8.25% and 8.25%, respectively. As of June 30, 2007 and December 30, 2006, the interest rate, including applicable margin, used to calculate accrued interest was 8.5% and 8.5%, respectively. Interest is payable monthly.
 
The New Credit Facility includes usual and customary events of default (subject to applicable grace periods) for facilities of this nature and provides that, upon the occurrence of an event of default, payment of all amounts payable under the New Credit Facility may be accelerated and/or the lenders’ commitments may be terminated. In addition, upon the occurrence of certain insolvency or bankruptcy related events of default, all amounts payable under the New Credit Facility shall automatically become immediately due and payable, and the lenders’ commitments shall automatically terminate.
 
The New Credit Facility includes an early termination fee of $0.7 million if paid in full before October 12, 2008. The New Credit Facility is secured by substantially all assets of the Company.

In connection with the Asset Sale, Wells Fargo Retail Finance, LLC, as agent for the revolving credit lenders pursuant to the Loan and Security Agreement dated as of October 12, 2005 (as amended, modified, supplemented or restated and in effect from time to time, the “Loan Agreement”) among (i) Familymeds Group, Inc. (f/k/a Drugmax, Inc.), as Lead Borrower, (ii) the other Borrowers party thereto from time to time, (iii) the Revolving Credit Lenders party thereto from time to time, (iv) and Wells Fargo, has consented to the Asset Sale and the consummation of the sale, subject to various terms and conditions. Among those conditions, we agreed that all proceeds received by us from the sale shall be paid to Wells Fargo for application to the credit facility until all amounts due under the facility are paid in full and the Loan Agreement is terminated. Each such payment of proceeds applied to the credit facility shall permanently reduce the commitments in the amount of such payment.
  
On May 11, 2007, the Company terminated its $65 million Loan Agreement and in connection therewith repaid all outstanding amounts under the Loan Agreement along with a termination fee of $650,000.
 
Note and Warrant Purchase Agreement

On June 29, 2006, we entered into a Note and Warrant Purchase Agreement and certain other agreements, each effective as of June 23, 2006, with Deerfield Special Situations Fund, L.P. (“Deerfield L.P.”) and Deerfield Special Situations Fund International, Limited (“Deerfield International”), pursuant to which Deerfield L.P. and Deerfield International (collectively, “Deerfield”) purchased two secured promissory notes in the aggregate principal amount of $10.0 million (one note in the principal amount of $3.3 million and the second note in the amount of $6.7 million collectively the “Notes”) and eight warrants to purchase an aggregate of 1.65 million shares of Familymeds Group, Inc. common stock (the “Warrants”), for an aggregate purchase price of $10.0 million.

The $10.0 million purchase price for the Notes and Warrants was used entirely for an early repayment, settlement and termination of approximately $23.0 million in outstanding subordinated debt with Familymeds Group’s former supplier AmerisourceBergen Drug Corporation (“ABDC”). The subordinated debt with ABDC consisted of a subordinated convertible debenture in the original principal amount of $11.5 million and a subordinated promissory note in the original principal amount of $11.5 million. Both original debt instruments were 5-year agreements maturing in September 2010. In connection with the Deerfield transaction, Familymeds Group and ABDC entered into a payoff and mutual release agreement pursuant to which the parties agreed to settle and retire both existing debt instruments for a lump sum repayment of $10.0 million. Wells Fargo Retail Finance, LLC (“WFRF”), the Company’s senior lender, consented to Familymeds Group’s early repayment of the ABDC debt and waived any default under Familymeds Group’s credit facility with WFRF as a result of such repayment by entering into an amendment to such credit facility with Familymeds Group and its subsidiaries. We extinguished the ABDC Notes on June 29, 2006 which resulted in a gain on the extinguishment of $13.1 million.
 
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Principal on each of the Notes is due and payable in successive quarterly installments each in the amount of $0.2 million and $0.3 million, respectively, beginning on September 1, 2006 and on each December 1, March 1, June 1 and September 1 thereafter and continuing until June 23, 2011, on which date all outstanding principal and accrued and unpaid interest is due. The Notes bear interest at a rate equal to 2.5% for the first year, 5.0% for the second year, 10.0% for the third year, 15.0% for the fourth year and 17.5% for the fifth year. The Notes may be prepaid by the Company at anytime without penalty. Interest expense has been estimated over the five year period to be approximately $1.8 million (excludes the effect of amortization of the debt discount of $2.5 million discussed below) and due to the increasing interest rate on this debt, the Company records the average quarterly interest expense and records a corresponding asset or liability for the difference not currently payable each quarter. As of June 30, 2007, the Company has classified this liability as current as it expects to retire this obligation within 12 months of the balance sheet date.
    
In lieu of making any quarterly interest payments in cash during the first and second year of the Notes, the Company may issue and deliver to Deerfield shares of common stock.  Pursuant to an amendment in October 2006, such shares shall be issued annually and Deerfield shall not be able to transfer or sell such shares until such time as the interest payment represented by those shares shall become due. 

On December 15, 2006, the Company and Deerfield agreed pursuant to an amendment to the Notes and an investor rights agreement, that in lieu of making the December 1, 2006 principal payment in cash, the Company shall issue and deliver to Deerfield a number of shares of common stock, par value $0.001 per share, of Borrower equal to 269,059.

The Notes contain usual and customary events of default for notes of these dollar amounts and provide that, upon the occurrence of an event default, the entire outstanding principal balance and all interest accrued under each note shall immediately become due and payable without demand or notice to the Company.
 
The Notes are secured by subordinated security interests in substantially all of the assets of the Company and its subsidiaries, Familymeds, Inc. and Valley Drug Company South (“Valley South”). These subordinated security interests are evidenced by three security agreements: (i) a Security Agreement between the Company and Deerfield L.P., as agent for Deerfield (the “Agent”), (ii) a Security Agreement between Familymeds, Inc. and the Agent, and (iii) a Security Agreement between Valley South and the Agent (collectively, the “Security Agreements”). The Security Agreements are expressly subordinated to the prior lien rights of WFRF pursuant to the Company’s existing credit facility with WFRF. Both Familymeds and Valley South have entered into guaranty agreements pursuant to which they have guaranteed all of the obligations of the Company under the Notes.

In connection with the issuance of these Notes, 1.65 million of stock warrants were issued as follows: warrants for 0.30 million common shares were issued at an exercise price of $6.10 per share; warrants for 0.55 million common shares were issued at an exercise price of $7.50 per share; warrants for 0.55 million common shares were issued at an exercise price of $7.80 per share; and warrants for 0.25 million common shares were issued at an exercise price of $9.20 per share. Proceeds from each warrant exercised by Deerfield will be used to equally repay the Notes and for the working capital needs of the Company. All of the Warrants are exercisable for a period of five years from the closing date.

27

On June 29, 2006, in accordance with Accounting Principles Board (“APB”) Opinion No. 14 “Accounting for Convertible Debt and Debt Issued with Stock Purchase Warrants,” the Company allocated the proceeds received between the debt and the detachable warrants based upon the relative fair market values on the dates the proceeds were received. The net value allocated to the warrants was $2.5 million and was determined using the Black-Scholes option pricing formula. The $2.5 million has been recorded as debt discount and will be amortized over the life of the related debt using the effective interest method. The effective interest rate on the Notes, after giving effect to the amortization of the debt discount is approximately 17.0% annually.

Operating, Investing and Financing Activities 
 
 Cash Inflows and Outflows (going concern basis)
 
As reported on our condensed consolidated statements of cash flows, our change in cash and cash equivalents during the three months ended March 31, 2007 and the six months ended July 1, 2006 is summarized as follows:
 

Dollars in thousands
  
Three months
Ended
March 31, 2007
  
Six months
Ended
July 1, 2006
  
Net cash used in operating activities  
  
$
(867
)
$
(1,451
)
Net cash provided by (used in) investing activities  
    
4,983
   
(2,959
)
Net cash provided by (used in) financing activities  
    
(4,107
)
  
767
 
               
Change in cash and cash equivalents  
  
$
9
  
$
(3,643
)
 
Details of our cash inflows and outflows are as follows during the three months ended March 31, 2007 and the six months ended July 1, 2006:
 
Operating Activities: During the three months ended March 31, 2007, we used $0.9 million in cash and cash equivalents in operating activities. This was comprised primarily of net loss of $0.6 million and a decrease in working capital of $1.8 million and is partially offset by non-cash charges totaling $2.1 million. For the six months ended July 1, 2006, we used $1.5 million in cash and cash equivalents in operating activities. This was comprised primarily of net income of $3.8 million and a decrease in working capital of $4.8 million offset by non-cash items of $10.1 million. Components of our significant non-cash adjustments for the three months ended March 31, 2007 and the six months ended July 1, 2006 are as follows:

28
 
 

Non-cash Adjustments
  
Three
months ended
March 31
2007
(amounts in  thousands)
  
Six
months ended
July 1,
2006
(amounts in thousands)
  
Explanation of Non-cash
Activity
  
               
Depreciation and amortization
  
$
524
  
$
1,727
    
Consists of depreciation of property and equipment as well as amortization of intangibles.
  
                     
Non cash interest expense
    
126
   
848
   
Interest expense related to the Deerfield notes paid in common stock and ABDC principal payment shortfalls paid in common stock.
  
                     
Gain on sale of pharmacy assets
    
(3,100
)
  
-
   
Gain on the sale of pharmacy assets.
  
                     
Gain on extinguishment of debt
          
(13,086
)
  
We retired the outstanding ABDC notes amounting to $23 million and issued a $10 million note due to Deerfield
  
                     
Other non-cash items, net  
    
409
   
423
   
Other non-cash items include amortization of deferred financing fees, adjustments to our allowance for doubtful accounts and non-cash stock-based compensation.
  
                     
Total non-cash adjustments to net income  
  
$
(2,041
)
$
(10,088
)
    
 
Investing Activities: Cash provided by (used in) investing activities was $5.0 million for the three months ended March 31, 2007, and ($3.0) million for the six months ended July 1, 2006. Specific investing activity during those periods was as follows:

·
During the three months ended March 31, 2007, we invested approximately $0.1 million in fixed assets.

·
During the first three months of 2007, we received cash of approximately $5.1 million from the sale of our pharmacy locations.
 
Financing Activities: Net cash provided by (used in) financing activities was ($4.1) million during the three months ended March 31, 2007, and $0.8 million in the six months ended July 1, 2006. Specific financing activity during those periods was as follows:

·
During the three months ended March 31, 2007, we repaid $4.1 million of our revolving credit facility. This compares to $2.0 million in net proceeds in the six month period of 2006.

·
During the three months ended March 31, 2007, we did not make any scheduled debt repayments under our outstanding subordinated notes. This compares to $1.2 million for scheduled debt repayments in the six month period of 2006.
 
29
 
·
During the first three months of 2007, we also did not receive any proceeds from the issuance of common stock under our employee stock plans. This compares to $0.009 million for proceeds related to employee stock option exercises in the six month period of 2006.
 
Off-Balance Sheet Arrangements
  
We do not make use of any off-balance sheet arrangements that currently have or that we expect are reasonably likely to have a material effect on our financial condition, results of operations or cash flows. We utilize operating leases for substantially all of our locations. We do not use special-purpose entities in any of our leasing arrangements.

Critical Accounting Policies and Estimates
 
Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) contains a discussion of the Company’s condensed unaudited consolidated financial statements, that have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. On an on-going basis, we evaluate estimates and judgments, including the most significant judgments and estimates. We based our estimates and judgments on historical experience and on various other facts that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Our critical accounting policies include: assessing merger goodwill and identifiable intangible assets for impairment, assessing other long-lived assets for impairment, evaluating the adequacy of the allowance for doubtful accounts, and estimating for inventory loss reserves.

The liquidation basis of accounting adopted March 31, 2007 is dependent on many assumptions and estimates as to the ultimate liquidation of the Company’s assets and liabilities.

Goodwill and Identifiable Intangible Assets
 
Useful lives for identifiable intangibles are determined based on the expected future period of benefit of the asset, the assessment of which considers various characteristics of the asset, including historical cash flows. After goodwill is initially recorded, annual impairment tests are required, or more frequently if impairment indicators are present. The amount of goodwill cannot exceed the excess of the fair value of the related reportable unit (which is based, in part, on the Company’s stock price) over the fair value of reporting unit’s identifiable assets and liabilities. Continued downward movement in the Company’s common stock price could have a material effect on the fair value of goodwill in future measurement periods. As of December 30, 2006, all remaining goodwill was impaired and written off.
 
Liquidation Basis of Accounting

The Company’s shareholders approved the Plan of Complete Liquidation and Dissolution on March 30, 2007, the last business day of the fiscal quarter ended June 30, 2007. Accordingly, effective March 31, 2007, the Company adopted the liquidation basis of accounting. The accompanying condensed consolidated statement of net assets as of June 30, 2007 has been prepared on the liquidation basis of accounting while the condensed consolidated balance sheet as of December 30, 2006 and the condensed consolidated statements of operations and cash flows for the three months ended March 31, 2007 and July 1, 2006 have been prepared on the going concern basis of accounting. No condensed consolidated statement of changes in net assets has been presented for the one day ended March 31, 2007 because such activity was not material.

30
 
Impairment of Other Long-lived Assets

The Company reviews other long-lived assets, including property, equipment and prescription file intangible assets, to be held and used for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If the sum of the undiscounted expected future cash flows is less than the carrying amount of the related assets, the Company recognizes an impairment loss. Impairment losses are measured as the amount by which the carrying amount of the assets, including prescription file intangible assets, exceeds the future cash flows for the assets. For purposes of recognizing and measuring impairment of other long-lived assets, the Company evaluates assets at the location level for pharmacy operations.

Our impairment loss calculations contain uncertainty since we must use judgment to estimate future revenues, profitability and cash flows. When preparing these estimates, we consider historical results and current operating trends and our consolidated revenues, profitability and cash flow results and forecasts. These estimates can be affected by a number of factors including, but not limited to, general economic conditions, the cost of real estate, the continued efforts of third party customers to reduce their prescription drug costs, regulatory changes the continued efforts of competitors to gain market share and consumer spending patterns. If these projections change in the future, we may be required to write-down our long-lived assets. Long-lived assets evaluated for impairment include property and equipment as well as intangible assets, which as of June 30, 2007 were approximately $0.4 million and $0.1 million, respectively and at December 30, 2006 were approximately $6.3 million and $1.3 million, respectively.
 
Trade Receivables

At June 30, 2007 and December 30, 2006, trade receivables reflected approximately $7.7 million and $19.7 million, respectively, of amounts due from various insurance companies, governmental agencies and individual customers. Of these amounts, there was approximately $3.7 million and $3.7 million reserved as of June 30, 2007 and December 30, 2006, respectively, for a balance of net trade receivables of $4.0 million and $16.0 million, respectively. We use historical experience, market trends and other analytical data to estimate our allowance for doubtful accounts. Based upon these factors, the reserve at June 30, 2007 is considered adequate. Although we believe that the reserve estimate is reasonable, actual results could differ from our estimate, and such differences could be material. If the estimate is too low, we may incur higher bad debt expenses in the future resulting in lower net income or higher net losses. If the estimate is too high, we may experience lower bad debt expense in the future resulting in higher net income or lower net losses.

Inventories

Inventories consist of pharmaceuticals and other retail merchandise owned by us. Inventories are stated at the lower of cost (first-in, first-out method for pharmaceutical inventory and retail method for retail merchandise inventory) or market. Physical inventory counts are taken on a regular basis in each location to ensure that the amounts reflected in the unaudited condensed consolidated financial statements are properly stated. We use historical data to estimate our inventory loss reserves and we have not made any material changes in the accounting methodology used to establish our inventory loss reserves during the past three years. If the estimate of inventory losses is too low we may incur higher cost of sales in the future resulting in lower net income or higher net losses. If the estimate of inventory losses incurred is too high, we may experience lower cost of sales in the future resulting in higher net income or lower net losses. Inventories as of June 30, 2007 and December 30, 2006 were approximately $2.3 million and $25.0 million, respectively, net of approximately $0.4 million and $2.6 million of inventory loss reserves, respectively.

31
 
Subsequent Events

Effective July 31, 2007, the Company filed a certificate of dissolution with the Nevada secretary of state. At that date the Company’s stock transfer books were closed, and shareholders of record on that date will be entitled to all liquidating distributions paid by the Company.
 
On August 10, 2007, an initial liquidating distribution was made to shareholders of record in the amount of $0.70 per share for a total of $4.8 million.
 
The Company continues to attempt to sell its remaining assets, including one retail pharmacy located in Connecticut, one long term care pharmacy located in Massachusetts, the internet business known as www.familymeds.com and two specialty retail nutrition/cosmetic stores, all of which the Company continues to operate. To date, the Company has been unable to secure a buyer for these remaining assets despite continuing efforts. The original forecasted value of these assets ranged from $1.5 million to $2.0 million in cash to the Company, plus the assumption by the buyers of those assets of certain lease liabilities relating thereto totaling approximately $1.3. Based on the difficulty it has encountered in selling these assets, the Company cannot predict when the assets will be sold and whether it will be able to sell those assets at the original estimated value or whether it will be able to secure a third party to assume such lease obligations. The Company intends to continue to market these assets to third parties but is also holding informal discussions with certain members of management that have indicated an interest in buying these assets and assuming such lease obligations.
 
The Company is also continuing to collect on its outstanding accounts receivable. The collection of these receivables has been slower than originally expected. Currently, based upon its difficulty in collecting on such receivables, the Company does not believe it will be able to collect all of such receivables. While it can make no assurances as to the exact amount of the total receivables the Company will need to write off, the Company currently estimates such write offs to approximate $500,000 greater than originally estimated, and has reflected this in the statement of net assets as of June 30, 2007.
 
Further, since announcing the Plan, certain vendors, landlords and outside parties have made claims against the Company for alleged liabilities totaling approximately $400,000, for which the Company had not previously reserved. The statement of net assets as of June 30, 2007 includes accruals for these claims.
 
All of the forgoing factors are expected to result in (a) delays in finalizing the Plan and (b) lower than previously-estimated amounts being distributed to shareholders in connection with the Plan, unless the Company is successful in selling its remaining assets at a greater value or recovering greater value through the reduction of its estimated liabilities, of which there can be no assurances. Management currently expects the total amount of the distributions to shareholders to be in the range of $1.75 to $1.85 per share.  As noted above, in August 2007 the Company made an initial distribution of $0.70 per share, leaving future distributions in the range of $1.05 to $1.15 per share. The Company expects to make another distribution to shareholders before the end of the fourth quarter of 2007, but the amount of such distribution has not yet been determined and depends significantly on the timing of the recovery of assets and the settlement and/or payment of liabilities.
 
The amount and timing of any distribution to shareholders in connection with the Plan is subject to various risks and uncertainties, including those contained in the Company’s Form 10-K, as amended, for the year ended December 30, 2006. This Form 8-K contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including with regard to the:
 
 
 
·
 
expected closing and timing of the closing of the Company’ anticipated asset sales and liquidation;
 
 
 
·
 
expected cash to be received from the asset sales and cash to be disbursed to settle its obligations and liabilities, both known and unknown; and
 
 
 
·
 
expected cash distributions to shareholders and the timing of those distributions.
 
 
32
 
Forward-looking statements are those that are not historical in nature, particularly those that use terminology such as may, could, will, should, likely, expects, anticipates, contemplates, estimates, believes, plans, projected, predicts, potential or continue or the negative of these or similar terms. The statements contained in this Form 8-K that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements are subject to certain known and unknown risks and uncertainties that could cause actual results to differ materially from those expressed in any forward-looking statements. These risks and uncertainties include, but are not limited to, the following important factors with respect to the Company:
 
 
·
the satisfaction of conditions to complete the asset sales, regulatory approvals and third party consents;
 
·
 the amount of the costs, fees and expenses related to the asset sales, interim operations, and subsequent liquidation and dissolution of the Company;
 
·
the uncertainty of general business and economic conditions;
 
·
the amount to be recovered for inventories and other assets and the amount collected from accounts receivable and the amount paid to settle our obligations and liabilities;
 
·
the loss of key personnel; and
 
·
other risk factors as further described in the Company’s Form 10-K, as amended, for the year ended December 30, 2006.
 
33

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
 

We do not currently utilize derivative financial instruments to address market risk.

Item 4. CONTROLS AND PROCEDURES.
  
 We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
 
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures. We carried out an evaluation, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this report pursuant to Exchange Act Rule 13a-15. Our disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in reports that we file or submit pursuant to the Securities Exchange Act of 1934, as amended, are accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.  Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report.  In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and in reaching a reasonable level of assurance, management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Our personnel reductions during the second quarter of 2007 have affected the overall control environment. However, management does not believe that these personnel reductions have had a significant impact on the effectiveness of the operation of the Company’s disclosure controls and procedures.

Changes in Internal Control Over Financial Reporting. There has been no change in our internal control over financial reporting during the second quarter of 2007 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 
 
There has been no significant change in the status of the legal matters described in the Company’s fiscal 2006 Form 10-K, as amended.


There have been no material changes to the Risk Factors described in the Company’s fiscal 2009 Form 10-K, as amended.

34
 
Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

 None.

 
 None.

 
The shareholders of the Company voted on 2 items at the special meeting of shareholders held on March 30, 2007:
 
The proposal to ratify and approve the Asset Purchase Agreement, including sale of a majority of the Company’s pharmacy assets to Walgreen Co. and Walgreen Eastern Co., Inc., received the following votes:
 
·
4,120,613
    Votes for approval
 
 
 
·
189,203
    Votes against
 
 
 
·
7,329
    Abstentions
 
There were no broker non-votes for this item.
 
The proposal to approve and adopt the Plan of Complete Liquidation and Dissolution of the Company, including the liquidation and dissolution of Familymeds Group, Inc., received the following votes:
 
·
4,122,003
    Votes for approval
 
 
 
·
187,813
    Votes against
 
 
 
·
7,329
    Abstentions
 
There were no broker non-votes for this item.
 
Item 5. OTHER INFORMATION.
 
None.
 
35

Item 6. EXHIBITS

31.1
Certification of Principal Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. *
 
 
31.2
Certification of Principal Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. *
 
 
32.1
Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. *
 
 
 32.2
Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. *
 
_____________
*
  Filed herewith.

36

SIGNATURES
 
In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 
Familymeds Group, Inc.
   
   
   
Date: December 18, 2007
By: 
 /s/ Edgardo A. Mercadante
 
  
 Edgardo A. Mercadante
 President, Chief Executive Officer and Chairman of the Board
 (Principal Executive Officer)
     
Date: December 18, 2007
By: 
 /s/ James E. Searson
 
  
 James E. Searson
 Senior Vice President, Chief Financial Officer and Treasurer
 (Principal Financial and Accounting Officer)
 
37


 EX-31.1 2 v097384_ex31-1.htm
Exhibit 31.1
 
CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER
PURSUANT TO SECTION 302 OF THE
SARBANES-OXLEY ACT OF 2002 AS AMENDED
 
I, Edgardo A. Mercadante, certify that:
 
1. I have reviewed this quarterly report on Form 10-Q of Familymeds Group, 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; and
 
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-14 and 15d-14) for the registrant, and we 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 for which this report is being prepared;
 
b) evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this annual 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
 
c) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially effect, the registrants internal control over financial reporting; and
 
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
 
a) all significant deficiencies and material weaknesses in the design or operation of internal controls 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.
 
 
 
 
Dated: December 18, 2007
By:
 /s/ Edgardo A. Mercadante
 
 Edgardo A. Mercadante
 President, Chief Executive Officer, Chairman of the Board
 
 EX-31.2 3 v097384_ex31-2.htm
EXHIBIT 31.2
 
CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER
PURSUANT TO SECTION 302 OF THE
SARBANES-OXLEY ACT OF 2002, AS AMENDED
 
I, James E. Searson, certify that:
 
1. I have reviewed this quarterly report on Form 10-Q of Familymeds Group, 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; and
 
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 am responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant, and we have:
 
a) designed such disclosure controls and procedures, 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 for which this report is being prepared;
 
b) evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this annual 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
 
c) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially effect, the registrants internal control over financial reporting; and
 
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
 
a) all significant deficiencies and material weaknesses in the design or operation of internal controls 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.
 
 
 
 
Dated: December 18, 2007
By:
 /s/ James E. Searson
 
 James E. Searson
 Senior Vice President, Chief Financial Officer and
 Treasurer
 
 EX-32.1 4 v097384_ex32-1.htm
EXHIBIT 32.1
 
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
 
In connection with the Quarterly Report of Familymeds Group, Inc. (the “Company”) on Form 10-Q for the quarter ended June 30, 2007, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Edgardo A. Mercadante, President, Chief Executive Officer, Chairman of the Board and Principal Executive Officer of the Company, certify pursuant to 18 U.S.C. ss. 1350, as adopted pursuant to ss. 906 of the Sarbanes-Oxley Act of 2002, that to my knowledge:
 
(1) The Report fully complies with requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
 
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.
 
 
  
/s/ Edgardo A. Mercadante
 
Edgardo A. Mercadante
President, Chief Executive Officer,
Chairman of the Board and
Principal Executive Officer
December 18, 2007
 
 
 
 
 EX-32.2 5 v097384_ex32-2.htm
EXHIBIT 32.2
 
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
 
In connection with the Quarterly Report of Familymeds Group, Inc. (the “Company”) on Form 10-Q for the quarter ended June 30, 2007, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, James E. Searson, Senior Vice President, Chief Financial Officer and Principal Financial and Accounting Officer of the Company, certify pursuant to 18 U.S.C. ss. 1350, as adopted pursuant to ss. 906 of the Sarbanes-Oxley Act of 2002, that to my knowledge:
 
(1) The Report fully complies with requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
 
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.
 
   
/s/ James E. Searson
 
James E. Searson
Senior Vice President, Chief Financial Officer,
Principal Financial and Accounting Officer
December 18, 2007
 
 
 
 
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