Form 10-K for March 31, 2003

-----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, AnRi8iIfluxjLCigy+kO7cWB9bpGAM7HG7Cn1kFiall8DMFN5+Vk/4aq6PicYNdP ey54KvqYriqm8MxwVWiZww== 0001193125-03-019709.txt : 20030715 0001193125-03-019709.hdr.sgml : 20030715 20030715161835 ACCESSION NUMBER: 0001193125-03-019709 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20030331 FILED AS OF DATE: 20030715 FILER: COMPANY DATA: COMPANY CONFORMED NAME: DRUGMAX INC CENTRAL INDEX KEY: 0000921878 STANDARD INDUSTRIAL CLASSIFICATION: WHOLESALE-DRUGS PROPRIETARIES & DRUGGISTS' SUNDRIES [5122] IRS NUMBER: 341755390 STATE OF INCORPORATION: NV FISCAL YEAR END: 0331 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-15445 FILM NUMBER: 03787445 BUSINESS ADDRESS: STREET 1: 12505 STARKEY RD STREET 2: SUITE A CITY: LARGO STATE: FL ZIP: 33773 BUSINESS PHONE: 7275330431 MAIL ADDRESS: STREET 1: 6950 BRYAN DAIRY ROAD CITY: LARGO STATE: FL ZIP: 33777 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 FORMER COMPANY: FORMER CONFORMED NAME: NUMED SURGICAL INC DATE OF NAME CHANGE: 19940419 10-K 1 d10k.htm FORM 10-K FOR MARCH 31, 2003 Form 10-K for March 31, 2003

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended March 31, 2003

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File No. 1-15445

DRUGMAX, INC.,

formerly known as DrugMax.com, Inc.

(Exact name of registrant as specified in its charter)

STATE OF NEVADA		34-1755390
(State or other jurisdiction of incorporation or organization)		(IRS Employer Identification No.)

25400 US Highway 19 North, Suite 137, Clearwater, FL		33763
(Address of Principal Executive Officers)		(Zip Code)

Issuer’s telephone number: (727) 533-0431

Securities registered pursuant to Section 12(b) of the Exchange Act: None.

Securities registered pursuant to Section 12(g) of the Exchange Act:

Common stock, Par value $.001 per share

(Title of Class)

Indicate by check mark whether the issuer (1) filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark if no disclosure of delinquent filers in response to Item 405 of Regulation S-B is not contained in this form, and no disclosure will be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b2 of the Act). Yes ¨ No x

The aggregate market value of the Common Stock, $.001 par value, held by non-affiliates of the Registrant based upon the last price at which the common stock was sold as of the last business day of the Registrant’s most recently completed second fiscal quarter, September 30, 2002, as reported on the NASDAQ Stock Market was approximately $4,833,000. Shares of Common Stock held by each officer and director and by each person who owns 5% or more of the outstanding Common Stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

The number of shares outstanding of common stock as of July 9, 2003, was 7,178,976.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant’s definitive Proxy Statement to be used in connection with the Registrant’s 2003 Annual Meeting of Stockholders, which will be filed on or before July 29, 2003, are incorporated by reference in Part III, Items 10-13 of this Form 10-K. Except with respect to information specifically incorporated by reference in this Form 10-K, the Proxy Statement is not deemed to be filed as a part hereof.

CAUTIONARY STATEMENTS

Certain oral statements made by management from time to time and certain statements contained in press releases and periodic reports issued by DrugMax, Inc. (the “Company”), including those contained herein, that are not historical facts are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Because such statements involve risks and uncertainties, actual results may differ materially from those expressed or implied by such forward-looking statements. Forward-looking statements, including those in Management’s Discussion and Analysis of Financial Condition and Results of Operations, are statements regarding the intent, belief or current expectations, estimates or projections of the Company, its Directors or its Officers about the Company and the industry in which it operates, and assumptions made by management, and include among other items, (a) the Company’s strategies regarding growth and business expansion, including future acquisitions; (b) the Company’s financing plans; (c) trends affecting the Company’s financial condition or results of operations; (d) the Company’s ability to continue to control costs and to meet its liquidity and other financing needs; (e) the Company’s ability to respond to changes in customer demand and regulations. Although the Company believes that its expectations are based on reasonable assumptions, it can give no assurance that the anticipated results will occur. When used in this report, the words “expects,” “anticipates,” “intends,” “plans,” “believes,” “seeks,” “estimates,” and similar expressions are generally intended to identify forward-looking statements.

Important factors that could cause the actual results to differ materially from those in the forward-looking statements include, among other items, (i) changes in the regulatory and general economic environment related to the health care and pharmaceutical industries, including possible changes in reimbursement for healthcare products and in manufacturers’ pricing or distribution policies; (ii) conditions in the capital markets, including the interest rate environment and the availability of capital; (iii) changes in the competitive marketplace that could affect the Company’s revenue and/or cost bases, such as increased competition, lack of qualified marketing, management or other personnel, and increased labor and inventory costs; (iv) changes in technology or customer requirements, (v) changes regarding the availability and pricing of the products which the Company distributes, as well as the loss of one or more key suppliers for which alternative sources may not be available, (vi) customers’ willingness to accept the Company’s Internet platform and (v) the Company’s ability to integrate recently acquired businesses. Further information relating to factors that could cause actual results to differ from those anticipated is included but not limited to information under the headings “Business,” particularly under the subheading, “Risk Factors,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this Form 10-K. The Company disclaims any intention or obligation to update or revise forward-looking statements, whether as a result of new information, future events or otherwise.

TABLE OF CONTENTS

ITEM		PAGE
	PART I

1.	Business	4
2.	Properties	14
3.	Legal Proceedings	14
4.	Submission of Matters to a Vote of Security Holders	15

	PART II

5.	Market for Registrant’s Common Equity and Related Stockholder Matters	15
6.	Selected Financial Data	16
7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	17
7A.	Quantitative and Qualitative Disclosures About Market Risks	25
8.	Financial Statements and Supplementary Data	25
9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	53

	PART III

10.	Directors and Executive Officers of the Registrant	53
11.	Executive Compensation	53
12.	Security Ownership of Certain Beneficial Owners and Management	53
13.	Certain Relationships and Related Transactions	54
14.	Controls and Procedures	54

	PART IV

15.	Exhibits, Financial Statement Schedules, and Reports on Form 8-K	54

	Signatures	59

PART I

Item 1.

BUSINESS.

General

DrugMax, Inc. (Nasdaq: DMAX) is a full-line, wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care aids, nutritional supplements and other related products. The Company is headquartered in Clearwater, Florida and maintains distribution centers in Pennsylvania, Ohio, and Louisiana. The Company distributes its products primarily to independent pharmacies in the continental United States, and secondarily to small and medium-sized pharmacy chains, alternative care facilities and other wholesalers. The Company maintains an inventory in excess of 20,000 stock keeping units from leading manufacturers and holds licenses to ship to all 50 states and Puerto Rico.

History

The Company was founded in 1993 under the name NuMED Surgical, Inc. as a subsidiary of NuMED Home Health Care, Inc., a publicly traded company. The Company was created to complete the distribution of certain assets and liabilities associated with NuMED Home Health Care’s surgical/medical products division to its stockholders. NuMED Home Health Care, Inc. contributed all of those assets and liabilities to the Company, and then distributed all of the shares of the Company’s common stock to its stockholders. In connection with the spin off, the Company’s common stock was registered under the Securities Exchange Act of 1934, and the Company began trading as a separate public company.

In April 1997, the Company sold its major product line and subsequently disposed of its operating assets because of continued losses caused by increased competition and the loss of exclusivity of its products. The sale of the Company’s major product line and assets was completed by March 31, 1998, and, accordingly, from April 1, 1998, to September 8, 1998, the Company used a liquidation basis of accounting.

On March 17, 1999, the Company acquired all of the outstanding common stock of Nutriceuticals.com Corporation (“Nutriceuticals”), a Florida corporation formed in September 1998 to engage in the online retailing of natural products over the Internet. For accounting purposes, this acquisition was treated as an acquisition of the Company by Nutriceuticals and a recapitalization of Nutriceuticals. Although the Company was incorporated in Nevada on October 18, 1993, the Company’s date of inception is September 8, 1998 for accounting purposes. After the Company acquired Nutriceuticals, the Company changed its corporate name to Nutriceuticals.com Corporation.

In November 1999, the Company acquired all of the outstanding shares of common stock of Becan Distributors, Inc. (“Becan”), and its wholly owned subsidiary Discount Rx, Inc. (“Discount”), a wholesale distributor primarily of pharmaceuticals and, to a lesser extent, over-the-counter and health and beauty care products which had been in business since 1997. Following the acquisition of Becan, the Company changed its name to DrugMax.com, Inc. With the acquisition of Becan, the Company changed its primary focus from that of an online business-to-consumer retailer of vitamins and other health products to that of an e-commerce business-to-business wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care products and nutritional supplements. In March 2000, Becan was merged into the Company.

In March 2000, the Company diversified its operations by acquiring all of the issued and outstanding shares of common stock of Desktop Corporation, a Texas corporation located in Dallas, Texas. In addition, in May 2000, the Company formed Desktop Media Group, Inc. (“Desktop Media”) a Florida corporation, to develop web based and Internet software for the Company. On September 15, 2000, Desktop Corporation and Desktop Media executed Articles of Merger whereby Desktop Corporation was merged into Desktop Media, with Desktop Media Group, Inc. (“Desktop”) being the surviving entity. Desktop, in addition to being a designer and developer of customized Internet solutions, owned, at the time of acquisition, 50% of the outstanding shares of common stock of VetMall, LLC (later converted to a newly formed Florida corporation VetMall, Inc.) (“VetMall”), with the remaining shares being owned by W.A. Butler & Company (“Butler”), one of the nation’s largest veterinary products distributors. Concurrent with the acquisition of Desktop, the Company acquired an additional 20% interest in VetMall from Butler. In April 2003, Butler and the Company executed an agreement (the “April 2003 Agreement”) whereby Butler transferred its remaining 30% ownership in VetMall to the Company; accordingly, the Company now owns 100% of VetMall stock. Neither VetMall nor Desktop currently have any operations, and management anticipates the dissolution of these entities.

On April 19, 2000, the Company acquired Valley Drug Company (“Valley”), a full-line, primary wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care products and general merchandise. This acquisition helped the

Company expand its customer base, product line and market share, and provided the Company with the additional ability to serve its customers as a primary, full-line wholesale distributor, and offer them the convenience of one-stop shopping. Valley has been in operation since 1950, and its offices are located in Youngstown, Ohio. See “Acquisitions.”

In September 2001, the Company changed its name to DrugMax, Inc. to more appropriately reflect the Company’s business model.

On October 25, 2001, the Company’s wholly-owned subsidiary, Discount Rx, Inc., a Louisiana corporation, purchased substantially all of the net assets of Penner & Welsch, Inc. (“Penner”), a wholesale distributor of pharmaceuticals based in Louisiana, pursuant to an Agreement for the Purchase and Sale of Assets dated October 12, 2001. Penner was a Chapter 11 debtor which had voluntarily filed for Chapter 11 protection in the US Bankruptcy Court Eastern Division of Louisiana. Prior to its acquisition, commencing in September 2000, the Company managed the day-to-day operations of Penner, in exchange for a management fee equal to a percentage of the gross revenues of Penner each month. During such management period, the Company provided Penner with a collateralized revolving line of credit for the sole purpose of purchasing inventory from the Company. Penner has been in operation since 1963. The Company operates the acquired business in St. Rose, Louisiana under Valley Drug Company South, Inc. See “Acquisitions.”

On May 14, 2003, Discount Rx, Inc., a Nevada corporation and a wholly owned subsidiary of the Company, purchased substantially all of the assets, subject to certain liabilities, of Avery Pharmaceuticals, Inc., Avery Wholesale Pharmaceuticals, Inc., also known as Texas Vet Supply (jointly “Avery”), and Infinity Custom Plastics, Inc. (“Infinity”), wholesale distributors of pharmaceuticals and respiratory products based in Texas, pursuant to an Asset Purchase Agreement dated May 14, 2003 (the “Avery Agreement”).

Pursuant to the Avery Agreement, the Company acquired accounts receivable, inventory, equipment, furniture, the trade name and a patent pending for the process of the manufacture of vials for the respiratory therapy industry, which preliminarily totals $1,062,518. The liabilities assumed, which were comprised principally of trade payables, upon preliminary investigation, amounted to $912,518, and capital injected of $60,000. In addition, the Company executed a promissory note to the predecessor company’s 50% shareholder, as additional consideration. The $318,000 note includes a right of set off for accounts payable in excess of an agreed upon amount assumed at closing. The original note may not be reduced below $90,000 after set off, which management believes will be the adjusted note amount. Terms of the note provide for principal payments due monthly beginning July 5, 2003 through the due date of January 5, 2006. Interest on the note is due quarterly beginning September 5, 2003 at the rate of 6% per annum. Also, the Company executed a Consulting and Non-Competition Agreement (“Consulting Agreement”) with John VerVynck (“VerVynck”) an officer and shareholder of Avery and Infinity. The Consulting Agreement provides for the payment to VerVynck of $39,360, payable bi-monthly, over the six-month term of the Consulting Agreement. The Consulting Agreement prohibits VerVynck from competing for one year following his termination and the six-month term of the consulting agreement.

Industry Overview

Wholesale pharmaceutical distributors serve pharmacies and other healthcare providers by providing access to a single source for pharmaceutical and healthcare products from hundreds of different manufacturers. Wholesale pharmaceutical distributors lower customer inventory costs, provide efficient and timely product delivery, and provide valuable inventory and purchasing information. Customers also benefit from value-added programs developed by wholesale pharmaceutical distributors to reduce costs and to increase operating efficiencies for the customer, including packaging, stockless inventory, and pharmacy computer systems.

Wholesale distributors are critical links in the pharmaceutical supply chain, helping fuel the majority of the $192.2 billion in total prescription drug sales to retailers and institutions in 2001. The Unites States’ prescription drug sales increased 11.9% from $172 billion in 2001 to $192.2 billion in 2002. Prescription drug sales are expected to grow at an annual compound rate of 10% to 11% through 2003 according to IMS Health. The principal factors contributing to this historical and expected growth are the following:

•

Aging of Population. The number of individuals over age 50 in the United States is projected to grow from 28% of the population presently to 40% of the population in 2005. The aging population’s therapy needs will be in predictable categories that require continued treatment for diabetes, high cholesterol, heart disease and other health problems. This demographic group represents the largest percentage of new prescriptions filled and obtains more prescriptions per capita annually than any other age group.

•

Importance of the Wholesale Distribution Channel. Over the past decade, as the cost and complexity of maintaining inventories and arranging for delivery of pharmaceutical products has risen, manufacturers of pharmaceuticals have significantly increased the distribution of their products through wholesalers. Drug wholesalers are generally able to offer their customers more efficient distribution and inventory management than pharmaceutical manufacturers. According to

the Healthcare Distribution Management Association (“HDMA”), this channel saves healthcare systems over $186 billion each year by maximizing economies of scale, creating efficiencies, lowering expenses, and simplifying distribution.

•

Rising Pharmaceutical Costs. From 1990 to 2000, the average retail price of a prescription increased from $22.06 to $45.79. The Company believes that price increases for branded pharmaceutical products by manufacturers will continue to equal or exceed the overall increases in the Consumer Price Index (“CPI”). In 2000, actual pharmaceutical prices increased 3.9%, in line with the CPI increase of 3.4%.

•

Increased Drug Utilization. In recent years, a number of factors have contributed to the increased utilization of drug-based therapies to prevent and to treat disease. Manufacturers spent over $2.6 billion in direct-to-consumer advertising and $16 billion to reach physicians in 2001. In 2000, pharmaceutical manufacturers spent approximately $22.5 billion in research and development, up from approximately $1.6 billion in 1980. New drug offerings continue to grow, with 8,191 products in 2000 compared to 5,492 in 1995.

The Company believes that its size, operating structure, strategy and high level of customer service allow it to benefit from the trends impacting the industry. Further, the Company believes that the increasing size, scale and consolidation of the wholesale pharmaceutical industry’s national participants and their strategy to be primary or major distributors to national pharmacy chains create opportunities for smaller distributors such as the Company, which focus sales primarily on independent pharmacies and secondarily on small and medium-sized pharmacy chains, alternative care facilities and other wholesalers.

Objectives and Strategy

The Company’s primary business objective is to become a leading full-line wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care products, nutritional supplements and other related products, with a focus on sales primarily to independent pharmacies and secondarily on small and medium-sized pharmacy chains, and alternative care facilities. Historically, the Company has primarily grown its business through strategic acquisitions. In the future, the Company intends to continue to:

•

provide quality products and efficient service at competitive prices;

•

undertake beneficial strategic acquisitions;

•

market its name, products and services to create brand recognition and generate and capture traffic on its web site;

•

develop strategic relationships that increase the Company’s product offerings;

•

maintain technology focus and expertise to improve efficiency and ease of use of its web site; and

•

attract and retain exceptional employees.

Sales and Marketing, Customer Service and Support

The Company is a full-line, wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care aids, nutritional supplements and other related products. The majority of the Company’s sales are in the pharmaceutical product line. The Company’s pharmaceutical products are divided into generic and brand products. In general, brand products offer smaller margins than generic products or the other products offered by the Company. Accordingly, while the Company continues to distribute brand products as requested by its customers, it is currently focusing its efforts on growing its generic pharmaceutical, over-the-counter and other products lines. Additionally, from time to time the Company seeks to acquire additional complimentary product lines, as it did with its acquisitions of Avery and Infinity. See “Acquisitions.”

The Company distributes its products primarily to independent pharmacies in the continental United States, and secondarily to small and medium-sized pharmacy chains, alternative care facilities and other wholesalers. The Company’s products are sold both through traditional wholesale distribution lines and the Company’s web site, www.drugmax.com. Since the early December 1999 launch of its web site, over 9,000 independent pharmacies, small regional pharmacy chains, wholesalers and distributors have registered to purchase products through the Company’s web site. Although the Company expects that it will continue to derive a significant portion of its revenue from its traditional “brick and mortar” full-line wholesale distribution business, the Company believes its e-commerce, business-to-business model will allow the Company to leverage its existing wholesale distribution business, thus increasing its ability to effectively market and distribute its products.

The Company uses a variety of programs to stimulate demand for its products and increase traffic to its web site, including the following:

Direct Sales. The Company maintains employees to act as its direct sales force to target organizations that buy and sell the products it carries.

Telemarketing. The Company maintains an in-house telemarketing group for use in customer prospecting, lead generation and lead follow-up.

Advertising. The Company advertises in trade journals, at trade shows and engages in co-branding arrangements. In addition to strategic agreements and traditional advertising, the Company also uses many online sales and marketing techniques.

Customer Service and Support. The Company believes that it can establish and maintain long-term relationships with its customers and encourage repeat visits if, among other things, the Company has excellent customer support and service. The Company currently offers information regarding its products and services and answers customer questions about the ordering process, and investigates the status of orders, shipments and payments. A customer can access the Company by fax or e-mail by following prompts located on its web site or by calling the Company’s toll-free telephone line.

In addition, the Company is promoting, advertising and increasing recognition of its web site through a variety of marketing and promotional techniques, including:

•

enhancing online content and ease of use of the Company web site;

•

enhancing customer service and technical support; and

•

advertising in trade journals and at industry trade shows.

During the years ended March 31, 2003, 2002 and 2001, the Company’s 10 largest customers accounted for approximately 44%, 37% and 39%, respectively, of the Company’s net sales. The Company’s two largest customers during fiscal 2003, Supreme Distributors and QK Healthcare, accounted for approximately 17% and 11%, respectively, of net sales. In fiscal 2002, the Company’s largest customer, QK Healthcare, accounted for approximately 13% of net sales, and the Company’s largest customer in fiscal 2001, Penner and Welsch, Inc., accounted for approximately 16% of net sales.

Distribution

The Company’s wholesale distribution business is supported by three distribution centers located in Pittsburgh, Pennsylvania; Youngstown, Ohio; and St. Rose, Louisiana. These locations enable the Company to deliver approximately 95% of its products to its customers via next day delivery. The remaining product is distributed by its delivery vans in regions of eastern Ohio and western Pennsylvania, or by common carrier to more distant customers.

Purchasing

The Company purchases over 20,000 stock keeping units primarily from manufacturers and secondarily from other wholesalers and distributors. The Company utilizes sophisticated inventory control and purchasing software to track inventory, to analyze demand history and to project future demand. The system is designed to enhance profit margins by eliminating the manual ordering process, allowing for automatic inventory replenishment and identifying inventory buying opportunities. In addition, the Company’s purchasing department constantly monitors the market to take advantage of periodic volume discounts, market discounts and pricing changes.

The Company purchases products from approximately 400 vendors, such as Pfizer, Inc., Eli Lilly and Company, Merck and others. The Company initiates purchase orders with vendors through its information system. During fiscal years 2003, 2002 and 2001, the Company’s 10 largest vendors accounted for approximately 40% (by dollar volume) of the Company’s purchases for each year. Historically, the Company has not experienced difficulty in purchasing desired products from suppliers. The Company believes that its relationships with its suppliers are good.

Competition

The wholesale distribution of pharmaceuticals, health and beauty aids, and other healthcare products is highly competitive. The Company faces strong competition both in price and service from national, regional and local full-line, short-line and specialty wholesalers, service merchandisers, self-warehousing chains and from manufacturers engaged in direct distribution. In Pittsburgh, for example, where the Company maintains a distribution facility, there are a number of suppliers that provide branded pharmaceuticals and other products to independent pharmacies, Internet pharmacies, clinics and other licensed outlets. These competitors compete primarily on the basis of service and price. Other competitive factors include delivery service, credit terms, breadth of product line, customer support, merchandising and marketing programs. Certain of the Company’s competitors, including McKesson HBOC, Inc., AmerisourceBergen Corporation, and Cardinal Health Inc., have significantly greater financial and marketing resources, longer operating histories and larger customer bases than the Company does. In addition, many of the Company’s competitors have greater brand recognition and significantly greater financial, marketing and other resources, and may be able to:

•

secure merchandise from vendors on more favorable terms;

•

devote greater resources to marketing and promotional campaigns; and

•

adopt more aggressive pricing or inventory availability policies.

In addition, certain of the Company’s competitors, such as McKesson HBOC, Inc., AmerisourceBergen Company, and Cardinal Health, Inc. have developed or may be able to develop e-commerce operations that compete with the Company’s e-commerce operations, and may be able to devote substantially more resources to web site development and systems development than the Company. The online commerce market is rapidly evolving and intensely competitive. The Company expects competition to intensify in the future because barriers to entry are minimal, and current and new competitors can launch new web sites at relatively low cost.

Government Regulations and Legal Uncertainties

The manufacturing, packaging, labeling, advertising, promotion, distribution and sale of most of the Company’s products are subject to regulation by numerous governmental agencies, including the United States Food and Drug Administration, which regulates most of its products under the Federal Food, Drug and Cosmetic Act. The Company’s products are also subject to regulation by, among other regulatory agencies, the Consumer Product Safety Commission, the United States Department of Agriculture and the United States Department of Environmental Regulation. Furthermore, the Company and/or its customers are subject to extensive licensing requirements and comprehensive regulation governing various aspects of the healthcare delivery system, including the so called “fraud and abuse” laws. The fraud and abuse laws and regulations are broad in scope and are subject to frequent modification and varied interpretations.

The Company’s advertising is also subject to regulation by the Federal Trade Commission under the Federal Trade Commission Act, in addition to state and local regulation. The Federal Trade Commission Act prohibits unfair methods of competition and unfair or deceptive acts or practices in or affecting commerce. The Federal Trade Commission Act also provides that the dissemination or the causing to be disseminated of any false advertisement pertaining to drugs or foods is an unfair or deceptive act or practice. Under the Federal Trade Commission’s Substantiation Doctrine, an advertiser is required to have a “reasonable basis” for all objective product claims before the claims are made. Failure to adequately substantiate claims may be considered either deceptive or unfair practices.

In addition, the Company’s products function within the structure of the healthcare financing and reimbursement system of the United States. As a result of a wide variety of political, economic and regulatory influences, this system is currently under intense scrutiny and subject to fundamental changes. In recent years, the system has changed significantly in an effort to reduce costs. These changes include increased use of managed care, cuts in Medicare, consolidation of pharmaceutical and medical-surgical supply distributors, and the development of large, sophisticated purchasing groups. In addition, a variety of new approaches have been proposed to continue to reduce cost. Because of uncertainty regarding the ultimate features of reform initiatives and their enactment and implementation, the Company cannot predict which, if any, of such reform proposals will be adopted, when they may be adopted, or what impact they may have on the Company. While the Company uses its best efforts to adhere to the regulatory and licensing requirements, as well as any other requirements affecting the Company’s products, compliance with these often requires subjective legislative interpretation. Consequently, the Company cannot assure that its compliance efforts will be deemed sufficient by regulatory agencies and commissions enforcing these requirements. Violation of these regulations may result in civil and criminal penalties. See “Risk Factors.”

Intellectual Property

The principal trademarks and service marks of the Company include DRUGMAX^® and DRUGMAX.COM^®. The marks are registered in the United States. The United States federal registrations of these trademarks and service marks have ten-year terms and are subject to unlimited renewals. The Company believes that protecting its trademarks and registered domain names is important to its business strategy of building strong brand name recognition and that such trademarks have significant value in the marketing of the Company’s products. To protect its proprietary rights, the Company relies on copyright, trademark and trade secret laws, confidentiality agreements with employees and third parties, and license agreements with consultants, vendors and customers. Despite such protections, however, the Company may be unable to fully protect its intellectual property. See “Risk Factors.”

Employees

The Company employs 81 persons, 73 of which are full-time employees, and one consultant. Labor unions do not represent any of these employees. The Company considers its employee relations to be good.

Employees are permitted to participate in employee benefit plans of the Company that may be in effect from time to time, to the extent eligible. Each of the employees is eligible for stock option grants in accordance with the provisions of the Company’s 1999 Stock Option Plan, as determined by the Administrator of the Plan.

In August 1999, the Company’s Board of Directors adopted the Company’s 1999 Stock Option Plan (“1999 Plan”). The purpose of the 1999 Plan is to enable the Company to attract and retain top-quality executive employees, officers, directors and consultants and to provide such executive employees, officers, directors and consultants with an incentive to enhance stockholder return. The 1999 Plan provides for the grant to officers, directors, or other key employees and consultants of the Company, of options to purchase an aggregate of 2,000,000 shares of common stock.

ACQUISITIONS

The Company made the following acquisitions during the last three fiscal years:

Valley Drug Company

On April 19, 2000, DrugMax Acquisition Corporation, a wholly owned subsidiary of the Company, Valley Drug Company (“Valley”), Ronald J. Patrick (“Patrick”) and Ralph A. Blundo (“Blundo” and together with Patrick, the “Sellers”) signed a Merger Purchase Agreement pursuant to which the Company acquired Valley. In connection with the merger, the Sellers received an aggregate of 226,666 shares of the Company’s common stock and cash in the amount of $1.7 million. Valley loaned the Sellers $170,000, of which $100,000 is outstanding at March 31, 2003, to pay for a portion of the flow through effects of their S Corporation taxable income resulting from the sale of Valley. These interest-free notes receivable are to be repaid upon the Sellers’ sale of Company common stock, which was restricted stock subject to a holding period which ended April 19, 2001. In addition, the Sellers deposited 22,666 shares of the Company’s common stock with an escrow agent (the “Holdback Shares”). Based on audited financial statements of Valley as of April 19, 2000, the stockholders’ equity amounted to $400,667, which was $141,160 less than the threshold amount of $541,827. Therefore, 9,411 of the Holdback Shares have been returned to the Company. After consideration of the return of the Holdback Shares, a total of 217,255 shares at $10.125 per share were issued for the acquisition.

Penner and Welsch, Inc.

On October 25, 2001, Discount, a wholly-owned subsidiary of the Company, purchased substantially all of the net assets of Penner & Welsch, Inc. (“Penner”), a wholesale distributor of pharmaceuticals based in Louisiana, pursuant to an Agreement for the Purchase and Sale of Assets dated October 12, 2001 (“the Agreement”). As previously reported by the Company, Penner was a Chapter 11 debtor which had voluntarily filed for Chapter 11 protection in the US Bankruptcy Court Eastern Division of Louisiana. Prior to this acquisition, commencing in September 2000, the Company managed the day-to-day operations of Penner, in exchange for a management fee equal to a percentage of the gross revenues of Penner each month. During the management period, the Company provided Penner with a collateralized revolving line of credit for the sole purpose of purchasing inventory from the Company. Pursuant to the Agreement, Penner received an aggregate of 125,418 shares of restricted common stock of the Company, valued at $5.98 per share, cash in the amount of $488,619, and forgiveness of $1,604,793 in trade accounts payable and management fees owed to Discount. The source of the funds used to acquire Penner’s assets was the working capital of the Company. The Agreement, including the nature and amount of the consideration paid to Penner, was negotiated between the parties and, on October 15, 2001, was approved by the US Bankruptcy Court, Eastern Division of Louisiana. The Company operates the acquired business under Valley Drug Company South, Inc., its wholly owned subsidiary.

Avery Pharmaceuticals, Inc.

month term of the Consulting Agreement. The Consulting Agreement prohibits VerVynck from competing for one year following his termination and the six-month term of the consulting agreement.

RISK FACTORS

In addition to the other information in this Form 10-K, the following should be considered in evaluating the Company’s business and prospects:

The Company’s business could be adversely affected if relations with any of its significant suppliers are terminated.

The Company’s ability to purchase pharmaceuticals, or to expand the scope of pharmaceuticals purchased, from a particular supplier is largely dependent upon such supplier’s assessment of the Company’s creditworthiness and the Company’s ability to resell the products it purchases. The Company is also dependent upon its suppliers’ continuing need for, and willingness to utilize, the Company’s services to help them manage their inventories. If the Company ceases to be able to purchase pharmaceuticals from any of its significant suppliers, such occurrence could have a material adverse effect on the Company’s business, results of operations and financial condition because many suppliers own exclusive patent rights and are the sole manufacturers of certain pharmaceuticals. If the Company becomes unable to purchase patented products from any such supplier, it could be required to purchase such products from other distributors on less favorable terms, and the Company’s profit margin on the sale of such products could be reduced or eliminated. Substantially all of the Company’s agreements with suppliers are terminable by either party upon short notice and without penalty. See “Business.”

The Company’s industry has experienced declining margin percentages in recent years and, if this trend continues, the Company’s business could be adversely affected.

Over the past decade, participants in the wholesale pharmaceutical distribution industry have experienced declining gross and operating margin percentages. Industry sources estimate that the average gross margin percentage of companies in the industry has decreased from approximately 7.35% in 1990 to approximately 4.20% in 1999. The Company’s gross margin percentage decreased from approximately 3.11% in 2001 to approximately 2.77% in 2002, and increased to approximately 2.78% in 2003. The profitability of wholesale distributors, including the Company, is largely dependent upon earning volume incentives, cash discounts and rebates from pharmaceutical manufacturers. The Company’s profitability is also increasingly dependent on its ability to purchase inventory in advance of anticipated or known manufacturer price increases. Although investment buying opportunities may enable the Company to increase its gross margin percentage when manufacturers increase prices, such buying requires subjective assessments of future price changes as well as significant working capital. If the Company’s gross margin percentages decline significantly, or if the Company’s assessments of future price changes are incorrect, or if the Company does not have the necessary working capital to take advantage of buying opportunities, the Company’s profitability could be materially adversely affected. To increase its margins, while the Company continues to distribute brand products as requested by its customers, it is currently focusing its efforts on growing its generic pharmaceutical, over-the-counter and other products lines. Additionally, from time to time the Company seeks to acquire additional complimentary product lines, as it did with its acquisition of Avery and Infinity. See “Acquisitions.” However, there can be no assurances that the Company will be successful in this regard. Growth in higher-margin products requires significant marketing and sales efforts, which may not be successful. Low demand for higher-margin products could prevent the Company from increasing its sales of these products, and increased competition in higher-margin products could reduce the margins on these products.

The loss of one or more of the Company’s largest customers or a significant decline in the level of purchases made by one or more of the Company’s largest customers could hurt the Company’s business by reducing the Company’s revenues and earnings.

As is customary in the Company’s industry, the Company’s customers are generally permitted to terminate the Company’s relationship or reduce purchasing levels on relatively short notice and without penalty. Termination of a relationship by a significant customer or a significant decline in the level of purchases made by a significant customer could have a material adverse effect on the Company’s business, results of operations and financial condition. Additionally, an adverse change in the financial condition of a significant customer, including an adverse change as a result of a change in governmental or private reimbursement programs, could have a material adverse effect on the Company’s ability to collect its receivables from the customer and the volume of its sales to the customer.

The Company’s markets are highly competitive and it may be unable to compete effectively.

The pharmaceutical and over-the-counter product industries are intensely competitive. To strategically respond to changes in the competitive environment, the Company may sometimes make pricing, service or marketing decisions or acquisitions that could materially hurt its business. The Company cannot guarantee that it can compete successfully against current and future competitors. See “Business—Competition.”

The Company’s business could be adversely affected if it lost any of its key personnel.

The Company is dependent on the services of the Company’s senior management and on the relationships between the Company’s key personnel and the Company’s significant customers and suppliers. The Company has entered into employment agreements or non-competition agreements with the key members of the Company’s management team. The loss of certain members of the Company’s senior management or of key purchasing or sales personnel, particularly the Company’s Chief Executive Officer, Chief Operating Officer, and Chief Financial Officer, could have a material adverse effect on the Company’s business, results of operations and financial condition. The Company generally does not carry life insurance policies on the lives of the Company’s key senior managers or key purchasing or sales personnel. As is generally true in the industry, if any of the Company’s senior management or key personnel with an established reputation within the industry were to leave the Company’s employment, there can be no assurance that the Company’s customers or suppliers who have relationships with such person would not purchase products from such person’s new employer, rather than from the Company.

The Company’s business could suffer if it is unable to complete and integrate acquisitions successfully.

One aspect of the Company’s growth and operating strategy is to pursue strategic acquisitions of other pharmaceutical wholesalers and companies that expand or complement the Company’s business. The Company cannot assure that suitable acquisition candidates will be identified, that acquisitions can be consummated on acceptable terms, that any acquired companies can be integrated successfully into the Company’s operations or that the Company will be able to retain an acquired company’s significant customer and supplier relationships or otherwise realize the intended benefits of any acquisition. Any such expansion could require significant capital resources and divert management’s attention from the Company’s existing business. Such acquisitions could also result in liabilities being incurred that were not known at the time of acquisition or the creation of tax and accounting problems. Failure to accomplish future acquisitions could limit the Company’s revenues and earnings potential.

The Company intends to continue to seek investments in complementary businesses, product lines and technology. If the Company buys a company, or an operating division, the Company could have difficulty in assimilating the personnel and operations. In addition, the key personnel of an acquired company may decide not to work for the Company and customers and vendors of the acquired company may decide not to do business with the Company. The Company could also have difficulty in assimilating the acquired business, products or technology into its operations. These difficulties could disrupt its ongoing business, distract its management and employees and increase its expenses. In addition, future acquisitions could have a negative impact on its business, financial condition and results of operations. Furthermore, the Company may have to incur debt or issue equity securities to pay for any future acquisition, the issuance of which may be dilutive to its existing stockholders.

If not managed efficiently, the Company’s rapid growth may divert management’s attention from the operation of its business which could hinder its ability to operate successfully.

The Company’s growth has placed, and its anticipated continued growth will continue to place, significant demands on its managerial and operational resources. The Company’s failure to manage its growth efficiently may divert management’s attention from the operation of its business and render the Company unable to keep pace with its customers’ demands.

The Company may require additional capital in the future which may not be available to the Company.

The Company has recently entered into a new line of credit agreement with Congress Financial Corporation, which the Company believes is sufficient for its immediately foreseeable needs. However, the Company’s future capital requirements will depend upon many factors, including, but not limited to:

•

the extent to which the Company can develop and brand the Company’s name;

•

the frequency with which the Company can make future acquisitions;

•

the rate at which the Company can hire additional personnel;

•

the rate at which the Company can expand the services that it offers; and

•

the extent to which the Company can develop and upgrade the Company’s technology.

Because of these factors, the Company’s actual revenues and costs are uncertain and may vary considerably. These variations may significantly affect the Company’s future need for capital. The actual amount and timing of the Company’s future capital requirements may differ materially from the Company’s estimates. In particular, the Company’s estimates may be inaccurate as a result of changes and fluctuations in the Company’s revenues, operating costs and development expenses. The Company’s revenues, operating costs and development expenses will be negatively affected by any inability to:

•

effectively and efficiently manage the expansion of the Company’s operations;

•

negotiate favorable contracts and relationships with manufacturers, distributors and wholesalers; and

•

obtain brand recognition, attract a sufficient number of customers or increase the volume of e-commerce sales of the Company’s products.

Adequate funds may not be available when needed or may not be available on favorable terms. If funding is insufficient at any time in the future, the Company may be unable to develop or enhance its products or services, take advantage of business opportunities or respond to competitive pressures, any of which could harm the Company’s business.

The Company’s stock price may be volatile.

The market price of the Company’s common stock may be subject to significant fluctuations in response to various factors, including:

•

quarterly fluctuations in the Company’s operating results;

•

changes in securities analysts’ estimates of the Company’s future earnings; and

•

the Company’s loss of significant customers or suppliers or significant business developments relating to the Company’s competitors.

The Company’s common stock’s market price also may be affected by the Company’s ability to meet analysts’ expectations, and any failure to meet such expectations, even if minor, could cause the market price of the Company’s common stock to decline. Because the number of shares of common stock publicly traded is small relative to the number of publicly traded shares of many other companies, the market price of the common stock may be more susceptible to fluctuation. In addition, stock markets have generally experienced a high level of price and volume volatility, and the market prices of equity securities of many companies have experienced wide price fluctuations not necessarily related to the operating performance of such companies. These broad market fluctuations may adversely affect the common stock’s market price.

The Company’s operations and quarterly results are not subject to seasonality and variability.

Management believes that the Company’s business is not seasonal; however, significant promotional activities can have a direct impact on sales volumes in any given quarter.

Changes in the healthcare industry could adversely affect the Company.

The healthcare industry has undergone significant change in recent years as a result of various efforts to reduce costs, including proposed national healthcare reform, trends toward managed care, spending cuts in Medicare, consolidation of pharmaceutical and medical/surgery supply distributors, the development of large, sophisticated purchasing groups and efforts by traditional third party payors to contain or reduce healthcare costs. The Company cannot predict whether these trends will continue or whether any other healthcare reform efforts will be enacted and what effect any such reforms may have on the Company’s practices and products or the Company’s customers and suppliers. Any future changes in the healthcare industry, including a reduction in governmental financial support of healthcare services, adverse changes in legislation or regulations governing the delivery or pricing of prescription drugs, healthcare services or mandated benefits may cause healthcare industry participants to significantly reduce the amount of the Company’s products and services they purchase or the price they are willing to pay for the Company’s products and services. Changes in pharmaceutical manufacturers’ pricing or distribution policies could also significantly and adversely affect the Company’s revenues, margins and profitability. See “Business.”

The Company could be adversely affected if there are changes in the regulations affecting the healthcare industry or if it fails to comply with current regulations applicable to the Company’s business.

The healthcare industry is more heavily regulated than many other industries. As a distributor of certain controlled substances and prescription pharmaceuticals, the Company is required to register with and obtain licenses and permits from certain federal and state agencies and must comply with operating and security measures prescribed by those agencies. The Company is also subject to various

regulations including the 1987 Prescription Drug Marketing Act, an amendment to the federal Food, Drug and Cosmetic Act, which regulates the purchase, storage, security and distribution of prescription pharmaceuticals. The Company’s compliance with these regulations is monitored through periodic site inspections conducted by various governmental agencies. Any failure to comply with these regulations or to respond to changes in these regulations could result in penalties on the Company such as fines, restrictions on the Company’s operations or a temporary or permanent closure of the Company’s facilities. These penalties could harm the Company’s operating results. The Company cannot assure that future changes in applicable laws or regulations will not materially increase the costs of conducting business or otherwise have a material adverse effect on the Company’s business, results of operations and financial condition. See “Business.”

The Company may not successfully protect its intellectual property.

The principal trademarks and service marks of the Company include DRUGMAX^® and DRUGMAX.COM^®. The marks are registered in the United States. The United States federal registrations of these trademarks and service marks have ten year terms and are subject to unlimited renewals. The Company believes that protecting its trademarks and registered domain names is important to its business strategy of building strong brand name recognition and that such trademarks have significant value in the marketing of the Company’s products. To protect its proprietary rights, the Company relies on copyright, trademark and trade secret laws, confidentiality agreements with employees and third parties, and license agreements with consultants, vendors and customers. Despite such protections, however, the Company may be unable to fully protect its intellectual property.

To date, the Company’s business has not been interrupted as the result of any claim of infringement. However, the Company cannot guarantee it will not be adversely affected by the successful assertion of intellectual property rights belonging to others. The effects of such assertions could include requiring the Company to alter or withdraw existing trademarks or products, delaying or preventing the introduction of products, or forcing the Company to pay damages if the products have been introduced. The steps it takes to protect its proprietary rights may be inadequate, or third parties might infringe or misappropriate its trade secrets, copyrights, trademarks, trade dress and similar proprietary rights. In addition, others could independently develop substantially equivalent intellectual property. The Company may have to litigate in the future to enforce its intellectual property rights, to protect its trade secrets or to determine the validity and scope of the proprietary rights of others. Such litigation could result in substantial costs and the diversion of its management and technical resources which could harm the Company’s business.

The Company also utilizes the registered domain names www.drugmax.com. and www.penwel.com. Currently, the acquisition and maintenance of domain names is regulated by governmental agencies and their designees. The regulation of domain names in the United States and in foreign countries is expected to change in the near future. These changes could include the introduction of additional top level domains, which could cause confusion among web users trying to locate its sites. As a result, the Company may not be able to maintain its domain names. Furthermore, the relationship between regulations governing domain names and laws protecting trademarks and similar proprietary rights is unclear. The Company may be unable to prevent third parties from acquiring domain names that are similar to those belonging to the Company. The acquisition of similar domain names by third parties could cause confusion among web users attempting to locate the Company’s site and could decrease the value of its brand name.

A disruption in the Company’s information systems could adversely affect its business.

The Company is dependent on the Company’s information systems to receive and process customer orders, initiate orders with product suppliers, distribute products to the Company’s customers in a timely and cost-effective manner, track and secure inventory and maintain compliance with federal and state regulations. Any disruption in the Company’s information systems could thus have a material adverse effect on the Company’s business, results of operations and financial condition.

The Company hosts and maintains its web site and contracts with a third party that provides backup web hosting services. The backup provider delivers a secure platform for server hosting with uninterruptible power supply and back up generators, fire suppression, raised floors, heating ventilation and air-conditioning, separate cooling zones, operations twenty-four-hours-a-day, seven-days-a-week. To protect the customer information the Company receives, the Company uses SSL (Secure Socket Layer) encrypted protocol, user names and passwords, and other tools. The Company also has its own certificate server from Microsoft that encrypts the registration session to protect the customer information. In addition, the Company has taken steps to protect the registration information residing in its servers by using firewalls, backups and other preventive measures designed to protect the privacy of its customers. The Company restricts access to customer personal and financial data to those authorized employees who have a need for these records. The Company does not release information about its customers to third parties without the prior written consent of its customers unless otherwise required by law.

Notwithstanding these precautions, the Company cannot assure that the security mechanisms will prevent security breaches or service breakdowns. Despite the network security measures the Company has implemented, its servers may be vulnerable to computer viruses,

physical or electronic break-ins or other similar disruptions. Such a disruption could lead to interruptions or delays in its service, loss of data, or its inability to accept and fulfill customer orders. Any of these events could materially affect the Company’s business.

The Company is subject to capacity constraint system development risks which may result in its inability to service its customers and meet its growth expectations.

A key element of its strategy is to generate a high volume of traffic on, and use of, the Company’s web site. Accordingly, the Company’s web site transaction processing systems and network infrastructure performance, reliability and availability are critical to its operating results. These factors are also critical to its reputation and its ability to attract and retain customers and maintain adequate customer service levels. The volume of goods it sells and the attractiveness of its product and service offerings will decrease if there are any systems interruptions that affect the availability of its web site or its ability to fulfill orders. The Company expects to continually enhance and expand its technology and transaction processing systems, and network infrastructure and other technologies, to accommodate increases in the volume of traffic on its web site. The Company may be unsuccessful in these efforts or its may be unable to accurately project the rate or timing of increases in the use of its web site. The Company may also fail timely to expand and upgrade its systems and infrastructure to accommodate these increases.

Item 2.

PROPERTIES.

The Company does not own or hold any legal or equitable interest in any real estate. The Company leases its principal administrative, marketing and customer service facility containing approximately 5,216 square feet of air-conditioned office space, located at 25400 US Highway 19 North, Suite 137, Clearwater Florida 33763. The term of the lease for the Clearwater office is for five years expiring January 14, 2008, with an initial monthly lease payment of $6,303. The Company leases for its Pittsburgh facility, 1,424 square feet of office and 1,176 square feet of warehouse space located at 203 Parkway West Industrial Park, Pittsburgh, Pennsylvania 15205. The term of the lease for the Pittsburgh facility is for three years expiring February 28, 2006, with a monthly lease payment of $1,658. The Youngstown facility is located at 318 West Boardman Street, Youngstown, Ohio 44503 and consists of approximately 30,000 square feet of office (approximately 3,000 air conditioned space for offices), warehouse, shipping and distribution space. The premises are leased pursuant to a lease with a base term of five years expiring December 30, 2003, with a monthly lease payment of $6,000, renewable for an additional five years under the same terms. Management believes that a more modern and efficient warehouse facility would be beneficial to Valley’s operations, and expects to enter into a long-term lease arrangement with a property development company, which is owned by certain officers, directors, shareholders and key employees of the Company, with terms and conditions negotiated at market rate, with an expected occupancy date in December 2003, which will replace the existing lease for the Youngstown facility. The Company leases for its subsidiary, Discount, a building located at 10016 River Road, St. Rose, Louisiana, 70087, from River Road Real Estate LLC, a related party (See Note 13 of the consolidated financial statements.) The building consists of approximately 39,000 square feet of air-conditioned office and warehouse space. The lease for the St. Rose location is for a term of five years expiring October 2006, and carries a monthly lease payment of $15,000.

Item 3.

LEGAL PROCEEDINGS.

From time to time, the Company may become involved in litigation arising in the ordinary course of its business. The Company is not presently subject to any material legal proceedings other than as set forth below.

The Company previously executed an engagement letter with GunnAllen Financial (“GAF”) with an effective date of August 20, 2001, for consulting services over a three month period from the effective date, and renewable month to month thereafter until terminated by either party with a thirty day notice. The GAF agreement required that the Company pay to GAF, for consulting services performed, $5,000 per month plus expenses capped at $2,000 per month, and further required the Company to issue a warrant to GAF exercisable for a period of five years to purchase 100,000 shares of the Company’s common stock at an exercise price of $5.80 per share. However, on October 12, 2001, the Company terminated the agreement with GAF and informed GAF that GAF was in breach of contract under the Agreement and that, accordingly, no warrants would be issued to GAF and no further fees would be paid to GAF. The Company also demanded the return of all fees previously paid to GAF. At March 31, 2003, no warrants had been issued to GAF. As of July 9, 2003 GAF had not instituted any legal proceedings against the Company. The Company cannot reasonably estimate any future possible loss as a result of this matter. The Company has made no provision in the accompanying consolidated financial statements for resolution of this matter.

among other things, that the Company had breached the Reorganization Agreement by failing to pay 38,809 shares of the Company’s common stock to plaintiffs. The complaint also includes a count of conversion and further alleges that the Company breached its employment agreements with Messrs. Miller and Fagala, for which the plaintiffs seek monetary damages. On March 11, 2002, the Company filed its answer, affirmative defenses and counterclaim against plaintiffs and HCT Capital Corp., in which it alleged, among other things, that plaintiffs had breached the Reorganization Agreement by misrepresenting the state of the acquired business, that the Company was entitled to set off its damages against the shares which the plaintiffs are seeking and further seeking contractual indemnity against the plaintiffs. On April 16, 2002, HCT Capital Corp. filed its answer, counterclaim against the Company and cross-claim against the plaintiffs. In September of 2002, Plaintiffs served the Company with written discovery requests. Since then there has been no activity by Plaintiffs or HCT, and the Company is currently considering how to proceed in light of this inactivity. The Company intends to vigorously defend the actions filed against it and to pursue its counterclaim. The Company cannot reasonably estimate any future possible loss as a result of this matter. The Company has made no provision in the accompanying consolidated financial statements for resolution of this matter.

On May 1, 2002, the Company filed suit against an established customer of the Company’s Pittsburgh distribution center for collection of past due accounts receivable. The customer accounted for approximately $4.1 million, or 1.5%, of the gross revenue of the Company in the fiscal year ended March 31, 2002. The Company has an unconditional personal guaranty signed by the customer’s owner. On May 23, 2002, the customer filed a voluntary petition in bankruptcy in the U.S. Bankruptcy Court, under Chapter Eleven of the United States Bankruptcy Act, subsequent to which the customer failed to file the proper financial data with the court, causing the voluntary bankruptcy filing to be withdrawn. Management is continuing to pursue its claim for payment through the courts and working with the major creditors to process return of inventory. In the fiscal year ended March 31, 2003, the Company has established an allowance for the account receivable of $669,000 and accrued $19,132 for legal costs.

Item 4.

SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.

Not applicable.

PART II

Item 5.

MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

The Company’s common stock is traded on the Nasdaq SmallCap Market under the symbol “DMAX.” The following table sets forth the closing high and low bid prices for the Company’s common stock on the Nasdaq SmallCap Market for each calendar quarter during the Company’s last two fiscal years, as reported by Nasdaq. Prices represent inter-dealer quotations without adjustment for retail markups, markdowns or commissions and may not represent actual transactions.

		Common Stock
		High		Low
2002	First Quarter	$	7.00	$	3.25
	Second Quarter	$	7.50	$	3.65
	Third Quarter	$	7.25	$	5.00
	Fourth Quarter	$	6.25	$	3.50

2003	First Quarter	$	4.20	$	1.96
	Second Quarter	$	2.60	$	1.10
	Third Quarter	$	1.58	$	0.85
	Fourth Quarter	$	1.45	$	0.97

2004	First Quarter	$	2.00	$	0.97

As of July 9, 2003, there were approximately 780 shareholders of record of the Company’s common stock.

Historically, the Company has not declared or paid any cash dividends on its common stock. It currently intends to retain any future earnings to fund the development and growth of its business. Any future determination to pay dividends on the common stock will depend upon the Company’s results of operations, financial condition and capital requirements, applicable restrictions under any credit

facilities or other contractual arrangements and such other factors deemed relevant by the Company’s Board of Directors. The Company’s current credit facility prohibits the payment of dividends.

Equity Compensation Plan Information

The following table sets forth certain information regarding the Company’s equity compensation plan as of March 31, 2003:

Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants and rights	Weighted-average exercise price of outstanding options, warrants and rights		Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))
	(a)	(b)		(c)
Equity compensation plan approved by securities holders (1)	1,656,634	$	4.25	343,666
Equity compensation plan not approved by security holders (2)	150,000	$	16.50	—

Total	1,806,634	$	5.25	343,666

Reflects options to purchase shares of the Company’s common stock and shares available for issuance under the Company’s 1999 Stock Option Plan.

Represents a warrant to purchase 150,000 shares of common stock at an exercise price of $16.50 granted to the Company’s underwriters in connection with its 1999 public offering. See Note 12 to the consolidated financial statements.

Please see Note 12 to the Company’s Consolidated Financial Statements for a description of the 1999 Stock Option Plan.

Item 6.

SELECTED FINANCIAL DATA.

The following selected financial data should be read in conjunction with the Company’s Consolidated Financial Statements and related Notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this Annual Report. The statement of operations data for the years ended March 31, 2003, 2002 and 2001 and the balance sheet data as of March 31, 2003 and 2002, are derived from, and are qualified by reference to our audited Consolidated Financial Statements included in this Annual Report. The statement of operations data for the years ended March 31, 2000 and 1999 and the balance sheet data as of March 31, 2001, 2000 and 1999 are derived from the Company’s audited Consolidated Financial Statements which are not included in this Annual Report. When appropriate, certain amounts have been reclassified to conform with the presentation for fiscal year ended March 31, 2003. Historical results are not necessarily indicative of results which may be expected for any future period.

	Fiscal year ended March 31, (amounts in thousands, except per share amounts)
	2003(a)			2002(b)		2001(c)			2000(d)			1999(e)
Statement of Operations:
Revenues	$	291,752		$	271,288	$	177,713		$	21,051		$	37
Gross profit		8,105			7,513		5,531			144			23
Selling, general and administration expenses		7,762			5,389		5,163			1,557			129
Depreciation and amortization		325			260		2,798			520			—
Goodwill, intangible asset, and asset impairment loss		12,468			—		4,440			—			—
Operating (loss) income		(12,450	)		1,864		(6,870	)		(1,933	)		(106	)
(Loss) income before extraordinary item and income tax benefit		(13,476	)		904		(8,734	)		(2,124	)		(104	)
Net (loss) income		(13,162	)		2,007		(9,306	)		(2,124	)		(104	)
Earnings per share—basic
(Loss) income before extraordinary item		(1.85	)		0.29		(1.36	)		(0.55	)		(0.08	)
Net income (loss)		(1.85	)		0.29		(1.45	)		(0.55	)		(0.08	)
Earnings per share—diluted
(Loss) Income before extraordinary item		(1.85	)		0.28		(1.36	)		(0.55	)		(0.08	)
Net (loss) income		(1.85	)		0.28		(1.45	)		(0.55	)		(0.08	)
Balance Sheet:
Cash and cash equivalents and restricted cash	$	2,161		$	2,167	$	2,436		$	6,020		$	57
Accounts receivable—net		11,340			14,002		14,864			4,106			9
Inventory		19,459			20,682		10,694			1,416			16
Property and equipment—net		768			990		505			693			48
Goodwill		13,105			25,314		25,179			26,081			—
Total assets		50,274			66,303		54,631			40,003			136
Accounts payable		14,619			13,845		11,448			3,171			80
Credit line payable		15,944			18,930		11,944			2,391			—
Stockholders’ equity		18,284			31,447		26,578			33,482			38
Total liabilities and stockholders’ equity		50,274			66,303		54,631			40,003			136

(a)

Includes $12.5 million of goodwill and intangible asset impairment loss, and $.3 million deferred income tax benefit.

(b)

Includes $1.1 million deferred income tax benefit, net of $.4 million deferred income tax expense.

(c)

Includes $4.4 million goodwill and asset impairment loss, and amortization of goodwill of $2.5 million.

(d)

Fiscal 2000 includes sales from only the Pittsburgh facility, which was acquired by the Company in November 1999.

(e)

Net sales reported in fiscal 1999 were derived from the Company’s e-commerce business started in September 1998.

The Company historically has primarily grown its business through strategic acquisitions. The Company currently has three distribution centers, all of which were acquired as follows: In November 1999, the Company acquired Becan (and its subsidiary, Discount), in April 2000, the Company acquired Valley, and in October 2001, the Company acquired Penner. Thus, while fiscal years 2003 and 2002 include full-year sales for all three distribution centers, prior years do not. The fiscal year 2001 consists of full-year sales for the Pennsylvania distribution center (acquired when the Company purchased Becan), but only approximately eleven months of sales for the Ohio distribution center (acquired when the Company purchased Valley) and approximately seven months of sales for the Louisiana distribution center (which is the period of time the Company managed Penner prior to the Company’s acquisition of Penner in October 2001). See “Acquisitions.”

Item 7.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following management discussion and analysis should be read in conjunction with the Consolidated Financial Statements and Notes thereto presented in this Form 10-K.

Overview

DrugMax, Inc. (Nasdaq: DMAX) is a full-line, wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care aids, nutritional supplements and related products. The Company is headquartered in Clearwater, Florida and maintains distribution centers in Pennsylvania, Ohio, and Louisiana. The Company distributes its products primarily to independent pharmacies in the continental United States, and secondarily to small and medium-sized pharmacy chains, alternative care facilities and other wholesalers. The Company maintains an inventory in excess of 20,000 stock keeping units from leading manufacturers and holds licenses to ship to all 50 states and Puerto Rico.

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 consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires the Company to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an on-going basis, the Company evaluates its estimates and judgments, including those related to customer incentives, product returns, bad debts, inventories, intangible assets, income taxes, and contingencies and litigation. The Company bases its estimates and judgments on historical experience and on various other factors 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.

The Company’s significant accounting policies are more fully described in Note 2 to its consolidated financial statements. Management believes the following critical accounting policies, among others, affect the Company’s more significant judgments and estimates used in the preparation of its consolidated financial statements.

Revenue Recognition

The Company recognizes revenue when goods are shipped and title or risk of loss resides with unaffiliated customers, and at which time the appropriate provisions are recorded for estimated contractual chargeback credits from the manufacturers based on the Company’s contract with the manufacturer. Rebates and allowances are recorded as a component of cost of sales in the period they are received from the vendor or manufacturer unless such rebates and allowances are reasonably estimable at the end of a reporting period. The Company records chargeback credits due from its vendors in the period when the sale is made to the customer which is eligible for contract pricing from the manufacturer.

The Company accepts return of product from its customers for product which is saleable, in unopened containers and carries a current date. Generally, product returns are received via the Company’s own delivery vehicles, thereby eliminating a direct shipping cost from being incurred by the customer or the Company. Depending on the length of time the customer has held the product, the Company may charge a handling and restocking fee. Overall, the percentage of the return of product to the Company is extremely low. The Company has no sales incentive or rebate programs with its customers.

Inventory Valuation

Inventory is stated at the lower of cost of market. Cost is determined using the first-in, first-out basis of accounting. Inventories consist of brand and generic drugs, over-the-counter products, health and beauty aids, and nutritional supplements for resale. The inventories of the Company’s three distribution centers are constantly monitored for out of date or damaged products, which if exist, are reclassed and physically relocated out of saleable inventory to a holding area, referred to as the “morgue” inventory, for return to and credit from the manufacturer. However, if market acceptance of the Company’s existing products or the successful introduction of new products should significantly decrease, inventory write-downs could be required. As of March 31, 2003, 2002 and 2001, no inventory valuation allowances were necessary.

Goodwill and Intangible Assets

The Company has completed several acquisitions which have generated significant amounts of goodwill and intangible assets and related amortization. The values assigned to goodwill and intangibles, as well as their related useful lives, are subject to judgment and estimation by the Company. In addition, upon adoption of Statement of Financial Accounting Standards (“SFAS”) No. 142, Goodwill and Other Intangible Assets (“SFAS No. 142”), the Company ceased amortization of goodwill effective April 2001, and reviews goodwill annually for impairment. Goodwill and intangibles related to acquisitions are determined based on purchase price allocations. Valuation of intangible assets is generally based on the estimated cash flows related to those assets, while the initial value assigned to goodwill is the residual of the purchase price over the fair value of all identifiable assets acquired and liabilities assumed. Thereafter, the value of goodwill cannot be greater than the excess of the fair value of the Company’s reportable unit over the fair value of identifiable assets and liabilities, based on the annual impairment test. Useful lives 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.

Impairment of Long-Lived Assets

Long-lived assets are reviewed for impairment when events or circumstances indicate that a diminution in value may have occurred, based on a comparison of undiscounted future cash flows to the carrying amount of the long-lived asset. Periodically, the Company evaluates the recoverability of the net carrying value of its property and equipment, by comparing the carrying values to the estimated future undiscounted cash flows. A deficiency in these cash flows relative to the carrying amounts is an indication of the need for a

write-down due to impairment. The impairment write-down would be the difference between the carrying amounts and the fair value of these assets. Losses on impairments are recognized by a charge to earnings.

Allowance for Deferred Income Tax Asset

The Company had a deferred income tax asset and valuation allowance at March 31, 2001, which primarily represented the potential future tax benefit associated with its operating losses through the fiscal year ended March 31, 2001. In assessing the realizability of deferred income tax assets, management considers whether it is more likely than not that some portion or all of the deferred income tax assets will not be realized. The ultimate realization of deferred income tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management evaluated the scheduled reversal of deferred income tax liability, the Company’s profitability for the year ended March 31, 2002, reviewed the Company’s business model, and future earnings projections, and believes the evidence indicates that the Company will be able to generate sufficient taxable income to utilize the deferred income tax asset. Based upon the evaluations made, management concluded that realization of the deferred income tax asset was more likely than not; therefore, the valuation allowance was reversed in fiscal 2002. During the fiscal year ended March 31, 2003, the Company recorded a deferred income tax benefit of approximately $.3 million related to losses reported for the fiscal year, and has recorded a valuation allowance of $.6 million for a portion of deferred tax assets which management concluded that their realization was not more likely than not.

Recent Accounting Pronouncements

In August 2001, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS No. 144”), which addresses the financial accounting and reporting for the impairment or disposal of long-lived assets. This statement supercedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed Of, and was effective for the Company on April 1, 2002. The adoption of SFAS No. 144 did not have an impact on the results of operations or financial position of the Company.

In April 2002, the FASB issued SFAS No. 145, Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections (“SFAS No. 145”). SFAS No. 145 will rescind SFAS No. 4, which required all gains and losses from extinguishment of debt to be aggregated and, if material, classified as an extraordinary item, net of related income tax benefit. As a result of SFAS No. 145, the criteria in APB No. 30 will be used to classify those gains and losses. The provisions of SFAS No. 145 related to of the rescission of FASB No. 13 shall be applied in fiscal years beginning after May 15. 2002. Early application of the provisions of SFAS No. 145 related to the rescission of FSAB No. 13 is encouraged. The components of SFAS No. 145 adopted in the current year did not have an impact on the results of operations or financial position of the Company. The adoption of SFAS No. 145 would require the Company to restate the extraordinary loss on extinguishment of debt in 2001 to operating expenses.

In July 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities (“SFAS No. 146”), which replaces Emerging Issues Task Force (“EITF”) Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity. SFAS No. 146 requires that liabilities associated with exit or disposal activities be recognized when they are incurred. Under EITF Issue No. 94-3, a liability for exit costs is recognized at the date of a commitment to an exit plan. SFAS No. 146 also requires that the liability be measured and recorded at fair value. Accordingly, the adoption of this standard may affect the timing of recognizing future restructuring costs as well as the amounts recognized. The Company will adopt the provisions of SFAS No. 146, for any restructuring activities initiated after December 31, 2002.

In November 2002, the FASB issued Interpretation No. 45, Guarantors’ Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others (“FIN 45”). FIN 45 elaborates on the existing disclosure requirements for most guarantees, including loan guarantees such as standby letters of credit. It also requires that at all times a company issues a guarantee, the company must recognize an initial liability for the fair market value of the obligations it assumes under that guarantee and must disclose that information in its interim and annual financial statements. The initial recognition and measurement provisions of FIN 45 apply on a prospective basis to guarantees issued or modified after December 31, 2002. The Company will apply the provisions of FIN 45 to any guarantees issued after December 31, 2002. As of March 31, 2003, the Company did not have any guarantees outstanding.

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure (“SFAS 148”) which addresses financial accounting and reporting for recording expenses for the fair value of stock options. SFAS 148 provides alternative methods of transition for a voluntary change to fair value-based method of accounting for stock-based employee compensation. Additionally, SFAS No. 148 requires more prominent and more frequent disclosures in financial statements about the effects of stock-based compensation. The provisions of SFAS No. 148 are effective for fiscal years ending after December 15, 2002, with early application permitted in certain circumstances. The interim disclosure provisions are effective for financial reports

containing financial statements for interim periods beginning after December 15, 2002. The Company has elected to continue to apply the intrinsic value-based method of accounting as allowed by APB No. 25.

In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities (“FIN 46”). FIN 46 clarifies the application of Accounting Research Bulletin No. 51 for certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46 applies to variable interest entities created after January 31, 2003, and to variable interest entities in which an enterprise obtains an interest after that date. It applies in July 2003 to variable interest entities in which the Company may hold a variable interest that is acquired before February 1, 2003. The provisions of FIN 46 require that the Company immediately disclose certain information if it is reasonably possible that the Company will be required to consolidate or disclose variable interest entities when FIN 46 becomes effective. The Company is currently assessing the impact of the adoption of FIN 46 as it relates to the Company.

In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, (“SFAS No. 150”). SFAS No. 150 establishes standards for how an issuer classifies and measurers in its statement of financial position certain financial instruments with characteristics of both liabilities and equity. In accordance with SFAS No. 150, financial instruments that embody obligations for the issuer are required to be classified as liabilities. SFAS No. 150 shall be effective for financial instruments entered into or modified after May 31, 2003, and otherwise shall be effective at the beginning of the first interim period beginning after June 15, 2003. The Company is currently assessing the impact of SFAS No. 150.

Results of Operations

Revenues

The Company generated revenues of $291.8 million, $271.3 million and $177.7 million for the fiscal years ended March 31, 2003, 2002 and 2001, respectively, which represents an increase of approximately $20.5 million or 7.5% for fiscal year 2003 over fiscal year 2002, and an increase of approximately $93.6 million or 52.7% for fiscal year 2002 over fiscal year 2001. The increase in revenues is a direct result of aggressive marketing, expanded sales efforts and cross selling to common customers, and the Company’s commitment to expand its generic and over-the-counter and other products lines. Going forward, management believes that the Company’s growth will continue to be fueled by the growth of the pharmaceutical industry market and as a result of its focus on higher-margin products. The following schedule summarizes the Company’s sales in three product lines over the last three years:

	For the Fiscal Year Ended March 31, 2003		For the Fiscal Year Ended March 31, 2002		For the Fiscal Year Ended March 31, 2001
Revenue from:
Branded pharmaceuticals	$	268,443,471	$	252,526,812	$	166,185,219
Generic pharmaceuticals		14,722,530		12,525,736		6,470,828
Over-the-counter and other		8,585,770		6,235,440		5,057,017

Total revenues	$	291,751,771	$	271,287,988	$	177,713,064

The Company historically has primarily grown its business through strategic acquisitions. The Company currently has three distribution centers, all of which were acquired as follows: In November 1999, the Company acquired Becan (and its subsidiary, Discount), in April 2000, the Company acquired Valley, and in October 2001, the Company acquired Penner. Thus, while fiscal years 2003 and 2002 include full-year sales for all three distribution centers, prior years do not. For example, fiscal year 2001 consists of full-year sales for the Pennsylvania distribution center (acquired when the Company purchased Becan), but only approximately eleven months of sales for the Ohio distribution center (acquired when the Company purchased Valley) and approximately seven months of sales for the Louisiana distribution center (which is the period of time the Company managed Penner prior to the Company’s acquisition of Penner in October 2001). See “Acquisitions.”

Gross Profit

The Company achieved gross profits of $8.1 million, $7.5 million and $5.5 million for the years ended March 31, 2003, 2002 and 2001, respectively, for an increase of approximately $.6 million for fiscal year 2003 over fiscal year 2002, and $2 million for fiscal year 2002 over fiscal year 2001. The Company’s margin, as a percentage of revenue, was 2.8% for fiscal years 2003 and 2002, and 3.1% for the fiscal year 2001. The decrease in the gross margin percentage was primarily due to the impact of lower selling margins, as a result of a highly competitive market and a greater mix of high volume customers, coupled with an increase in sales of branded pharmaceutical drugs, which, generally are high sales dollar items with low gross profit margins. Management believes that the

Company’s continued emphasis on the expansion of generic drug sales should result in improved gross profit margins for the Company’s future operations. See “Risk Factors”.

Operating Expense

The Company incurred operating expenses of approximately $20.6 million, $5.6 million and $12.4 million for the fiscal years ended March 31, 2003, 2002 and 2001, respectively. Operating expenses in the fiscal year ended March 31, 2003 include selling, general, administrative and other direct operating expenses of approximately $7.8 million, depreciation and amortization of approximately $.3 million, and a goodwill and intangible asset impairment loss of approximately $12.5 million. In addition, operating expenses for fiscal 2003 include approximately $1.1 million reserve for bad debt due in part to one customer. The Company does not expect the anticipated relocation of the Ohio distribution center to have a significant impact on operating expenses in future fiscal periods. Operating expenses in the fiscal year ended March 31, 2002 include approximately $5.4 million in selling, general administrative, other direct operating expenses, and depreciation and amortization expense of approximately $.3 million. For the year ended March 31, 2001, the selling, general, administrative, other direct operating expenses were approximately $5.2 million, depreciation expense was approximately $.2 million, and costs for amortization of goodwill was $2.6 million associated with the acquisitions of Becan, Valley, Desktop and VetMall, and an impairment of assets loss of approximately $4.4 million. Operating expenses for the year ended March 31, 2003 include full operating expenses for the three distribution centers and the corporate headquarters. Operating expenses for the year ended March 31, 2002 include operating expenses for the Pennsylvania and Ohio distribution centers and the corporate headquarters, and approximately 6 months of full operating expenses for the Louisiana distribution from its acquisition by the Company in October 2001. The year ended March 31, 2001 include operating expenses for the Pittsburgh distribution center, the corporate headquarters and approximately 11 months of operating expenses for the Ohio distribution center. The percentage of selling, general, administrative and other direct operating expenses before amortization and depreciation was 2.7%, 2.0% and 3.0% for fiscal years 2003, 2002 and 2001, respectively, as compared to revenues.

Interest Expense

Interest expense was approximately $1.2 million for fiscal year ended March 31, 2003, $1.1 for the fiscal year ended March 31, 2002, and $2.1 million for the fiscal year ended March 31, 2001. On October 24, 2000, the Company obtained a new revolving line of credit and term loan with Mellon Bank N.A. (“Mellon”), the proceeds of which were used to satisfy the prior Merrill Lynch and National City credit facilities. In March 2001, the certificate of deposit with First Community Bank matured and was used to satisfy the associated outstanding line of credit with First Community Bank. On October 29, 2001, the Company executed a loan modification agreement modifying its original line of credit with Standard Federal Bank National Association (“Standard”), formerly Michigan National Bank as successor in interest to Mellon. In the fiscal year ended March 31, 2003 and 2002, $199,888 and $119,957, respectively, in deferred financing costs associated with the Standard line of credit were amortized to interest expense. Included in the deferred financing costs charged to interest expense in fiscal year ended 2003, is $78,913 of additional unamortized financing costs because of the early termination of the Standard line of credit in April 2003 with the new Congress Financial Corporation (“Congress”) credit facility. Accordingly in April 2003, the Company will recognize the remaining $78,913 unamortized deferred financing costs, an early termination fee of $351,000, and a fee for the waiver of the 90-day notice of termination of $30,000, related to the Standard line of credit. During 2001, deferred financing costs associated with the Merrill Lynch line of credit totaling approximately $.9 million were amortized to interest expense. The decrease in interest expense realized in fiscal year ended March 31, 2003 over 2002 and 2001 is primarily attributable to the increased levels of borrowing offset by lower interest rates under the Company’s current revolving line of credit and term loan. The Company does not anticipate the Congress credit facility to have a material affect on interest expense for fiscal 2004 as compared to fiscal 2003.

Extraordinary Loss on Extinguishment of Debt

Upon the early extinguishment of the Merrill Lynch line of credit in October 2000, the Company recognized an extraordinary loss of $572,244, which represented the unamortized balance of deferred financing costs related to a warrant issued to a director and non-employee consultant as a result of the director’s acting as a guarantor of the Merrill Lynch line of credit.

Income Taxes

The Company had an estimated gross deferred income tax asset and valuation allowance of approximately $1.5 million as of the fiscal year ended March 31, 2001, which primarily represented the potential future tax benefit associated with its operating losses through the fiscal year ended March 31, 2001. Management evaluated the scheduled reversal of deferred income tax liability, the Company’s profitability for the year ended March 31, 2002, reviewed the Company’s business model, and future earnings projections, and based on such evaluation believed the evidence indicated that the Company would be able to generate sufficient taxable income to utilize the deferred income tax asset; therefore, the Company recognized the full $1.5 million deferred income tax asset, offset by deferred income tax expense of $.4 million, for a net deferred income tax benefit of $1.1 million for the year ended March 31, 2002. During the fiscal year ended March 31, 2003, the Company recorded income tax benefit of $313,882. As of March 31, 2003, management continues to believe that it is more likely than not that the Company will be able to generate sufficient taxable income to utilize the deferred income tax asset, however, management has recorded a valuation allowance of $580,100 for a portion of the deferred tax assets that it concluded that their realization is not more likely than not.

Net Income (Loss) Per Share

Earnings per share (“EPS”) is calculated by dividing the net income (loss) by the weighted average number of shares of common stock outstanding for the period. Diluted EPS is calculated by dividing net income (loss) by the weighted average number of shares of common stock outstanding for the period, adjusted for the dilutive effect of options and warrants, using the treasury stock method. The net loss per share for the fiscal year ended March 31, 2003 amounted to $1.85 per basic and diluted share. The fiscal year ended March 31, 2002 reported a net income of $.29 per basic and $.28 per diluted share. The fiscal year ended March 31, 2001 reported a net loss of $1.45 per basic and diluted share. The Company recorded a goodwill and intangible asset impairment loss in its second quarter of the fiscal year ended March 31, 2003 of approximately $12.5 million, which increased the net loss per basic and diluted share by $1.75. The Company recorded for the fiscal year ended March 31, 2003 an income tax benefit of approximately $.3 million, which decreased the loss per basic and diluted share by $.04. During the year ended March 31, 2002, the Company reduced its entire valuation allowance, and booked approximately $1.1 million of deferred income tax benefit, net of the current year deferred income tax expense of approximately $.4 million, which provided the Company with net income of $.16 per basic and $.15 per diluted share. In the fiscal year ended March 31, 2001, the Company recorded an extraordinary loss on extinguishment of debt of approximately $.6 million, or $.09 per basic and diluted share, and if goodwill amortization expense had not been included in fiscal 2001, as presented in the fiscal years ended March 31, 2003 and 2002 under SFAS 142, it would have had the effect of decreasing the basic and diluted net loss per share by $.40 for the year ended March 31, 2001.

Diluted EPS for the fiscal year ended March 31, 2002 includes the effect of 199,055, dilutive common stock options. The Company had issued and outstanding 1,619,325 options to purchase shares of the Company’s common stock, in addition to warrants to purchase 350,000 shares of the Company’s common stock, which were anti-dilutive and not included in the computation of diluted EPS for the fiscal year ended March 31, 2003. These anti-dilutive shares could potentially dilute the basic EPS in the future.

A reconciliation of the number of shares of common stock used in the calculation of basic and diluted net income (loss) per share is presented below:

	For the Year Ended March 31, 2003	For the Year Ended March 31, 2002	For the Year Ended March 31, 2001
Basic shares	7,119,172	7,034,969	6,419,950
Additional shares assuming effect of dilutive stock options	—	199,055	—

Diluted shares	7,119,172	7,234,024	6,419,950

Transactions with Related Parties

GO2 Pharmacy, Inc., a publicly traded company, formerly Innovative Health Products, Inc. (“GO2”), is a supplier of manufactured dietary supplements and health and beauty care products. Mr. Taneja is a Director and Chairman of the Board of GO2 and of the Company. In the fiscal years ended March 31, 2003, 2002 and 2001, the Company purchased approximately $3,200, $5,200 and $220,000, respectively, of products for resale from GO2.

On September 13, 2000, the Company entered into a management agreement with Penner and Welsch, Inc., (“Penner”), pursuant to which it agreed to manage the day-to-day operations of Penner during the bankruptcy proceeding in exchange for a management fee equal to a percentage of the gross revenues of Penner each month. In turn, the Company entered into a management agreement with Dynamic Health Products, Inc. (“Dynamic”) pursuant to which Dynamic provided accounting support services to the Company in connection with the Company’s management responsibilities relating to Penner. Pursuant to this agreement, Dynamic was entitled to receive one-third of all fees collected by the Company from Penner. In fiscal 2002 and fiscal 2001, the total fees paid to Dynamic by the Company were $225,226 and $229,417, respectively. Mr. Taneja is a Director and Chairman of the Board of Dynamic and the Company. Both agreements were terminated in October 2001, in connection with the closing of the acquisition of certain assets from Penner by the Company.

In April 2000, in connection with the acquisition of Valley, the Company loaned the sellers of Valley a total of $170,000 to pay for a portion of the flow through effects of their S Corporation taxable income resulting from the sale of Valley. These are interest-free notes receivable and are to be repaid by Mr. Patrick, Chief Financial Officer of the Company, and Mr. Blundo, the President of Valley, upon their sale of the Company stock, which is restricted stock subject to a holding period which ended on April 19, 2001. At March 31, 2003 and 2002, the outstanding balance on the notes was $100,000.

million, and generated revenues of approximately $1.1 million for each of the fiscal years ended March 31, 2002 and 2001 from PPS. The receivable balance due from PPS at March 31, 2003 and 2002 was approximately $400,000 and $590,000, respectively.

In October 2001, the Company executed a Commercial Lease Agreement (the “Lease”) with River Road Real Estate, LLC (“River Road”), a Florida limited liability company, to house the operations of Valley South in St. Rose, Louisiana. The officers of River Road are Taneja, a Director, Chief Executive Officer, Chairman of the Board and a majority shareholder of the Company; William L. LaGamba, a Director, Chief Operating Officer, and the President of the Company; Stephen M. Watters, a former Director of the Company; and Johns, an employee of the Company and the former owner of Penner. The Lease is for an initial period of five years with a base monthly lease payment of $15,000, and an initial deposit of $15,000 made to River Road by the Company. In the fiscal years ended March 31, 2003 and 2002, the Company paid $180,000 and $90,000, respectively, to River Road, which was a charge to rent expense.

Advanced Pharmacy, Inc. (“Advanced”), is a retail pharmacy for prescription drugs owned by Mihir Taneja, a stockholder of the Company and the adult son of Taneja, the Chairman and CEO of the Company, and Michelle LaGamba, the spouse of William L. LaGamba, the President, COO and a Director of the Company. The Company sells products to Advanced under normal terms and conditions. In the fiscal years ended March 31, 2003, 2002 and 2001, the Company generated revenues of approximately $4.9 million, $18,000 and $19,000, respectively, from Advanced. At March 31, 2003, 2002 and 2001, the receivable balance due from Advanced was approximately $255,000, $19,000 and $18,000, respectively. At March 31, 2003, the Company also had an additional receivable from Advanced for approximately $95,000 representing start up inventory purchased by Advance, which will be paid within one year.

In the fiscal year ended March 31, 2003, the Company advanced to its employee and former owner of Penner, Gregory M. Johns (“Johns”), funds in the amount of approximately $107,000, which is secured by a note executed by Johns. The note bears no interest and is being paid by Johns through deductions from his compensation from the Company. At March 31, 2003, the outstanding balance due from Johns was approximately $101,266.

Inflation and Seasonality

Management believes that there was no material effect on operations or the financial condition of the Company as a result of inflation for the years ended March 31, 2003, 2002 and 2001. Management also believes that its business is not seasonal; however, significant promotional activities can have a direct impact on sales volume in any given quarter.

Financial Position, Liquidity and Capital Resources

The Company has working capital and cash and cash equivalents of $3.3 million and $2.2 million, respectively, including restricted cash of $2 million, at March 31, 2003. On April 15, 2003, the Company obtained from Congress Financial Corporation (“Congress”) a $40 million revolving line of credit and a $400,000 term note to satisfy the outstanding line of credit and term loan with Standard, and to provide working capital for possible future acquisitions. The credit facility is collateralized by all assets of the Company. The revolving line of credit enables the Company to borrow a maximum of $40 million, with borrowings limited to 85% of eligible accounts receivable and 65% of eligible inventory. The revolving line of credit and the term note currently bear interest at the rate of 0.50% per annum in excess of the Prime Rate. The term note and revolving line of credit are payable over a 36-month period. The Congress credit facility imposes certain restrictive covenants on tangible net worth and EBITA.

The Company’s principal commitments at March 31, 2003 were leases on computer and office equipment and on its office and warehouse space, one consulting agreement and two employment agreements. There were no material commitments for capital expenditures at that date. The following are contractual obligations of the Company at March 31, 2003:

Contractual Obligations	Total		Less than 1 year		1-3 years		3-5 years		More than 5 years
Operating leases	$	1,236,624	$	54,000	$	927,223	$	255,401	$	—
Credit line payable		15,943,619		15,943,619		—		—		—
Term note payable		451,199		451,199		—		—		—
Capital leases		54,824		18,977		35,847		—		—
Consulting agreement		36,187		36,187		—		—		—
Employment agreements		10,416		10,416		—		—		—
Purchase agreements with vendors		38,150,000		18,000,000		20,150,000		—		—

Total contractual obligations	$	55,882,869	$	34,514,398	$	21,113,070	$	255,401	$	—

Net cash provided by operating activities was approximately $3.8 million for the fiscal year ended March 31, 2003, and net cash used in operating activities was approximately $5.9 million and $6.8 million for the fiscal years ended March 31, 2002 and 2001,

respectively. Cash provided by operating activities for the fiscal year ended March 31, 2003 is primarily due to decreases in accounts receivable of approximately $1.4 million, inventory of approximately $1.2 million, notes receivable of approximately $.1 million, and an increase in accounts payable of approximately $.9 million, along with increases in other assets and notes receivable. The usage of cash for the fiscal year ended March 31, 2002 is primarily attributable to increases in accounts receivable of approximately $.4 million and inventory of $9.3 million, as a result of increased sales and inventory associated with the acquisition of Penner, along with increases in deposits and prepaid and other assets, and a decrease in accrued expenses, offset by decreases in accounts payable of approximately $2.4 million, and due from affiliates and other assets. Cash used in operating activities for the fiscal year ended March 31, 2001 of approximately $6.8 million is primarily due to increases in accounts receivable of approximately $7.4 million, inventory of approximately $2.6 million, prepaid expenses, other current assets, other assets, and accounts payable of approximately $4.3 million, offset by decreases in accrued expenses and current liabilities of approximately $.3 million, shareholder notes receivable, notes receivable and deposits.

Net cash used in investing activities for the fiscal year ended March 31, 2003 was approximately $.05 million, representing purchases of property and equipment. Net cash used in investing activities for the fiscal year ended March 31, 2002 of approximately $.6 million represents approximately $.5 million cash paid for the acquisition of Penner, $.07 million for purchases of property and equipment, and $.05 million for the Company’s investment in MorepenMax. Net cash used in investing activities for the fiscal year ended March 31, 2001 of approximately $1.9 million, representing purchases of property and equipment of approximately $.1 million and approximately $1.8 million for the acquisition of Valley.

Net cash used in financing activities was approximately $3.7 million for the fiscal year ended March 31, 2003, representing the net change in the Company’s revolving line of credit agreement of approximately $3 million, payment of deferred financing costs of approximately $.06 million and payments on long-term debt and capital leases of approximately $.7 million. Net cash provided by financing activities was approximately $6.2 million for the year ended March 31, 2002, representing the net change in the Company’s revolving line of credit agreement of approximately $7 million, offset by the decrease in due to affiliates of approximately $.05 million, repayments of long-term debt and capital leases of approximately $.7 million, and additional financing costs incurred in connection with the loan modification agreement with Standard of $.05 million. Cash provided by financing activities for the fiscal year ended March 31, 2001 was approximately $3.1 million, representing the net change in the Company’s revolving line of credit agreement of approximately $5.3 million, proceeds from the issuance of a note payable for $2 million and the net change in proceeds due from affiliated companies of approximately $.04 million, offset by the establishment of a restricted cash account of $2 million as required under the Standard loan agreement, payment of deferred financing costs of approximately $.3 million and payments of long-term debt and capital leases of approximately $2 million.

On October 24, 2000, the Company obtained from Mellon Bank N.A. (“Mellon”) a $15 million line of credit and a $2 million term loan to refinance its prior bank indebtedness, to provide additional working capital and for other general corporate purposes. The line of credit enabled the Company to borrow a maximum of $15 million, with borrowings limited to 85% of eligible accounts receivable and 65% of eligible inventory. The revolving credit facility bears interest at the floating rate of 0.25% per annum over the base rate. The term loan is payable over a 36-month period with interest at 0.75% per annum over the base rate, which is the higher of Mellon’s prime rate or the effective federal funds rate plus 0.50% per annum. In conjunction with the closing of the credit facility, the Company deposited $2 million in a restricted cash account with Mellon. The credit facility prohibits the payment of dividends. On October 29, 2001, the Company executed a loan modification agreement modifying the original Mellon line of credit with Standard Federal Bank National Association (“Standard”), formerly Michigan National Bank as successor in interest to Mellon, increasing the line to $23 million. On October 28, 2002, the Company executed a Fourth Amendment and Modification to Loan and Security Agreement with Standard. The amendment extended the contract period of the loan and security agreement to expire on October 24, 2004, from the original contract period which would have expired on October 24, 2003. In addition, the amendment modified the borrowing base, quarterly and annual net income, net worth and current ratio covenants commencing with the fiscal quarter ended September 30, 2002, and the applicable interest rate margin commencing April 1, 2003. The amendment also imposed certain accounts receivable limitations and instituted a new indebtedness to net worth ratio for the fiscal year ending March 31, 2003 and for each fiscal year end thereafter. The interest rate on the term loan was 5.5%, and the interest rate on the revolving credit facility was 4.25% at March 31, 2003. The outstanding balances on the revolving line of credit and term loan were approximately $15.9 million and $.5 million, respectively, as of March 31, 2003. The availability on the line of credit at March 31, 2003 was approximately $.5 million, based on eligible borrowing limits at that date. The Company was not in compliance with the net worth covenant and the net worth to indebtedness covenant ratios as required by Standard at March 31, 2003. On April 15, 2003 the Company satisfied the outstanding balance of the Standard line of credit and term loan with the new Congress credit facility and the restricted cash account with Mellon.

Management believes the Company has sufficient capital resources to fund the Company’s operations for at least the next twelve months. Management does not believe the acquisition of Avery and the relocation of the Youngstown Ohio location will have a material impact on the liquidity of the Company.

Item 7A.

QUANTATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS.

The Company is subject to market risk from exposure to changes in interest rates based on its financing and cash management activities, which could effect its results of operations and financial condition. At March 31, 2003, the Company’s outstanding debt with Standard was approximately $15.9 million on the line of credit and $.5 million on the term loan. The interest rates charged on the line of credit and term loan are floating rates subject to periodic adjustment. At March 31, 2003, the interest rates charged on the line of credit and term loan were 4.25% and 5.5%, respectively. The company manages its risk by choosing the most advantageous interest option offered by its lender. See “Managements Discussion and Analysis of Financial Condition and Results of Operations—Financial Condition, Liquidity and Capital Resources”. The Company holds several notes receivable from its customers which do not carry variable interest rates. The Company does not currently utilize derivative financial instruments to address market risk.

Item 8.

FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA

Report of Independent Certified Public Accountants

Board of Directors and Stockholders

DrugMax, Inc.

Clearwater, FL

We have audited the accompanying consolidated balance sheet of DrugMax, Inc. and subsidiaries (the “Company”) as of March 31, 2003 and the related consolidated statements of operations, stockholders’ equity, and cash flows for the year then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.

We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of DrugMax, Inc. and subsidiaries at March 31, 2003, and the results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America.

BDO Seidman, LLP

Miami, FL

July 2, 2003

INDEPENDENT AUDITORS’ REPORT

To the Board of Directors and Stockholders of DrugMax, Inc.:

We have audited the accompanying consolidated balance sheet of DrugMax, Inc. and subsidiaries (the “Company”) as of March 31, 2002, and the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the two years in the period ended March 31, 2002. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of DrugMax, Inc. and subsidiaries as of March 31, 2002, and the results of their operations and their cash flows for each of the two years in the period ended March 31, 2002, in conformity with accounting principles generally accepted in the United States of America.

As discussed in Note 2 to the consolidated financial statements, in 2002 the Company changed its method of accounting for goodwill to conform to Statement of Financial Accounting Standards No. 142 and discontinued amortization of goodwill.

As discussed in Note 17, the 2002 and 2001 consolidated financial statements have been restated.

/s/ DELOITTE & TOUCHE LLP

Certified Public Accountants

Tampa, Florida

June 27, 2002

(November 22, 2002 as to Note 17)

DRUGMAX, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

MARCH 31, 2003 and 2002

	2003			2002
ASSETS
Current assets:
Cash and cash equivalents	$	161,489		$	167,373
Restricted cash		2,000,000			2,000,000
Accounts receivable, net of allowance for doubtful accounts of $1,253,829 and $340,575		11,339,842			14,001,696
Inventory		19,458,940			20,682,439
Due from affiliates		10,470			23,498
Net deferred income tax asset—current		668,294			465,630
Prepaid expenses and other current assets		1,079,740			624,207

Total current assets		34,718,775			37,964,843
Property and equipment, net		767,550			989,921
Goodwill		13,105,000			25,314,298
Intangible assets, net		—			276,914
Stockholder notes receivable		100,000			100,000
Notes receivable		625,329			607,417
Net deferred income tax asset—long term		749,336			637,918
Deferred financing costs, net		78,912			215,477
Other assets		95,660			151,226
Deposits		33,561			44,743

Total assets	$	50,274,123		$	66,302,757

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	14,619,341		$	13,844,766
Accrued expenses and other current liabilities		415,065			421,318
Credit lines payable		15,943,619			18,929,575
Current portion of long-term debt and capital leases		470,176			676,365
Due to affiliates		4,377			4,377

Total current liabilities		31,452,578			33,876,401
Long-term debt and capital leases		35,847			478,200
Other long-term liabilities		501,561			501,561

Total liabilities		31,989,986			34,856,162

Commitments and contingencies

Stockholders’ equity:
Preferred stock, $.001 par value; 2,000,000 shares authorized; no preferred shares issued or outstanding		—			—
Common stock, $.001 par value; 24,000,000 shares authorized; 7,119,172 shares issued and outstanding		7,120			7,120
Additional paid-in capital		40,967,355			40,967,355
Accumulated deficit		(22,690,338	)		(9,527,880	)

Total stockholders’ equity		18,284,137			31,446,595

Total liabilities and stockholders’ equity	$	50,274,123		$	66,302,757

See accompanying notes to consolidated financial statements.

DRUGMAX, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

For the Fiscal Years Ended March 31,

	2003			2002			2001
Revenues	$	291,751,771		$	271,287,988		$	177,713,064
Cost of goods sold		283,647,064			263,775,382			172,181,663

Gross profit		8,104,707			7,512,606			5,531,401

Selling, general and administrative expenses		7,762,088			5,388,633			5,163,124
Amortization expense		18,000			15,053			2,550,260
Depreciation expense		306,577			245,280			247,868
Goodwill and asset impairment loss		12,209,298			—			4,439,749
Intangible impairment loss		258,914			—			—

Total operating expenses		20,554,877			5,648,966			12,401,001

Operating income (loss)		(12,450,170	)		1,863,640			(6,869,600	)

Other income (expense):
Interest income		94,685			63,553			255,374
Other income and expenses, net		48,086			98,612			(13,861	)
Interest expense		(969,053	)		(1,002,274	)		(1,124,242	)
Interest expense—loan costs		(199,888	)		(119,957	)		(981,593	)

Total other expense		(1,026,170	)		(960,066	)		(1,864,322	)

Income (loss) before income tax benefit		(13,476,340	)		903,574			(8,733,922	)
Income tax benefit		313,882			1,103,548			—

Income (loss) before extraordinary item		(13,162,458	)		2,007,122			(8,733,922	)
Extraordinary loss on extinguishment of debt		—			—			(572,244	)

Net income (loss)	$	(13,162,458	)	$	2,007,122		$	(9,306,166	)

Basic net income (loss) per common share:
Income (loss) before extraordinary item	$	(1.85	)	$	0.29		$	(1.36	)
Extraordinary loss on extinguishment of debt		—			—			(0.09	)

Net income (loss) per common share-basic	$	(1.85	)	$	0.29		$	(1.45	)

Diluted net income (loss) per common share:
Income (loss) before extraordinary item	$	(1.85	)	$	0.28		$	(1.36	)
Extraordinary loss on extinguishment of debt		—			—			(0.09	)

Net income (loss) per common share-diluted	$	(1.85	)	$	0.28		$	(1.45	)

Weighted average shares outstanding—basic		7,119,172			7,034,969			6,419,950

Weighted average shares outstanding—diluted		7,119,172			7,234,024			6,419,950

See accompanying notes to consolidated financial statements.

DRUGMAX, INC, AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

For the Fiscal Years ended March 31, 2003, 2002 and 2001

	Common Stock		Additional Paid-in Capital		Accumulated Deficit			Total Stockholders’ Equity
Balances at April 1, 2000	$	6,202	$	35,704,957	$	(2,228,836	)	$	33,482,323
Issuance of 217,255 shares for acquisition of Valley Drug Co.		217		2,199,490		—			2,199,707
Issuance of 50,000 shares to Utendahl Capital Partners LP		50		196,825		—			196,875
Issuance of 1,000 shares		1		5,483		—			5,484
Net loss		—		—		(9,306,166	)		(9,306,166	)

Balances at March 31, 2001		6,470		38,106,755		(11,535,002	)		26,578,223
Issuance of 500,000 shares to Dynamic Health Products, Inc.		500		1,968,250		—			1,968,750
Issuance of 125,418 shares for Acquisition of Penner & Welsch, Inc.		125		749,875		—			750,000
Issuance of 25,000 shares for Non-compete agreement		25		142,475		—			142,500
Net income		—		—		2,007,122			2,007,122

Balance at March 31, 2002		7,120		40,967,355		(9,527,880	)		31,446,595
Net loss		—		—		(13,162,458	)		(13,162,458	)

Balance at March 31, 2003	$	7,120	$	40,967,355	$	(22,690,338	)	$	18,284,137

See accompanying notes to consolidated financial statements.

DRUGMAX, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the Fiscal Years Ended March 31,

	2003			2002			2001
OPERATING ACTIVITIES
Net income (loss)	$	(13,162,458	)	$	2,007,122		$	(9,306,166	)
Adjustments to reconcile net (loss) income to net cash provided by (used in) operating activities:
Amortization of financing costs charged to interest expense		199,888			119,957			981,593
Extraordinary loss on extinguishment of debt		—			—			572,244
Depreciation and amortization		324,577			260,333			2,798,128
Goodwill, intangible asset and asset impairment loss		12,468,212			—			4,439,749
Provision for loss on accounts receivable		1,114,539			35,757			99,044
Reversal of forgiven accounts payable items		(83,458	)		—			—
Loss on disposal of property and equipment		921			5,303			13,861
Increase in net deferred income tax asset		(313,882	)		(1,103,548	)		—
Expense on issuance of common stock		—			—			202,359
Changes in operating assets and liabilities:
Accounts receivable		1,346,118			(385,375	)		(7,378,704	)
Merchandise inventory		1,223,499			(9,270,331	)		(2,587,278	)
Due from affiliated companies		13,028			2,363			(12,297	)
Prepaid expenses and other current assets		(397,392	)		(29,175	)		(671,211	)
Other assets		55,566			105,662			(159,888	)
Shareholder notes receivable		—			—			70,000
Notes receivable		125,144			—			37,614
Deposits		11,182			(31,072	)		2,222
Accounts payable		858,033			2,396,293			4,317,028
Accrued expenses and other current liabilities		(6,253	)		(3,074	)		(262,579	)

NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES		3,777,264			(5,889,785	)		(6,844,281	)

INVESTING ACTIVITIES
Purchases of property and equipment		(56,483	)		(68,250	)		(111,576	)
Proceeds from sale of property and equipment		2,756			2,660			—
Investment in MorepenMax, Inc.		—			(49,000	)		—
Cash paid for acquisitions, net		—			(488,619	)		(1,757,481	)

NET CASH USED IN INVESTING ACTIVITIES		(53,727	)		(603,209	)		(1,869,057	)

FINANCING ACTIVITIES
Increase in restricted cash		—			—			(2,000,000	)
Net change under revolving line of credit agreements		(2,985,956	)		6,985,078			5,339,402
Increase in deferred financing costs		(63,321	)		(50,500	)		(276,466	)
Payments of long-term debt and capital leases		(680,144	)		(663,878	)		(1,974,281	)
Proceeds from issuance of note payable		—			—			2,000,000
(Payments to)/ proceeds from affiliated companies—net		—			(46,720	)		40,941

NET CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES		(3,729,421	)		6,223,980			3,129,596

DECREASE IN CASH AND CASH EQUIVALENTS		(5,884	)		(269,014	)		(5,583,742	)
Cash and cash equivalents at beginning of year		167,373			436,387			6,020,129

CASH AND CASH EQUIVALENTS AT END OF YEAR	$	161,489		$	167,373		$	436,387

SUPPLEMENTAL DISCLOSURES OF CASH FLOWS ACTIVITIES
Cash paid for interest	$	987,406		$	996,276		$	1,045,062

Cash paid for income taxes	$	—		$	—		$	—

(continued)

DRUGMAX, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the Years Ended March 31,

	2003		2002		2001
Supplemental schedule of non-cash investing and financing activities:
In April 2000, the Company purchased all of the capital stock of Valley Drug Company for $1,757,481 in cash and 217,255 shares of common stock (fair value of $2,199,707). In conjunction with the acquisition, liabilities were assumed as follows:
Fair value of assets acquired					$	14,059,822
Cash and stock issued for Valley capital stock						3,957,188

Liabilities assumed					$	10,102,634

In December 2000, the Company issued 50,000 shares of common stock to Utendahl Capital Partners, L.P., in connection with the termination agreement as lead managing underwriter for a proposed offering.					$	196,875

In January 2001, the Company issued 1,000 shares of common stock.					$	5,484

In July 2001, the Company released from escrow 500,000 shares of common stock (fair value of $1,968,750) due to Dynamic Health Products, Inc., earned through the contingent consideration clauses in conjunction with the acquisition of Becan Distributors, Inc.			$	1,968,750

In October 2001, the Company purchased substantially all the assets of Penner & Welsch, Inc. for $488,619 cash, 125,418 shares of the common stock (fair value of $750,000), and $1,604,793 in forgiveness of debt owed to the Company. The Company also issued 25,000 shares of common stock (fair value of $142,500) in conjunction with a non-compete agreement. In conjunction with the acquisition, liabilities were assumed as follows:
Fair value of assets acquired			$	3,090,058
Cash and stock issued for acquisition				1,381,119
Forgiveness of debt owed to the Company				1,604,793

Liabilities assumed			$	104,146

Conversion of accounts receivable to notes receivable.			$	740,281

In August 2002, the Company entered into a capital lease agreement	$	31,602

See accompanying notes to consolidated financial statements.

(concluded)

DRUGMAX, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE YEARS ENDED MARCH 31, 2003, 2002 AND 2001

NOTE 1—BUSINESS

The Company is a full-line, wholesale distributor of pharmaceuticals, over-the-counter products, health and beauty care aids, nutritional supplements and other related products. The Company is headquartered in Clearwater, Florida and maintains distribution centers in Pennsylvania, Ohio, and Louisiana. The Company distributes its products primarily to independent pharmacies in the continental United States, and secondarily to small and medium-sized pharmacy chains, alternative care facilities and other wholesalers. The Company maintains an inventory in excess of 20,000 stock keeping units from leading manufacturers and holds licenses to ship to all 50 states and Puerto Rico.

NOTE 2—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation

The accompanying consolidated financial statements include the accounts of DrugMax, Inc. (formerly known as DrugMax.com, Inc.) and its wholly-owned subsidiaries, Discount Rx, Inc. (“Discount”), Valley Drug Company (“Valley”) and its wholly-owned subsidiary Valley Drug Company South (“Valley South”), Desktop Ventures, Inc., and Desktop Media Group, Inc. (“Desktop”); and its wholly-owned subsidiary VetMall, Inc. (“VetMall”), (collectively referred to as the “Company”). All significant intercompany accounts and transactions have been eliminated.

Use of Estimates

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Fiscal Year

The Company’s fiscal year end is March 31. References to years relate to fiscal years rather than calendar years, unless otherwise stated.

Cash and Cash Equivalents

The Company considers cash on hand and amounts on deposit with financial institutions which have original maturities of three months or less to be cash and cash equivalents.

Restricted Cash

Restricted cash includes amounts restricted as collateral for the credit facility with Standard Federal Bank National Association (“Standard”), formerly Michigan National Bank as successor in interest to Mellon Bank N.A. (“Mellon”).

Accounts Receivable

Accounts receivable are customer obligations due under normal trade terms. The Company sells its products primarily to independent pharmacies from traditional distribution channels and to companies and pharmacies through e-commerce business. The Company performs continuing credit evaluations of its customers’ financial condition and although it generally does not require collateral, letters of credit or personal guarantees may be required from its customers under certain circumstances. Senior management reviews accounts receivable on a regular basis to determine if any accounts will potentially be uncollectible. The Company includes any accounts receivable balances that are determined to be uncollectible, along with a general reserve, in its overall allowance for doubtful accounts. After all attempts to collect a receivable have failed, the receivable is written off against the allowance. Based on the information available to management, it believes the Company’s allowance for doubtful accounts as of March 31, 2003 is adequate. However, actual write-offs might exceed the recorded allowance.

Investments

On August 31, 2001, the Company reached an initial agreement with India-based Morepen Laboratories Ltd. (“Morepen”), to form a joint venture company, and on September 10, 2001, MorepenMax, Inc, (“MorepenMax”), a Florida corporation, was formed. Morepen is the 51% majority shareholder of MorepenMax. On March 22, 2002, the Company funded its investment of $49,000 in MorepenMax, representing its 49% interest. MorepenMax plans to utilize the Morepen facilities to develop low-cost generic pharmaceuticals in the United States. The Company will be the exclusive distributor throughout the United States of the products developed by MorepenMax. In June 2003, MorepenMax introduced its first generic product for distribution through the Company. This investment is accounted for under the equity method and is included in other assets.

Inventory

Inventory is stated at the lower of cost or market. Cost is determined using the first-in, first-out basis of accounting. Inventories at March 31, 2003 and 2002 consist of brand and generic drugs, nutritional supplements, health and beauty aids and over the counter products, which when purchased by the Company as finished goods, are pre-packaged and ready for resale to the Company’s customers. The inventories of the Company’s three distribution centers are constantly monitored for out of date or damaged products, which if exist, are reclassed and physically relocated out of saleable inventory to a holding area, referred to as the “morgue” inventory, for return to and credit from the manufacturer. However, if market acceptance of the Company’s existing products or the successful introduction of new products should significantly decrease, inventory write-downs could be required. As of March 31, 2003, 2002 and 2001, no inventory valuation allowances were necessary.

Property and Equipment

Property and equipment is stated at depreciated cost. A provision for depreciation is computed using the straight-line method over the estimated useful lives, which are as follows:

Fixed Asset Category		Use Life for Depreciation
Furniture and fixtures		7 - 15 years
Computer equipment		5 years
Computer software		3 - 10 years
Leasehold improvements		3-15 years
Office equipment		5 years
Warehouse machinery and equipment		7 years
Vehicles		5 years

Maintenance and repairs are charged to operations. Additions and betterments which extend the useful lives of property and equipment are capitalized. Upon retirement or disposal of the operating property and equipment, the cost and accumulated depreciation are eliminated from the accounts and the resulting gain or loss is reflected in operations.

Goodwill

The excess of cost over the fair value of net assets acquired (goodwill) relates to the acquisitions discussed in Note 3. Prior to April 1, 2001, the excess of cost over net assets acquired was amortized over 15 years for acquisitions of Becan, Discount, and Valley using the straight-line method. Accumulated amortization totaled approximately $2,225,000 at March 31, 2001. Goodwill relating to the acquisitions of Desktop and VetMall was assigned a life of 5 years and amortized for eleven months of the fiscal year ended March 31, 2001 on straight-line method. An impairment of goodwill was recorded in March 2001 relative to the remaining goodwill for both Desktop and VetMall (see Note 4).

On April 1, 2001, the Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 142, Goodwill and Other Intangible Assets (“SFAS No. 142”), which addresses the financial accounting and reporting standards for the acquisition of intangible assets outside of a business combination and for goodwill and other intangible assets subsequent to their acquisition. This accounting standard requires that goodwill be separately disclosed from other intangible assets in the statement of financial position and no longer be amortized, but tested for impairment on a periodic basis. Upon adoption of SFAS No. 142, the Company ceased amortization of goodwill effective April 1, 2001, and reviews goodwill annually in its second fiscal quarter, unless indicators of impairment are present and suggest earlier testing is warranted.

A reconciliation of previously reported net income (loss) and earnings (loss) per share to the amounts adjusted for the exclusion of goodwill amortization, net of the related income tax effect, follows:

	For the Year Ended March 31, 2003			For the Year Ended March 31, 2002		For the Year Ended March 31, 2001
Reported income (loss) before extraordinary item	$	(13,162,458	)	$	2,007,122	$	(8,733,922	)
Add: Goodwill amortization, net of income tax		—			—		2,550,166

Adjusted income (loss) before extraordinary item	$	(13,162,458	)	$	2,007,122	$	(6,183,756	)

Reported net income (loss)	$	(13,162,458	)	$	2,007,122	$	(9,306,166	)
Add: Goodwill amortization, net of income tax		—			—		2,550,166

Adjusted net income (loss)	$	(13,162,458	)	$	2,007,122	$	(6,756,000	)

Basic income (loss) before extraordinary item per common share:
Reported income (loss) before extraordinary item	$	(1.85	)	$	0.29	$	(1.36	)
Goodwill amortization, net of income tax		—			—		0.40

Adjusted income (loss) before extraordinary item	$	(1.85	)	$	0.29	$	(0.96	)

Diluted income (loss) before extraordinary item per common share:
Reported income (loss) before extraordinary item	$	(1.85	)	$	0.28	$	(1.36	)
Goodwill amortization, net of income tax		—			—		0.40

Adjusted income (loss) before extraordinary item	$	(1.85	)	$	0.28	$	(0.96	)

Basic net income (loss) per common share:
Reported net income (loss)	$	(1.85	)	$	0.29	$	(1.45	)
Goodwill amortization, net of income tax		—			—		0.40

Adjusted net income (loss)	$	(1.85	)	$	0.29	$	(1.05	)

Diluted net income (loss) per common share:
Reported net income (loss)	$	(1.85	)	$	0.28	$	(1.45	)
Goodwill amortization, net of income tax		—			—		0.40

Adjusted net income (loss)	$	(1.85	)	$	0.28	$	(1.05	)

Deferred Financing Costs

In March 2000, the Company recorded deferred financing costs of $1,625,000 for a warrant issued to a director and non-employee consultant as a result of the director’s acting as a guarantor of the Merrill Lynch line of credit (see Notes 9, 12 and 17). The Merrill Lynch line of credit was paid in full on October 24, 2000, with proceeds from the new Mellon credit facility; therefore, the unamortized balance of deferred financing costs of $572,244 was written off in October 2000. In conjunction with the closing of the Mellon credit facility in October 2000, and the loan modification agreement executed October 2001 with Standard (see Note 9), and subsequent amendments to the loan agreement, the Company capitalized approximately $454,000 in financing costs incurred in obtaining the loans. These costs are being amortized over the life of the term loans, under the effective interest rate method. Amortization of deferred financing costs was $199,888, $119,957 and $981,593 for the years ended March 31, 2003, 2002 and 2001, respectively. This increase in fiscal 2003 was due to the acceleration of amortization expense because of the April 2003 refinancing. Accumulated amortization of deferred financing costs was $374,836 and $174,948 at March 31, 2003 and 2002, respectively.

Impairment of Long-Lived Assets

Periodically, the Company evaluates the recoverability of the net carrying value of its property and equipment and its amortizable intangible assets, by comparing the carrying values to the estimated future undiscounted cash flows. A deficiency in these cash flows relative to the carrying amounts is an indication of the need for a write-down due to impairment. The impairment write-down would be

the difference between the carrying amounts and the fair value of these assets. Losses on impairments are recognized by a charge to earnings.

Income Taxes

The Company has adopted SFAS No. 109, Accounting for Income Taxes (“SFAS No. 109”). Under the asset and liability method of SFAS No. 109, deferred income tax assets and liabilities are recognized for future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. Deferred income tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recorded or settled. Valuation allowances are established when necessary to reduce deferred income tax assets to amounts expected to be realized.

Earnings Per Share

Basic earnings per share (“EPS”) is calculated by dividing the net income (loss) by the weighted average number of shares of common stock outstanding for the period. Diluted EPS is calculated by dividing net income (loss) by the weighted average number of shares of common stock outstanding for the period, adjusted for the dilutive effect of options and warrants, using the treasury stock method. The net loss per share for the fiscal year ended March 31, 2003 amounted to $1.85 per basic and diluted share. The fiscal year ended March 31, 2002 reported a net income of $.29 per basic and $.28 per diluted share. The fiscal year ended March 31, 2001 reported a net loss of $1.45 per basic and diluted share. The Company recorded a goodwill and intangible asset impairment loss in its second quarter of the fiscal year ended March 31, 2003 of approximately $12.5 million, which increased the net loss per basic and diluted share by $1.75. The Company recorded for the fiscal year ended March 31, 2003 an income tax benefit of approximately $.3 million, which decreased the loss per basic and diluted share by $.04. During the year ended March 31, 2002, the Company reduced its entire valuation allowance, and booked approximately $1.1 million of deferred income tax benefit, net of the current year deferred income tax expense of approximately $.4 million, which provided the Company with net income of $.16 per basic and $.15 per diluted share. In the fiscal year ended March 31, 2001, the Company recorded an extraordinary loss on extinguishment of debt of approximately $.6 million, or $.09 per basic and diluted share, and if goodwill amortization expense had not been included in fiscal 2001, as presented in the fiscal years ended March 31, 2003 and 2002 under SFAS No. 142, it would have had the effect of decreasing the basic and diluted net loss per share by $.40 for the year ended March 31, 2001.

At March 31, 2003, 2002 and 2001, the Company had 1,656,634, 705,500 and 290,300 options, respectively, to purchase shares of the Company’s common stock, in addition to warrants to purchase 150,000 shares of the Company’s common stock, which were anti-dilutive and not included in the computation of diluted EPS for the years ended March 31, 2003, 2002 and 2001. These anti-dilutive shares could potentially dilute the basic EPS in the future.

Stock Based Compensation

In October 1995, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 123, Accounting for Stock-Based Compensation (“SFAS No. 123”), which was effective for fiscal years beginning after December 15, 1995. Under SFAS No. 123, the Company may elect to recognize stock-based compensation expense based on the fair value of the awards or to account for stock-based compensation under Accounting Principles Board (“APB”) Opinion No. 25, Accounting for Stock Issued to Employees (“APB Opinion No. 25”), and disclose in the consolidated financial statements the effects of SFAS No. 123 as if the recognition provisions were adopted. The Company has adopted the recognition provisions of APB Opinion No. 25. The following table illustrates the effect on net (loss) income and earnings per share if the Company had applied the fair value recognition provisions of SFAS No. 123 to stock-based employee compensation:

	For the Fiscal Year Ended March 31,
	2003			2002			2001
Net (loss) income as reported	$	(13,162,458	)	$	2,007,122		$	(9,306,166	)
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects		661,958			2,580,619			1,358,183

Pro forma net (loss) income	$	(13,824,416	)	$	(573,497	)	$	(10,664,349	)

(Loss) income per common share as reported:
Basic	$	(1.85	)	$	0.29		$	(1.45	)
Diluted	$	(1.85	)	$	0.28		$	(1.45	)
(Loss) income per common share—pro forma:
Basic	$	(1.94	)	$	(0.08	)	$	(1.66	)
Diluted	$	(1.94	)	$	(0.08	)	$	(1.66	)

For purposes of the above disclosure, the determination of the fair value of stock options granted in fiscal years 2003, 2002 and 2001 was based on the following: (i) a risk free interest rate of 6%, 3.94% to 5.31% and 5.38% respectively; (ii) expected option lives of 5-10 years in 2003 and 2002, and 10 years in 2001; and (iii) expected volatility in the market price of the Company’s common stock of 117%, 67%, and 85%, respectively.

The weighted average fair value of options granted to employees were $1.29, $2.77, and $10.11 per share for the fiscal years ended March 31, 2003, 2002 and 2001, respectively.

The Company has no other equity based compensation plans for its employees.

Fair Value of Financial Instruments

The estimated fair value of amounts reported in the consolidated financial statements has been determined by using available market information and appropriate valuation methodologies. The carrying value of all current assets and current liabilities approximates fair value because of their short-term nature. The fair value of long-term obligations approximates the carrying value, based on current market prices.

Advertising and Sales Promotion Costs

Advertising costs are charged to expense as incurred. Advertising expense totaled approximately $35,000, $59,000 and $131,000 for fiscal years ended March 31, 2003, 2002 and 2001, respectively.

Revenue Recognition

The Company recognizes revenue when goods are shipped and title or risk of loss resides with unaffiliated customers or when services are provided. Rebates and allowances are recorded as a component of cost of goods sold in the period they are received from the vendor or manufacturer unless such rebates and allowances are reasonably estimable at the end of a reporting period. The Company records chargeback credits due from its vendors in the period when the sale is made to the customer which is eligible for contract pricing from the manufacturer.

Reclassifications

Certain amounts in the 2002 and 2001 consolidated financial statements have been reclassified to conform to 2003 presentation.

Recent Accounting Pronouncements

In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS No. 144”), which addresses the financial accounting and reporting for the impairment or disposal of long-lived assets. This statement supercedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed Of, and was effective for the Company on April 1, 2002. The adoption of SFAS No. 144 did not have an impact on the results of operations or financial position of the Company.

the current year did not have an impact on the results of operations or financial position of the Company. The adoption of SFAS No.145 would require the Company to restate the extraordinary loss on extinguishment of debt in 2001 to operating expenses.

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure (“SFAS No. 148”) which addresses financial accounting and reporting for recording expenses for the fair value of stock options. SFAS No. 148 provides alternative methods of transition for a voluntary change to fair value-based method of accounting for stock-based employee compensation. Additionally, SFAS No. 148 requires more prominent and more frequent disclosures in financial statements about the effects of stock-based compensation. The provisions of SFAS No. 148 are effective for fiscal years ending after December 15, 2002, with early application permitted in certain circumstances. The interim disclosure provisions are effective for financial reports containing financial statements for interim periods beginning after December 15, 2002. The Company has elected to continue to apply the intrinsic value-based method of accounting as allowed by APB Opinion No. 25.

NOTE 3—ACQUISITIONS

On April 19, 2000, the Company, Valley, Ronald J. Patrick (“Patrick”) and Ralph A. Blundo (“Blundo” and together with Patrick, the “Sellers”) signed a Merger Purchase Agreement (the “Agreement”). In connection with the merger, the Sellers received an aggregate of 226,666 shares of the Company’s common stock and cash in the amount of $1.7 million. In addition, the Sellers deposited 22,666 shares of the Company’s common stock with an escrow agent (the “Holdback Shares”). Based on audited financial statements of Valley as of April 19, 2000, the stockholders’ equity amounted to $400,667, which was $141,160 less than the threshold amount of $541,827. Therefore, 9,411 of the Holdback Shares have been returned to the Company. After consideration of the return of the Holdback Shares, a total of 217,255 shares at $10.125 per share were issued for the acquisition. The acquisition was accounted for using the purchase method of accounting and accordingly $3.6 million of goodwill was recorded. Prior to April 1, 2001, goodwill was amortized over a fifteen (15) year period.

On April 18, 2000, Valley loaned the Sellers $170,000, of which $100,000 is outstanding at March 31, 2003 and 2002, to pay for a portion of the flow through effects of their S Corporation taxable income resulting from the sale of Valley. These interest-free notes receivable are to be repaid upon the Sellers’ sale of Company common stock, which is restricted stock subject to a holding period that ended on April 19, 2001.

On October 25, 2001, Discount purchased substantially all of the net assets of Penner & Welsch, Inc. (“Penner”), a wholesale distributor of pharmaceuticals based in Louisiana, pursuant to an Agreement for the Purchase and Sale of Assets dated October 12, 2001 (“the Agreement”). Penner was a Chapter 11 debtor which had voluntarily filed for Chapter 11 protection in the US Bankruptcy Court Eastern Division of Louisiana. Prior to this acquisition, commencing in September 2000, the Company managed the day-to-day operations of Penner, in exchange for a management fee equal to a percentage of the gross revenues of Penner each month. The Company recorded management fees of approximately $364,000 and $550,000 from Penner for the years ended March 31, 2002 and 2001, respectively. During the management period, the Company provided Penner with a collateralized revolving line of credit for the sole purpose of purchasing inventory from the Company. Pursuant to the Agreement, Penner received an aggregate of 125,418 shares of restricted common stock of the Company, valued at $5.98 per share, cash in the amount of $488,619, and forgiveness of $1,604,793 in trade accounts payable and management fees owed to Discount. The Agreement, including the nature and amount of the consideration paid to Penner, was negotiated between the parties and, on October 15, 2001, was approved by the US Bankruptcy Court, Eastern Division of Louisiana.

On October 19, 2001, the Company entered into an Employment Agreement with Gregory M. Johns (“Johns”), former owner of Penner, for an annual salary of $125,000, payable bi-weekly for an initial term of three years, through October 18, 2004, renewable for subsequent terms of one year thereafter. In accordance with the Employment Agreement, the Company agreed to issue a total of 100,000 employee non-qualified stock options (the “Options”) to Johns at a price of $8.00 per share contingent upon the attainment of gross profit goals by Discount over the three year term of the Employment Agreement. The Options, provided the goals are attained, would be issued one third of the total 100,000 each year for three years, and would be issued within sixty days of each anniversary date of the Employment Agreement. In conjunction with the Employment Agreement, on October 19, 2001, Johns executed a Restrictive Covenants Agreement and Agreement Not to Compete (“Non Compete Agreement”) with the Company. The Non Compete Agreement constrains Johns during the minimum three year term of the Employment Agreement in addition to a period of one year following his termination. In consideration for Johns’ execution of the Non Compete Agreement, the Company issued to Johns 25,000 shares of common stock of the Company, with a fair market value of $142,500. The Non Compete Agreement was recorded as an intangible asset with associated amortization of $15,000 in fiscal 2002. In fiscal 2003, an intangible impairment loss was recorded for the unamortized balance (see Note 4).

The business combinations of Valley and Penner were accounted for by the purchase method of accounting. The results of operations of the above named businesses are included in the consolidated financial statements from their respective purchase dates. The Company acquired the following assets and liabilities (net of cash received from Valley of $53,207 for fiscal year ended March 31, 2001) in the above business combinations:

	For the Year Ended March 31, 2002			For the Year Ended March 31, 2002
Accounts receivable	$	1,180,756		$	3,478,637
Inventory		717,954			6,690,636
Property and equipment		670,000			67,146
Other assets		94,391			266,380
Intangible assets		291,914			—
Goodwill		135,043			3,557,023
Assumption of liabilities		(104,146	)		(10,102,634	)

Net value of purchased assets		2,985,912			3,957,188
Forgiveness of trade payables and management fees		(1,604,793	)		—
Value of common stock issued		(892,500	)		(2,199,707	)

Cash paid for acquisitions	$	488,619		$	1,757,481

The unaudited pro forma effect of the acquisitions of Valley and Penner on the Company’s revenues, net income (loss) and net income (loss) per basic and diluted share, had the acquisitions occurred on April 1, 2000 is as follows:

	For the Year Ended March 31, 2002			For the Year Ended March 31, 2001
Revenues	$	273,944,559		$	217,364,674
Loss before extraordinary item	$	(22,483	)	$	(12,528,111	)
Net loss	$	(22,483	)	$	(13,100,355	)
Basic and diluted loss before extraordinary item per share	$	(0.00	)	$	(1.91	)
Basic and diluted net loss per share	$	(0.00	)	$	(1.99	)

The proforma information for the fiscal years ended March 31, 2002 and 2001 has been presented after the elimination of revenues and net income derived from the sales to Penner by Discount prior to the acquisition. In addition, the proforma information for the fiscal years ended March 31, 2002 and 2001 has been presented after the elimination of non-recurring charges from the Penner operations as follows:

	For the Year Ended March 31, 2002		For the Year Ended March 31, 2001
Management fees	$	547,220	$	824,288
Trustee fees		25,000		25,000
Legal fees		160,577		174,605

Pursuant to the Avery Agreement, the Company acquired accounts receivable, inventory, equipment, furniture, the trade name and a patent pending for the process of the manufacture of vials for the respiratory therapy industry, preliminarily totaling $1,062,518. The liabilities assumed, which were comprised principally of trade payables, upon preliminary investigation amounted to $912,518, and capital injected of $60,000. In addition, the Company executed a promissory note to the predecessor company’s 50% shareholder, as additional consideration. The $318,000 note includes a right of set off for accounts payable in excess of an agreed upon amount assumed at closing. The original note may not be reduced below $90,000 after set off, which management believes will be the adjusted note amount. Terms of the note provide for principal payments due monthly beginning July 5, 2003 through the due date of January 5, 2006. Interest on the note is due quarterly beginning September 5, 2003 at the rate of 6% per annum. Also, the Company executed a Consulting and Non-Competition Agreement (“Consulting Agreement”) with John VerVynck (“VerVynck”) an officer and shareholder of Avery and Infinity. The Consulting Agreement provides for the payment to VerVynck of $39,360, payable bi-monthly, over the six-month term of the Consulting Agreement. The Consulting Agreement prohibits VerVynck from competing for one year following his termination and the six-month term of the consulting agreement. The Company will operate the acquisition under a ficiticous name filing for Avery Pharmaceuticals, and anticipates that Avery will have a positive impact on the Company’s fiscal 2004. The acquisition will be accounted for under the purchase accounting method.

NOTE 4—IMPAIRMENT OF ASSETS

The Company has completed several acquisitions which have generated significant amounts of goodwill and intangible assets and related amortization. The values assigned to goodwill and intangibles, as well as their related useful lives, are subject to judgment and estimation by the Company. In addition, upon adoption of SFAS No. 142, the Company ceased amortization of goodwill effective April 2001, and reviews goodwill annually for impairment. Goodwill and intangibles related to acquisitions are determined based on purchase price allocations. Valuation of intangible assets is generally based on the estimated cash flows related to those assets, while the initial value assigned to goodwill is the residual of the purchase price over the fair value of all identifiable assets acquired and liabilities assumed. Thereafter, the value of goodwill cannot be greater than the excess of the fair value of the Company’s reportable unit over the fair value of identifiable assets and liabilities, based on the annual impairment test. Useful lives 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. During the second quarter of fiscal 2003, the Company completed its annual two-step process of the goodwill

impairment test prescribed in SFAS No. 142, based upon September 30, 2002 values. The first step of the impairment test was the measurement of the Company’s fair market value versus book value, as defined under SFAS No. 142. Because the Company’s fair market value, as determined by independent valuation using a discounted cash flow approach, was below book value at September 30, 2002, the Company was required to perform the second step of the impairment test. The second step involved comparing the implied fair value of the Company’s goodwill to its fair market value to measure the amount of impairment. The goodwill impairment test resulted in the Company recognizing a non-cash goodwill impairment loss of approximately $12.2 million relating to the goodwill recorded with the acquisitions of Becan Distributors, Inc. (“Becan”) in November 1999, Valley in April 2000 and Penner in October 2001. During the second quarter of fiscal 2003, the Company also reviewed for impairment the Non-Compete Agreement and the domain name that were recorded as a result of the acquisition of Penner in October 2001. These other intangible assets were determined by an independent appraisal to have no value. Accordingly, the Company recognized an impairment loss of $258,914 related to these other intangible assets.

Since the acquisitions of Desktop and VetMall, management has been faced with substantial changes to the original business plans. The offices of Desktop and VetMall were relocated from Dallas, Texas to the Company’s corporate office facilities in Clearwater, Florida during August 2000. The primary function of Desktop was to design and develop customized Internet solutions for businesses and to a greater extent to continue to design, develop and maintain the VetMall web site. The amount of transition expense, loss of customer base, and problems with the web site and the delay of its startup, are all factors which contributed to a negative cash flow for the twelve months ending March 31, 2001. Currently, the Company has no plan for business development for either Desktop or VetMall which would generate a positive cash flow.

During the fourth quarter of the fiscal year ended March 31, 2001, the Company reassessed the value of the goodwill and property, equipment and software recorded by the Company as a result of the acquisitions of Desktop and VetMall. Prior to that reassessment, the unamortized balances of the goodwill and real assets consisted of $4,748,100 of goodwill, and $462,300 of acquired property, equipment and software. Management assessed the value of the related goodwill and property, equipment and software and concluded that the carrying value exceeded the fair value of the assets. In determining the fair value of the impaired assets, management assumed that there would be no future cash flows from the acquired Desktop and VetMall businesses. Based on the lack of future cash flows and an estimated fair value of zero, management concluded that an impairment of goodwill and certain software existed. Management determined that the remaining acquired property, equipment and software would be deployed within the Company; therefore, no impairment of these assets existed. The economic factors indicated above caused management to revise downward its estimates of future cash flows from current and future revenues associated with the Desktop and VetMall businesses. As a result of management’s analysis, and using the best information available, management recorded impairment of asset charges of $3,877,580 in goodwill and $105,424 for software, during the fourth quarter of fiscal 2001. Additionally, the Company determined that approximately $456,700 capitalized in fiscal year 2001, which related to a delayed secondary offering of securities, had no future value and because market conditions were not conducive to a successful secondary offering of securities (see Note 12), the Company wrote off these costs in the fourth quarter of fiscal 2001.

NOTE 5—PROPERTY AND EQUIPMENT

At March 31, 2003 and 2002 property and equipment consist of the following:

	2003			2002
Furniture, equipment and vehicles	$	787,790		$	733,690
Computer software		483,049			646,561
Leasehold improvements		75,417			67,928

Total		1,346,256			1,448,179
Accumulated depreciation		(578,706	)		(458,258	)

Property and equipment, net	$	767,550		$	989,921

Depreciation expense for the years ended March 31, 2003, 2002 and 2001 was $306,577, $245,280 and $247,868, respectively.

NOTE 6—GOODWILL AND OTHER INTANGIBLE ASSETS

Changes in the carrying amount of goodwill for the fiscal years ended March 31, 2003 and 2002, are as follows:

Balance as of March 31, 2001	$	25,179,255
Goodwill acquired		135,043

Balance as of March 31, 2002		25,314,298
Goodwill impairment charge		(12,209,298	)

Balance as of March 31, 2003	$	13,105,000

The Company has determined that it has one reporting unit in the distribution business. Management further has determined that the distribution reporting unit should be reported in the aggregate based upon similar economic characteristics within each company within that segment.

The following table reflects the components of other intangible assets:

	March 31, 2003				March 31, 2002
	Gross Carrying Amount		Accumulated Amortization		Gross Carrying Amount		Accumulated Amortization
Amortizable intangible assets:
Non compete agreement	$	—	$	—	$	142,500	$	15,000
Domain name		—		—		200		200

Total	$	—	$	—	$	142,700	$	15,200

Non-amortizable intangible assets:
Domain name	$	—	$	—	$	149,414	$	—

Amortization expense for the fiscal years ended March 31, 2003, 2002 and 2001 was $18,000, $15,044 and $2,550,260, respectively.

NOTE 7—NOTES RECEIVABLE

On April 15, 2002, the Company arranged a note maturing on December 1, 2005 with one of its customers for an account receivable. The note bears interest at 7%, is unsecured, and requires the customer to purchase at least $7,000 generic and $20,000 branded pharmaceuticals each month on COD terms, in addition to the repayment of the note balance. The outstanding balance on the note at March 31, 2003, was $147,197, of which $51,322, representing the portion due within one year, is included in other current assets.

On November 8, 2002, the Company renegotiated a note receivable maturing in November 2007, which originated on March 28, 2002, with one of its customers for an account receivable. The renegotiated note bears interest at 2.5%, is collateralized by the customer’s accounts receivable and inventory, and requires any subsequent charges after the date of the note to be paid currently in addition to the repayment of the note balance. The outstanding balance on the note at March 31, 2003 and 2002 was $268,763 and $329,012, respectively, of which $57,990 and $65,520, respectively, representing the portion due within one year, is included in other current assets.

On November 8, 2002, the Company renegotiated a note receivable maturing in November 2007, which originated on March 28, 2002, with one of its customers for an account receivable. The note bears interest at 2.5%, is unsecured, and requires any subsequent charges after the date of the note to be paid currently in addition to the repayment of the note balance. The outstanding balance on the note at March 31, 2003 and 2002 was $344,261 and $411,269, respectively, of which $85,246 and $67,344, respectively, representing the portion due within one year, is included in other current assets.

On January 16, 2003, the Company arranged a note with one of its customers for an account receivable. The note is unsecured, does not carrying any interest, and requires the customer to make regular payments with the final payment due on August 7, 2003. The outstanding balance on the note which was reflected on the Company’s accounts receivable at March 31, 2003 was $510,043.

NOTE 8—INCOME TAXES

The income tax (benefit) consists of the following for the fiscal years ended March 31, 2003 and 2002:

	Federal			State			Total
Fiscal year ended March 31, 2003:
Current		—			—			—
Deferred	$	(282,927	)	$	(30,955	)	$	(313,882	)

Total	$	(282,927	)	$	(30,955	)	$	(313,882	)

Fiscal year ended March 31, 2002:
Current	$	—		$	—		$	—
Deferred		(950,084	)		(153,464	)		(1,103,548	)

Total	$	(950,084	)	$	(153,464	)	$	(1,103,548	)

The Company had no income tax expense (benefit) for the year ended March 31, 2001.

The benefit for income taxes differs from the amount computed by applying the U.S. federal income tax rate of 34% to income (loss) before income taxes for 2003, 2002 and 2001 as follows:

	2003					2002					2001
Rate Reconciliation	Amount			Effective Rate		Amount			Effective Rate		Amount			Effective Rate
Statutory federal rate	$	(4,581,956	)	(34.00	%)	$	307,215		34.00	%	$	(3,164,097	)	(34.00	%)
State income taxes		(47,133	)	(0.35	%)		33,656		3.72	%		(346,190	)	(3.72	%)
Goodwill amortization and impairment		4,151,161		30.80	%		—		—			2,243,156		24.10	%
Warrant expense		—		—			—		—			506,458		5.44	%
Other		(5,634	)	—			14,081		1.56	%		19,668		0.22	%
Understatement of prior years net operating losses		(410,420	)	(3.04	%)		—		—			—		—
Change in valuation allowance		580,100		4.0	%		(1,458,500	)	(161.41	%)		741,005		7.96	%

	$	(313,882	)	(2.59	%)	$	(1,103,548	)	(122.13	%)		—		—

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The components of deferred income tax assets and liabilities, net of valuation allowance, as of March 31, 2003 and 2002 are as follows:

	2003			2002
Net operating losses	$	1,091,562		$	607,258
Net operating losses—acquired		190,384			190,384
Use of cash basis method of accounting for income tax purposes		(128,500	)		(128,500	)
Uniform capitalization of inventory cost		229,935			244,306
Basis difference in property and equipment		(47,078	)		(32,627	)
Basis difference on deductible goodwill and other intangibles		55,010			—
Other		7,555			—
Bad debt and other accruals		598,862			222,726

Net deferred income tax assets		1,997,730			1,103,548
Valuation allowance		580,100			—

Net deferred income tax asset after valuation allowance	$	1,417,630		$	1,103,548

At March 31, 2003, the net operating loss and acquired tax loss carry forward benefits of approximately $2.9 million and $.5 million expire through 2023. Due to the Company’s acquisition of Desktop, the Company’s ability to utilize the acquired net operating loss carry forward of $500,000 will be limited by IRS Section 382 to $113,000 per year.

SFAS No. 109 requires a valuation allowance to reduce the deferred income tax assets reported, if based on the weight of the evidence, it is more likely than not that a portion or all of the deferred income tax assets will not be realized. As such, a valuation allowance of $1,458,500 was established at March 31, 2001.

In assessing the realizability of deferred income tax assets, management considers whether it is more likely than not that some portion or all of the deferred income tax assets will not be realized. The ultimate realization of deferred income tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management evaluated the scheduled reversal of deferred income tax liability, the Company’s profitability for the year ended March 31, 2002, reviewed the Company’s business model, and future earnings projections, and believes the evidence indicates that the Company will be able to generate sufficient taxable income to utilize the deferred income tax asset; therefore, the Company recognized the full $1,458,500 deferred income tax asset, offset by current year deferred income tax expense of $354,952, for a net deferred income tax benefit of $1,103,548 for the year ended March 31, 2002.

The Company determines a valuation allowance based on its analysis of amounts available in the statutory carryback period, consideration of future deductible amounts, and assessment of future profitability. As a result of the substantial operating losses incurred during fiscal year 2003, the Company established valuation allowances for a portion of the net deferred tax asset in the amount of $580,100 as of March 31, 2003, as it will take more than a few years to realize the deferred tax asset.

NOTE 9—DEBT

On March 17, 2000, the Company signed a $1,000,000 line of credit agreement with First Community Bank of America. Terms of the agreement provided for interest to be charged at 1% over the rate of interest paid on the Company’s $1,000,000 certificate of deposit held by First Community Bank of America and used to collateralize the loan facility. The balance on the line of credit became due on October 1, 2000. On November 6, 2000, documents were executed to extend the line of credit agreement for an additional six-month period with a due date of April 1, 2001. The First Community Bank of America certificate of deposit matured on March 15, 2001, and on March 19, 2001, was used to satisfy the line of credit agreement.

In March 2000, the Company entered into a line of credit agreement with Merrill Lynch. The line of credit enabled the Company to borrow a maximum of $5,000,000 with borrowings limited to 80% of eligible accounts receivable and 50% of inventory (capped at $1,000,000). The Merrill Lynch line of credit was paid in full on October 24, 2000, with proceeds from the new Mellon credit facility. In conjunction with this repayment, the unamortized deferred loan costs associated with the line of credit were written off as an extraordinary loss on the early extinguishment of debt.

On October 24, 2000, the Company obtained from Mellon Bank N.A. (“Mellon”) a $15 million line of credit and a $2 million term loan to refinance its prior bank indebtedness, to provide additional working capital and for other general corporate purposes. The line of credit enabled the Company to borrow a maximum of $15 million, with borrowings limited to 85% of eligible accounts receivable and 65% of eligible inventory. The line of credit bears interest at the floating rate of 0.25% per annum over the base rate. The term loan is payable over a 36-month period with interest at 0.75% per annum over the base rate, which is the higher of Mellon’s prime rate or the effective federal funds rate plus 0.50% per annum. In conjunction with the closing of the Mellon credit facility, the Company deposited $2 million in a restricted cash account with Mellon. The credit facility prohibits the payment of dividends. On October 29, 2001, the Company executed a loan modification agreement modifying the original Mellon line of credit with Standard Federal Bank National Association (“Standard”), formerly Michigan National Bank as successor in interest to Mellon, increasing the line to $23 million. On October 28, 2002, the Company executed a Fourth Amendment and Modification to Loan and Security Agreement with Standard. The amendment extended the contract period of the loan and security agreement to expire on October 24, 2004, from the original contract period which would have expired on October 24, 2003. In addition, the amendment modified the borrowing base, quarterly and annual net income, net worth and current ratio covenants commencing with the fiscal quarter ended September 30, 2002, and the applicable interest rate margin commencing April 1, 2003. The amendment also imposed certain accounts receivable limitations and instituted a new indebtedness to net worth ratio for the fiscal year ending March 31, 2003 and for each fiscal year end thereafter. The Company was not in compliance with the net worth covenant and the net worth to indebtedness ratio covenant with Standard at March 31, 2003. The interest rate on the term loan was 5.5%, and the interest rate on the revolving credit facility was 4.25% at March 31, 2003. The outstanding balances on the revolving line of credit and term loan were approximately $15.9 million and $18.9 million, and $.5 million and $1.1 million, respectively, as of March 31, 2003 and 2002. The availability on the line of credit at March 31, 2003 was approximately $.5 million, based on eligible borrowing limits at March 31, 2003.

The Standard line of credit and term loan were paid in full with the April 15, 2003 Congress Financial Corporation (“Congress”) credit facility and the restricted cash account with Mellon. In March 2003, the Company expensed 50% of the unamortized financing costs to interest expense related to the early termination of the Standard credit facility, and will record the remaining balance of the unamortized financing costs to interest expense in April 2003, in addition to an early termination fee of $351,000, and a fee for the waiver of the 90-day notice of termination of $30,000.

On April 15, 2003, the Company obtained from Congress a $40 million revolving line of credit and a $400,000 term note. The Congress credit facility along with the Mellon restricted cash account of $2 million were used to satisfy the outstanding line of credit and tern loan with Standard. The Congress revolving line of credit enables the Company to borrow a maximum of $40 million, with borrowings limited to 85% of eligible accounts receivable and 65% of eligible inventory. The revolving line of credit and the term note bear interest at the rate of 0.50% per annum in excess of the Prime Rate. The Congress credit facility is collateralized by all the Company’s assets. The line of credit is for a term of 36 months, and the term note is payable over the same 36-month period. The Congress credit facility imposes certain restrictive covenants on tangible net worth and EBITDA. All costs associated with the Congress credit facility will be amortized as interest expense over the term of the loan.

On April 15, 2003, Jugal K. Taneja (“Taneja”), the Chairman of the Board, CEO and a Director of the Company executed a Guarantee (the “Guarantee”) in favor of Congress. The Guarantee provides Congress with Taneja’s unconditional guaranty of all obligations, liabilities, and indebtedness of any kind of the Company to Congress. In June 2003, the Company issued 57,143 shares of common stock of the Company to Taneja as compensation for his guarantee in favor of Congress. Notwithstanding anything to the contrary, the liability of the guarantor shall not exceed $2 million in year 1; reduced to $1.5 million in year 2; and further reduced to $1 million in year 3, subject to the Company achieving collateral availability objectives.

NOTE 10—COMMITMENTS AND CONTINGENCIES

Leases

The Company has operating leases for facilities that expire at various dates through 2007. Certain leases provide an option to extend the lease term. Certain leases provide for payment by the Company of any increases in property taxes, insurance, and common area maintenance over a base amount and others provide for payment of all property taxes and insurance by the Company.

The Company leases computer and office equipment with original lease terms ranging from three to five years. These leases expire at various dates through fiscal 2007.

The Company leases vehicles for delivery and sales purposes with original lease terms ranging from one to five years. These leases expire at various dates through fiscal 2006.

The Company has capital leases on office and warehouse equipment each with original lease terms of five years. These capital leases expire at various dates during fiscal 2006.

Future minimum lease payments, by year and in aggregate under non-cancelable leases that have initial or remaining terms in excess of one year, are as follows:

Year Ending March 31	Operating Leases		Capital Leases
2004	$	319,890	$	14,163
2005		311,227		14,163
2006		267,159		—
2007		89,094		—
2008 and thereafter		—		—

Total payments	$	987,370		28,326

Less amount representing interest				(4,784	)

Total present value of minimum lease payments			$	23,542

Total rent expense for the years ended March 31, 2003, 2002 and 2001 was approximately $344,000, $226,000 and $177,700, respectively.

Purchase Commitments

The Company currently has purchase commitments with three vendors which require the Company to annually purchase a minimum of approximately $20,150,000. These commitments expire through November 2004, except for a $50,000 vendor agreement which is ongoing until terminated by either party.

Litigation

either party with a thirty day notice. The GAF agreement required that the Company pay to GAF, for consulting services performed, $5,000 per month plus expenses capped at $2,000 per month, and further required the Company to issue a warrant to GAF exercisable for a period of five years to purchase 100,000 shares of the Company’s common stock at an exercise price of $5.80 per share. However, on October 12, 2001, the Company terminated the agreement with GAF and informed GAF that GAF was in breach of contract under the Agreement and that, accordingly, no warrants would be issued to GAF and no further fees would be paid to GAF. The Company also demanded the return of all fees previously paid to GAF. At March 31, 2003, no warrants had been issued to GAF. As of June 30, 2003 GAF had not instituted any legal proceedings against the Company. The Company cannot reasonably estimate any future possible loss as a result of this matter. The Company has made no provision in the accompanying consolidated financial statements for resolution of this matter.

In March 2000, the Company acquired all of the issued and outstanding shares of common stock of Desktop Corporation, a Texas corporation located in Dallas, Texas, pursuant to an Agreement and Plan of Reorganization by and among the Company, K. Sterling Miller, Jimmy L. Fagala and HCT Capital Corp. (the “Reorganization Agreement”). On February 7, 2002, Messrs. Miller and Fagala filed a complaint against the Company in the Circuit Court of the Sixth Judicial Circuit in and for Pinellas County, Florida, alleging, among other things, that the Company had breached the Reorganization Agreement by failing to pay 38,809 shares of the Company’s common stock to plaintiffs. The complaint also includes a count of conversion and further alleges that the Company breached its employment agreements with Messrs. Miller and Fagala, for which the plaintiffs seek monetary damages. On March 11, 2002, the Company filed its answer, affirmative defenses and counterclaim against plaintiffs and HCT Capital Corp., in which it alleged, among other things, that plaintiffs had breached the Reorganization Agreement by misrepresenting the state of the acquired business, that the Company was entitled to set off its damages against the shares which the plaintiffs are seeking and further seeking contractual indemnity against the plaintiffs. On April 16, 2002, HCT Capital Corp. filed its answer, counterclaim against the Company and cross-claim against the plaintiffs. In September of 2002, Plaintiffs served the Company with written discovery requests. Since then, there has been no activity by Plaintiffs or HCT, and the Company is currently considering how to proceed in light of this inactivity. The Company intends to vigorously defend the actions filed against it and to pursue its counterclaim. The Company has made no provision in the accompanying consolidated financial statements for resolution of this matter.

On May 1, 2002, the Company filed suit against an established customer of the Company’s Pittsburgh distribution center for collection of past due accounts receivable. The customer accounted for approximately $4.1 million, or 1.5%, of the gross revenue of the Company in the fiscal year ended March 31, 2002. The Company has an unconditional personal guaranty signed by the customer’s owner. On May 23, 2002, the customer filed a voluntary petition in bankruptcy in the U.S. Bankruptcy Court, under Chapter Eleven of the United States Bankruptcy Act, subsequent to which the customer failed to file the proper financial data with the court, causing the voluntary bankruptcy filing to be withdrawn. Management is continuing to pursue its claim for payment through the courts and working with the major creditors to process return of inventory; therefore based upon Management’s participation in the discovery phase of the suit, the allowance account has been reduced to $669,000, representing approximately 75% of the account balance reserved at March 31, 2003.

The Company is, from time to time, involved in litigation relating to claims arising out of its operations in the ordinary course of business. The Company believes that none of the claims that were outstanding as of March 31, 2003 should have a material adverse impact on its financial position, results of operations, or cash flows.

NOTE 11—EMPLOYEE BENEFIT PLAN

In January 2002, the Company adopted the DrugMax, Inc. 401(k) Plan (the “401(k) Plan”). Full time employees are eligible to participate in the 401(k) Plan beginning the next quarterly enrollment date after completion of one year of employment with the Company. Eligible employees may contribute up to $12,000 and $11,000 of their annual compensation on a pre-tax basis for the 2003 and 2002, respectively, 401(k) Plan years. Participant contributions are immediately vested. In addition, under the terms of the 401(k) Plan, for each plan year, the Company may contribute an amount of matching contributions determined by the Company at its discretion. Participants become vested in the Company matching contributions over a six-year period. The Company made no contributions to the 401(k) Plan in the fiscal years ended March 31, 2003 and 2002.

NOTE 12—STOCK AND BENEFIT PLANS

Offering

On November 1, 2000, the Company filed a registration statement with the Securities and Exchange Commission for a proposed secondary offering of 2,000,000 shares of the Company’s common stock. Utendahl Capital Partners, L.P. (“Utendahl”) was contracted to act as lead managing underwriter of the proposed offering. However, on December 29, 2000, the Company and Utendahl agreed to

terminate their agreement and Utendahl received 50,000 shares of the Company’s common stock, valued at $3.9375 per share, for full release of the agreement.

The total costs incurred by the Company were approximately $456,700, and were capitalized during the third quarter of 2001. During the fourth quarter of 2001, management determined that market conditions were not conducive to a successful secondary offering of securities and cancelled the registration. As such, all costs incurred and capitalized, relative to this offering, were expensed as an impairment of assets during 2001. On October 30, 2001, the Company filed Form RW with the Securities and Exchange Commission requesting consent to withdraw the Company’s Registration Statement on Form SB-2.

Warrants

In connection with an offering on November 22, 1999, and as additional compensation to the underwriters, the Company issued warrants for the purchase of 150,000 shares of common stock. The warrants are exercisable, in whole or in part, between the first and fifth years, at an exercise price of $16.50. The underwriters shall have the option to require the Company to register the warrants and/or the common stock underlying the warrants. The warrants had an estimated fair market value of approximately $839,000 on the date of issuance, determined under the Black-Scholes Model, assuming an expected life of 5 years, a risk-free interest rate of 6.56%, expected volatility of 75%, and no dividends. This amount is included in additional paid in capital along with other issuance costs of the offering.

On January 23, 2000, the Company granted a director and a non-employee consultant to the Company, a three-year warrant to purchase 200,000 shares of common stock at an exercise price of $15.98, which approximates the 30-day weighted average of the stock price from January 23, 2000 to February 22, 2000. The warrants were immediately vested on January 23, 2000. The grant was made as a result of the director acting as a guarantor of the $5,000,000 Merrill Lynch line of credit (see Note 9). The warrants had an estimated fair value of approximately $1,625,000, which was determined using the Black-Scholes Model, assuming an expected life of 3 years, a risk-free interest rate of 6.63%, expected volatility of 75%, and no dividends. The fair value of the warrant was amortized over the term of the line of credit. The Merrill Lynch line of credit was paid in full on October 24, 2000 with proceeds from the new Mellon credit facility; therefore, the unamortized balance of the financing costs of $572,244 was recognized as an extraordinary loss on the early extinguishment of debt in October 2000.

Stock Options

In August 1999, the Company’s Board of Directors adopted a stock option plan (the “Plan”), which was approved by the Company’s shareholders at its annual meeting in August 2000. The Plan provides for the grant of incentive and nonqualified stock options to key employees, including officers, directors and consultants of the Company. Under the provisions of the Plan, all options, except for incentive options granted to “greater-than-10%-stockholders,” have an exercise price equal to the fair market value on the date of the grant and expire no more than ten years after the grant date. The exercise price of incentive options issued to “greater-than-10%-stockholders” shall not be less than 110% of the fair market value of the common stock on the date of the grant, and such options shall expire five years after the date of the grant. During the years ended March 31, 2003, 2002 and 2001, no stock options were issued to consultants. At March 31, 2003, options to acquire up to 2,000,000 shares of common stock may be granted pursuant to the Plan.

Stock option activity is summarized as follows:

Incentive and Non-Qualified Stock Options	Number of Shares		Weighted Average Exercise Price
Outstanding March 31, 2000	261,800		$	13.08

Granted	75,000			11.69
Forfeited	(46,500	)		13.53

Outstanding March 31, 2001	290,300			12.65

Granted	950,700			4.13
Forfeited	(21,900	)		6.05

Outstanding March 31, 2002	1,219,100			6.13

Granted	702,934			1.94
Forfeited	(265,400	)		6.49

Outstanding at March 31, 2003	1,656,634			4.25

Outstanding options under the Plan vest over a one- to three-year period. As of March 31, 2003 and 2002, 1,094,439 and 636,533 options, respectively, with a weighted average exercise price of $5.85 and $7.13, respectively, were exercisable. The following is a summary of stock options outstanding and exercisable as of March 31, 2003.

Exercise Price	Options Outstanding	Weighted Average Remaining Contractual Life (years)	Options Exercisable
$10.00	5,000	6.66	5,000
13.00	169,800	6.83	169,800
11.38	7,500	7.16	7,500
10.88	30,000	7.25	20,000
7.00	7,500	7.50	5,000
3.50	497,200	8.00	249,072
5.70	900	8.33	300
5.00	142,500	8.42	142,500
5.75	40,000	3.55	40,000
6.05	28,300	8.58	9,433
4.00	25,000	9.00	25,000
3.25	25,000	9.25	25,000
3.85	5,000	9.25	—
1.70	6,000	9.50	—
1.55	242,500	9.50	242,500
1.00	171,100	9.58	—
8.00	33,334	9.66	33,334
2.00	220,000	9.66	120,000

	1,656,634		1,094,439

Remaining non-exercisable options as of March 31, 2003 become exercisable as follows:

2004		231,933
2005		219,500
2006		110,702

		562,195

NOTE 13—RELATED PARTY TRANSACTIONS

notes receivable and are to be repaid by Mr. Patrick, Chief Financial Officer of the Company, and Mr. Blundo, the President of Valley, upon their sale of the Company stock, which is restricted stock subject to a holding period which ended on April 19, 2001. At March 31, 2003 and 2002, the outstanding balance on the notes was $100,000.

Mr. Blundo, the President of Valley, and Mr. Patrick, the Chief Financial Officer of the Company, together are 2/3 owners of Professional Pharmacy Solutions, LLC (“PPS”), a pharmacy management company. Valley sells products to PPS under normal terms and conditions. During the fiscal year ended March 31, 2003, the Company generated revenues of approximately $1.5 million, and generated revenues of approximately $1.1 million for each of the fiscal years ended March 31, 2002 and 2001 from PPS. The receivable balance due from PPS at March 31, 2003 and 2002 was approximately $400,000 and $590,000, respectively.

In the fiscal year ended March 31, 2003, the Company advanced to its employee and the former owner of Penner, Johns, funds in the amount of approximately $107,000, which is secured by a note executed by Johns. The note was not associated with or as a result of the Company’s acquisition of Penner. The note bears no interest and is being paid by Johns through deductions from his compensation from the Company. At March 31, 2003, the outstanding balance due from Johns was approximately $101,266.

NOTE 14—SEGMENT INFORMATION

The Company has adopted SFAS No. 131, “Disclosures About Segments of Enterprise and Related Information,” which established standards for reporting information about a Company’s operating segments. Operating segments are defined as components of an enterprise for which separate financial information is available that is evaluated on a regular basis by the chief operating decision maker, or decision making group, in deciding how to allocate resources to an individual segment and in assessing performance of the segment.

During the fiscal year ended March 31, 2001, the Company operated two industry segments: wholesale distribution and computer software development. During the fiscal years ended March 31, 2003 and 2002, the Company did not operate the software development segment and has made the determination to concentrate on the Company’s core wholesale distribution businesses. The Company has determined that is has one reportable segment because all distribution subsidiaries have similar economic characteristics, such as margins, products, customers, distribution networks and regulatory oversight. The distribution line of business represents 100% of consolidated revenues in fiscal years 2003 and 2002, and substantially all of the consolidated revenues in fiscal year 2001. The accounting policies of the operating segment are those discussed in Note 2, Summary of Significant Accounting Policies.

The Company distributes product both within and outside the United States. Revenues from distribution within the United States represented approximately 99.5%, 99.8% and 100.0% of gross revenues for the years ended March 31, 2003, 2002 and 2001, respectively. Foreign revenues were generated primarily from distribution to customers in Puerto Rico.

The following table presents distribution revenues from the Company’s only segment for each of the Company’s three primary product lines for the fiscal years ended March 31:

	2003		2002		2001
Revenue from:
Branded pharmaceuticals	$	268,443,471	$	252,526,812	$	166,185,219
Generic pharmaceuticals		14,722,530		12,525,736		6,470,828
Over the counter and general		8,585,770		6,235,440		5,057,017

Total revenues	$	291,751,771	$	271,287,988	$	177,713,064

NOTE 15—MAJOR CUSTOMER CONCENTRATION

NOTE 16—SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)

The following tables set forth certain unaudited quarterly financial data for each of the four quarters in the fiscal years ended March 31, 2003 and 2002:

	FISCAL QUARTER
	First			Second			Third		Fourth			Total
2003
Revenues	$	63,103,819		$	73,736,121		$	85,233,822	$	69,678,009		$	291,751,771
Gross profit		1,980,826			2,279,786			1,883,182		1,960,913			8,104,707
Net (loss) income		(571,690	)		(12,298,531	)		10,333		(84,137	)		(13,162,458	)
(Loss) income per common share
Basic		(0.08	)		(1.73	)		0.00		(0.04	)		(1.85	)
Diluted		(0.08	)		(1.73	)		0.00		(0.04	)		(1.85	)

2002
Revenues	$	70,876,312		$	66,187,701		$	63,735,331	$	70,488,644		$	271,287,988
Gross profit		1,801,289			1,676,828			2,121,733		1,912,756			7,512,606
Net income		883,649			735,466			377,010		10,997			2,007,122
Income per common share
Basic		0.13			0.11			0.05		0.00			0.29
Diluted		0.12			0.10			0.05		0.01			0.28

(1) In the first quarter 2003, the Company recorded an allowance for an account receivable in the amount of $897,000 and accrued expenses related thereto in the amount of $19,132. The Company also recorded a deferred income tax benefit of $342,629 for the first quarter 2003, relating to these charges.

(2) During the second quarter 2003, the Company completed its annual two-step process of the goodwill impairment as prescribed in SFAS No. 142, and recorded a goodwill impairment loss of $12,209,298, and an intangible asset impairment loss of $258,914.

(3) In the first quarter of 2002, the Company recognized a deferred income tax benefit of $494,030, net of deferred income tax expense of $162,200.

(4) In the second quarter of 2002, the Company recognized a deferred income tax benefit of $616,250, net of deferred income tax expense of $40,000.

NOTE 17—RESTATEMENT

Subsequent to the issuance of the Company’s consolidated financial statements as of and for the year ended March 31, 2002, the Company determined that the accounting treatment for a warrant issued to a director and non-employee consultant on January 23, 2000 as a result of the director’s acting as a guarantor of the Company’s $5,000,000 Merrill Lynch line of credit (see Note 12) was not in accordance with guidance established under APB Opinion No. 25 and FASB Interpretation No. 44, Accounting for Certain Transactions Involving Stock Compensation, an Interpretation of APB Opinion No. 25. Because the warrants were issued to a non-employee director for services outside his role as a director, the warrants should have been accounted for under SFAS No. 123. Accordingly, the fair value of the warrants of $1,625,000 should have been recognized as deferred financing costs in January 2000 and amortized to interest expense over the one-year term of the line of credit, beginning in March 2000. The Merrill Lynch line of credit was paid in full on October 24, 2000, with proceeds from the new Mellon credit facility (see Note 9); therefore, the unamortized balance of the financing costs of $572,244 should have been recognized as an extraordinary loss on the early extinguishment of debt in October 2000. The Company has not treated the warrant expense as a deductible item in its tax returns, and has concluded that the warrant expense will be treated as a permanent difference, which does not create tax benefits for the Company. As a result, the consolidated financial statements for the years ended March 31, 2002 and 2001 have been restated from the amounts originally reported in the Company’s 2002 Form 10-KSB filed on July 1, 2002. The restatement was reflected in the Company’s 2002 Form 10-KSB/A as filed on March 14, 2003

A summary of the significant effects of the restatement on the Company’s consolidated statement of operations for the year ended March 31, 2001 is as follows:

	Year Ended March 31, 2001
	As Originally Reported		Adjustments		As Restated in 2002 Form 10- KSB/A
Interest expense	$	1,124,242	$	917,339	$	2,041,581
Loss before extraordinary item		7,816,583		917,339		8,733,922
Extraordinary loss on extinguishment of debt		—		572,244		572,244
Net loss		7,816,583		1,489,583		9,306,166
Net loss per common share – basic and diluted:
Loss before extraordinary item	$	1.22	$	0.14	$	1.36
Extraordinary loss on extinguishment of debt		—		0.09		0.09

Net loss per common share – basic and diluted	$	1.22	$	0.23	$	1.45

A summary of the significant effects of the restatement on the Company’s consolidated balance sheet as of March 31, 2002 is as follows:

	As Originally Reported			Adjustments			As Restated in 2002 Form 10- KSB/A
Additional paid-in capital	$	39,342,355		$	1,625,000		$	40,967,355
Accumulated deficit		(7,902,880	)		(1,625,000	)		(9,527,880	)
Total stockholders’ equity		31,446,595			—			31,446,595
Total liabilities and stockholders’ equity		66,302,757			—			66,302,757

NOTE 18—SUBSEQUENT EVENTS

In April 2003, W.A. Butler & Company (“Butler”), a 30% shareholder of VetMall, executed an agreement with the Company and VetMall. The terms of the agreement provide for the transfer of Butler’s 30% ownership of VetMall stock and the forgiveness of $.5 million of long-term liabilities of the Company to Butler. The agreement also releases Butler from any present and future operational expenses of VetMall. Since there is no minority interest at March 31, 2003, the transfer of the 30% interest will have no impact on the consolidated financial statements.

Item 9.

CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.

On February 5, 2003, the Company appointed BDO Seidman, LLP (“BDO”) as its new independent accountants for the fiscal year ended March 31, 2003, replacing the firm of Deloitte & Touche, LLP (“Deloitte”), which served as the Company’s independent accountants for the fiscal years ended March 31, 2002, 2001 and 2000. During the two most recent fiscal years and any subsequent interim period prior to engaging BDO, the Company did not consult with BDO regarding either (i) the application of accounting principles to a specified transaction, either completed or proposed, or the type of audit opinion that might be rendered on the Company’s financial statements; or (ii) any matter that was either the subject matter of a disagreement (as defined in Item 304(a)(1)(iv) of Regulation S-K and related instructions) or a reportable event (as defined in Item 304(a)(1)(v) of Regulation S-K). The appointment of BDO was approved by the Audit Committee and the Company’s Board of Directors.

The reports of Deloitte on the Company’s financial statements for the past two fiscal years did not contain a disclaimer of opinion or an opinion that was adverse or was qualified or modified for uncertainty, audit scope, or accounting principle. Furthermore, during the two most recent fiscal years and through the subsequent period ending on February 5, 2003, there were no disagreements with Deloitte on matters of accounting principle or practice, financial statement disclosure, or audit scope or procedure which, if not resolved to Deloitte’s satisfaction, would have caused Deloitte to refer to the subject matter of the disagreements in their report. In addition, during the two most recent fiscal years, there have been no reportable events (as defined in Item 304(a)(1)(v) of Regulation S-K), except as follows:

As previously reported, the Company’s Board of Directors, in consultation with Deloitte, determined that a restatement of the Company’s consolidated financial statements for the years ended March 31, 2002 and 2001 and the quarter ended June 30, 2002 was required to appropriately account for a warrant issued to a director and non-employee on January 23, 2000. The Company has filed the amended Form 10-KSB for its fiscal year ended March 31, 2002, and the amended Form 10-Q for its quarter ended June 30, 2002.

On February 27, 2003, the Company authorized Deloitte to respond fully to the inquiries of BDO concerning this matter.

A letter from Deloitte was addressed to the Securities and Exchange Commission and was attached as an exhibit to the Company’s Form 8-K/A, dated February 27, 2003.

PART III

Item 10.

DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.

The information required by this Item is incorporated herein by reference to the information under the headings “Management—Directors and Executive Officers” in the Company’s definitive Proxy Statement to be used in connection with the Company’s Annual Meeting of Stockholders, which will be filed with the Securities and Exchange Commission on or before July 29, 2003.

Item 11.

EXECUTIVE COMPENSATION

The information required by this Item is incorporated herein by reference to the information under the headings “Management—Compensation of Executive Officers and Directors” in the Company’s definitive Proxy Statement to be used in connection with the Company’s Annual Meeting of Stockholders, which will be filed with the Securities and Exchange Commission on or before July 29, 2003.

Item 12.

SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.

The information required by this Item is incorporated herein by reference to the information under the headings “Management—Security Ownership of Management and Others” in the Company’s definitive Proxy Statement to be used in connection with the Company’s Annual Meeting of Stockholders, which will be filed with the Securities and Exchange Commission on or before July 29, 2003.

Item 13.

CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

The information required by this Item is incorporated herein by reference to the information under the headings “Certain Relationships and Related Transactions” in the Company’s definitive Proxy Statement to be used in connection with the Company’s Annual Meeting of Stockholders, which will be filed with the Securities and Exchange Commission on or before July 29, 2003.

Item 14.

CONTROLS AND PROCEDURES

Within 90 days prior to the date of filing this Annual Report on Form 10-K, an evaluation was performed under the supervision and with the participation of our management, including the chief executive officer and chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on that evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were effective as of the evaluation date. There have been no significant changes in our internal controls or in other factors that could significantly affect internal controls subsequent to the date of our evaluation.

PART IV

Item 15.

EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K


(a	)	Documents filed as part of this report:

		1.	Financial Statements and Reports of BDO Seidman, LLP and Deloitte & Touche, LLP

			The financial statements included in Part II, Item I of this Annual Report on Form 10-K are filed as part of this Report.

		2.	Financial Statement Schedule.

Report of Independent Certified Public Accountants

Board of Directors and Stockholders

DrugMax, Inc.

Clearwater, FL

The audit referred to in our report dated July 2, 2003 relating to the 2003 consolidated financial statements of DrugMax, Inc. and subsidiaries, which is contained in Item 8 of this Form 10-K included the audit of the 2003 consolidated financial statement schedule listed in Item 15. This consolidated financial statement schedule is the responsibility of the Company’s management. Our responsibility is to express an opinion on this 2003 consolidated financial statement schedule based upon our audit.

In our opinion such 2003 consolidated financial statement schedule presents fairly, in all material respects, the information set forth therein.

BDO Seidman, LLP

Miami, FL

July 2, 2003

INDEPENDENT AUDITORS’ REPORT

To the Board of Directors and Stockholders of DrugMax, Inc.:

We have audited the consolidated financial statements of DrugMax, Inc. (the “Company”) as of March 31, 2002, and for each of the two years in the period ended March 31, 2002, and have issued our report thereon dated June 27, 2002 (November 22, 2002 as to Note 17), which report includes two explanatory paragraphs relating to the adoption of a new accounting principle in 2002 and the restatement of the consolidated financial statements. Our audits also included the consolidated financial statement schedule of DrugMax, Inc., listed in Item 15. These consolidated financial statement schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion based on our audits. In our opinion, such 2002 and 2001 consolidated financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly in all material respects the information set forth therein.

/s/ DELOITTE & TOUCHE LLP

Certified Public Accountants

Tampa, Florida

June 27, 2002

SCHEDULE II

VALUATION AND QUALIFYING ACCOUNTS

THREE YEARS ENDED MARCH 31, 2003

DESCRIPTION	Balance at Beginning of Year		Additions Charged to Cost and Expenses			Other			Deductions		Balance at End of Year
Allowance for doubtful accounts receivable:
Year ended March 31,
2003	$	340,575	$	1,114,539		$	(50,000	)(A)	$	151,285	$	1,253,829
2002		381,944		35,757			62,750	(B)		139,876		340,575
2001		113,282		99,044			209,588	(C)		39,970		381,944
Valuation allowance on deferred tax assets:
Year ended March 31,
2003	$	—	$	580,100	(D)	$	—		$	—	$	580,100
2002		1,458,500		—			—			1,458,500		—
2001		717,495		741,005	(D)		—			—		1,458,500

(A)

Provision for other receivable included in bad debt expense.

(B)

Recovery of debt previously written off.

(C)

Represents allowance for doubtful accounts for accounts receivable.

(D)

Increase in amount of deferred income tax assets for which realization is not more likely than not.


	3.	Exhibits

2.1	Agreement and Plan of Merger by and between NuMed Surgical, Inc. and Nutriceuticals.com Corporation, dated as of January 15, 1999. (1)

2.2	Agreement and Plan of Reorganization dated September 8, 1999 by and between Nutriceuticals.com Corporation and Dynamic Health Products, Inc. (2)

2.3	Agreement and Plan of Reorganization between DrugMax.com, Inc., Jimmy L. Fagala, K. Sterling Miller, and HCT Capital Corp. dated as of March 20, 2000. (3)

2.4	Stock Purchase Agreement between DrugMax.com, Inc. and W.A. Butler Company dated as of March 20, 2000. (3)

2.5	Merger Purchase Agreement between DrugMax.com, Inc., DrugMax Acquisition Corporation, and Valley Drug Company, Ronald J. Patrick and Ralph A. Blundo dated as of April 19, 2000. (4)

2.6	Agreement for Purchase and Sale of Assets by and between Discount Rx, Inc., and Penner & Welsch, Inc., dated October 12, 2001. (11)

3.1	Articles of Incorporation of NuMed Surgical, Inc., filed October 18, 1993. (1)

3.2	Articles of Amendment to the Articles of Incorporation of NuMed Surgical, Inc., filed March 18, 1999. (1)

3.3	Articles of Merger of NuMed Surgical, Inc. and Nutriceuticals.com Corporation, filed March 18, 1999. (1)

3.4	Certificate of Decrease in Number of Authorized Shares of Common Stock of Nutriceuticals.com Corporation, filed October 29, 1999. (5)

3.5	Articles of Amendment to Articles of Incorporation of Nutriceuticals.com Corporation, filed January 11, 2000. (8)

3.6	Articles and Plan of Merger of Becan Distributors, Inc. and DrugMax.com, Inc., filed March 29, 2000. (8)

3.7	Amended and Restated Bylaws, dated November 11, 1999. (5)

4.2	Specimen of Stock Certificate. (8)

10.1	Employment Agreement by and between Nutriceuticals.com Corporation and William L. LaGamba dated January 1, 2000. (7)

10.2	Employment Agreement by and between Valley Drug Company and Ronald J. Patrick dated April 19, 2000 (8)

10.3	Employment Agreement by and between DrugMax, Inc. and Jugal K. Taneja, dated October 1, 2001. (12)

10.4	Consulting Agreement by and between DrugMax.com, Inc. and Stephen M. Watters dated August 10, 2000. (9)

10.5	DrugMax.com, Inc. 1999 Incentive and Non-Statutory Stock Option Plan. (8)

10.6	Amendment No. 1 to DrugMax, Inc. 1999 Incentive and Non-Statutory Stock Option Plan, dated June 5, 2002. (14)

10.7	Fourth Amendment and Modification to Loan and Security Agreement among DrugMax, Inc., Valley Drug Company, Discount Rx, Inc., Valley Drug Company South and Standard Federal Bank National Association dated October 28, 2002. (15)

10.8	Loan and Security Agreement by an between Congress Financial Corporation and DrugMax, Inc., Valley Drug Company, Valley Drug Company South and Discount Rx, Inc., dated April 15, 2003. *

16.1	Letter of Deloitte & Touche, LLP addressed to the Securities and Exchange Commission. (16)

21.0	Subsidiaries of DrugMax.com, Inc. (9)

99.1	Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes- Oxley Act of 2002. *

99.2	Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes- Oxley Act of 2002. *

Filed herewith.

(1)

Incorporated by reference to the Company’s Registration Statement on Form SB-2, filed June 29, 1999, File Number 0-24362, as amended.

(2)

Incorporated by reference to Amendment No. 1 to the Company’s Registration Statement on Form SB-2, filed on September 13, 1999, File No. 0-24362.

(3)

Incorporated by reference to the Company’s Report on Form 8-K, filed April 6, 2000, File Number 0-24362.

(4)

Incorporated by reference to the Company’s Report on Form 8-K, filed May 3, 2000, File Number 0-24362.

(5)

Incorporated by reference to Amendment No. 2 to the Company’s Registration Statement on Form SB-2, filed on November 12, 1999, File No. 0-24362.

(6)

Incorporated by reference to the Company’s Report on Form 8-K, filed February 8, 2000, File No. 0-24362.

(7)

Incorporated by reference to the Company’s Form 10-KSB, filed June 29, 2000, File No. 0-24362.

(8)

Incorporated by reference to the Company’s Form 10-KSB/A, filed July 14, 2000, File No. 0-24362.

(9)

Incorporated by reference to the Company’s Registration Statement on Form SB-2, filed on November 1, 2000.

(10)

Incorporated by reference to the Company’s Form 10-QSB, filed November 14, 2000, File No. 1-15445.

(11)

Incorporated by reference to the Company’s Report on Form 8-K, filed November 9, 2001.

(12)

Incorporated by reference to the Company’s Form 10-QSB, filed November 14, 2001.

(13)

Incorporated by reference to the Company’s Form 10-QSB, filed February 14, 2002.

(14)

Incorporated by reference to the Company’s Form 10-KSB, filed July 1, 2002.

(15)

Incorporated by reference to the Company’s Form 10-Q, filed October 17, 2002.

(16)

Incorporated by reference to the Company’s Form 8-K/A, filed February 28, 2003.

(b) Reports on Form 8-K.

During the three months ended March 31, 2003, the Company filed the following reports on Form 8-K:

Form 8-K dated February 5, 2003, with respect to the Company’s change in independent accountants.

Form 8-K/A dated February 27, 2003, with respect to the Company’s change in independent accountants.

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

		DRUGMAX, INC.

Dated: July 15, 2003		By /s/ Jugal K. Taneja Jugal K. Taneja, Chief Executive Officer and Chairman of the Board

Dated: July 15, 2003		By /s/ William L. LaGamba William L. LaGamba, President and Chief Operating Officer

Dated: July 15, 2003		By /s/ Ronald J. Patrick Ronald J. Patrick, Chief Financial Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant in the capacities and on the dates indicated.

Signatures	Title	Date

By: /s/ Jugal K. Taneja Jugal K. Taneja	Chairman of the Board, Chief Executive Officer and Director	July 15, 2003

By: /s/ William LaGamba William L. LaGamba	President, Chief Operating Officer and Director	July 15, 2003

By: /s/ Ronald J. Patrick Ronald J. Patrick	Chief Financial Officer and Director	July 15, 2003

By: /s/ Dr. Howard L. Howell, DDS Dr. Howard L. Howell, DDS	Director	July 15, 2003

By: /s/ Robert G. Loughrey Robert G. Loughrey	Director	July 15, 2003

By: /s/ Martin Sperber Martin Sperber	Director	July 15, 2003

By: /s/ Sushil Suri Sushil Suri	Director	July 15, 2003

CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER

PURSUANT TO SECTION 302 OF THE

SARBANES-OXLEY ACT OF 2002

I, Jugal K. Taneja, certify that:

1. I have reviewed this annual report on Form 10-K of DrugMax, Inc.;

2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;

3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;

4. The registrant’s other certifying 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 to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others, particularly during the period in which this annual report is being prepared;

b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the “Evaluation Date”); and

c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5. The registrant’s other certifying 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 in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

6. The registrant’s other certifying officer and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

Dated: July 15, 2003	By:	/s/ Jugal K. Taneja
		Jugal K. Taneja
		Chief Executive Officer

CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER

PURSUANT TO SECTION 302 OF THE

SARBANES-OXLEY ACT OF 2002

I, Ronald J. Patrick, certify that:

1. I have reviewed this annual report on Form 10-K of DrugMax, Inc.;

b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the “Evaluation Date”); and

c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

Dated: July 15, 2003	By:	/s/ Ronald J. Patrick
		Ronald J. Patrick
		Chief Financial Officer

EX-10.8 3 dex108.txt LOAN AND SECURITY AGREEMENT LOAN AND SECURITY AGREEMENT by and between CONGRESS FINANCIAL CORPORATION (FLORIDA) as Lender and DRUGMAX, INC. as Borrower, together with its subsidiaries VALLEY DRUG COMPANY, VALLEY DRUG COMPANY SOUTH, and DISCOUNT RX, INC. Dated: April 15, 2003 TABLE OF CONTENTS

-i- SECTION 8. REPRESENTATIONS AND WARRANTIES......................................................48 8.1 Corporate Existence; Power and Authority............................................49 8.2 Name; State of Organization; Chief Executive Office; Collateral Locations...........49 8.3 Financial Statements; No Material Adverse Change....................................50 8.4 Priority of Liens; Title to Properties..............................................50 8.5 Tax Returns.........................................................................50 8.6 Litigation..........................................................................50 8.7 Compliance with Other Agreements and Applicable Laws................................51 8.8 Environmental Compliance............................................................51 8.9 Employee Benefits...................................................................52 8.10 Bank Accounts.......................................................................52 8.11 Intellectual Property...............................................................52 8.12 Subsidiaries; Affiliates; Capitalization; Solvency..................................53 8.13 Labor Disputes......................................................................54 8.14 Restrictions on Subsidiaries........................................................54 8.15 Material Contracts..................................................................54 8.16 Payable Practices...................................................................55 8.17 Accuracy and Completeness of Information............................................55 8.18 Survival of Warranties; Cumulative..................................................55 SECTION 9. AFFIRMATIVE AND NEGATIVE COVENANTS..................................................55 9.1 Maintenance of Existence............................................................55 9.2 New Collateral Locations............................................................56 9.3 Compliance with Laws, Regulations, Etc..............................................56 9.4 Payment of Taxes and Claims.........................................................57 9.5 Insurance...........................................................................57 9.6 Financial Statements and Other Information..........................................58 9.7 Sale of Assets, Consolidation, Merger, Dissolution, Etc.............................60 9.8 Encumbrances........................................................................61 9.9 Indebtedness........................................................................61 9.10 Loans, Investments, Etc.............................................................62 9.11 Dividends and Redemptions...........................................................63 9.12 Transactions with Affiliates........................................................64 9.13 Compliance with ERISA...............................................................64 9.14 End of Fiscal Years; Fiscal Quarters................................................64 9.15 Change in Business..................................................................64 9.16 Limitation of Restrictions Affecting Subsidiaries...................................64 9.17 Tangible Net Worth..................................................................65 9.18 EBITDA..............................................................................65 9.19 License Agreements..................................................................66 9.20 After Acquired Real Property........................................................67 9.21 Costs and Expenses..................................................................68 9.22 Further Assurances..................................................................68

-ii- SECTION 10. EVENTS OF DEFAULT AND REMEDIES......................................................69 10.1 Events of Default...................................................................69 10.2 Remedies............................................................................72 SECTION 11. JURY TRIAL WAIVER; OTHER WAIVERS AND CONSENTS; GOVERNING LAW........................75 11.1 Governing Law; Choice of Forum; Service of Process; Jury Trial Waiver...............75 11.2 Waiver of Notices...................................................................77 11.3 Amendments and Waivers..............................................................77 11.4 Waiver of Counterclaims.............................................................77 11.5 Indemnification.....................................................................78 SECTION 12. TERM OF AGREEMENT; MISCELLANEOUS....................................................78 12.1 Term................................................................................78 12.2 Interpretative Provisions...........................................................80 12.3 Notices.............................................................................82 12.4 Partial Invalidity..................................................................83 12.5 Successors..........................................................................83 12.6 Entire Agreement....................................................................83 12.7 Counterparts, Etc...................................................................84

-iii- INDEX TO EXHIBITS AND SCHEDULES Exhibit A Information Certificate Exhibit B Compliance Certificate Exhibit C Draft Letter of Intent re: Utopia, Inc. Schedule 1.20 Accounts Schedule 1.55 Permitted Holders -iv- LOAN AND SECURITY AGREEMENT This Loan and Security Agreement dated April __, 2003 is entered into by and between Congress Financial Corporation (Florida), a Florida corporation ("Lender") and DrugMax, Inc., a Nevada corporation ("Borrower") (together with its subsidiaries, Valley Drug Company, an Ohio corporation, Valley Drug Company South, a Louisiana corporation, and Discount Rx, Inc., a Louisiana corporation, also the "Borrower"). Jugal K. Taneja, William L. LaGamba and Ronald J. Patrick have also executed this Agreement solely in connection with their acknowledgement of and agreement to the provisions of Section 10.2(b) hereof. W I T N E S S E T H: WHEREAS, Borrower has requested that Lender enter into financing arrangements with Borrower pursuant to which Lender may make loans and provide other financial accommodations to Borrower; and WHEREAS, Lender is willing to make such loans and provide such financial accommodations on the terms and conditions set forth herein; NOW, THEREFORE, in consideration of the mutual conditions and agreements set forth herein, and for other good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, the parties hereto agree as follows: SECTION 1. DEFINITIONS For purposes of this Agreement, the following terms shall have the respective meanings given to them below: 1.1 "Accounts" shall mean all present and future rights of Borrower to payment of a monetary obligation, whether or not earned by performance, which is not evidenced by chattel paper or an instrument, (a) for property that has been or is to be sold, leased, licensed, assigned, or otherwise disposed of, (b) for services rendered or to be rendered, (c) for a secondary obligation incurred or to be incurred, or (d) arising out of the use of a credit or charge card or information contained on or for use with the card. 1.2 "Acquisition Line" shall have the meaning set forth in Section 6.6 hereof. 1.3 "Adjusted Eurodollar Rate" shall mean, with respect to each Interest Period for any Eurodollar Rate Loan, the rate per annum (rounded upwards, if necessary, to the next one-sixteenth (1/16) of one (1%) percent) determined by dividing (a) the Eurodollar Rate for such Interest Period by (b) a percentage equal to: (i) one (1) minus (ii) the Reserve Percentage. For purposes hereof, "Reserve Percentage" shall mean the reserve percentage, expressed as a decimal, prescribed by any United States or foreign banking authority for determining the reserve requirement which is or would be applicable to deposits of United States dollars in a non-United States or an international banking office of Reference Bank used to fund a Eurodollar Rate Loan or any Eurodollar Rate Loan made with the proceeds of such deposit, whether or not the Reference Bank actually holds or has made any such deposits or loans. The Adjusted Eurodollar Rate shall be adjusted on and as of the effective day of any change in the Reserve Percentage. 1.4 "Affiliate" shall mean, with respect to a specified Person, any other Person which directly or indirectly, through one or more intermediaries, controls or is controlled by or is under common control with such Person, and without limiting the generality of the foregoing, includes (a) any Person which beneficially owns or holds five (5%) percent or more of any class of Voting Stock of such Person or other equity interests in such Person, (b) any Person of which such Person beneficially owns or holds five (5%) percent or more of any class of Voting Stock or in which such Person beneficially owns or holds five (5%) percent or more of the equity interests and (c) any director or executive officer of such Person. For the purposes of this definition, the term "control" (including with correlative meanings, the terms "controlled by" and "under common control with"), as used with respect to any Person, means the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such Person, whether through the ownership of Voting Stock, by agreement or otherwise. 1.5 "Agreement" shall mean, this Loan and Security Agreement, as the same now exists or may be amended, supplemented, restated, replaced, or otherwise modified from time to time. 1.6 "Blocked Accounts" shall have the meaning set forth in Section 6.3 hereof. 1.7 "Borrowing Base" shall mean, at any time, the amount equal to: (a) eighty-five (85%) percent of Eligible Accounts, plus (b) the lesser of: (i) sixty-five (65%) percent of the Value of Eligible Inventory consisting of finished goods or (ii) $16,000,000, subject to a $2,000,000 sublimit for Controlled Substances, as such term is defined by the U.S. Food and Drug Administration from time to time, less (c) any Reserves. For purposes only of applying the sublimit on Revolving Loans based on Eligible Inventory set forth clause (b) above, Lender may treat the then undrawn amounts of outstanding Letter of Credit Accommodations for the purpose of purchasing Eligible Inventory as Revolving Loans to the extent Lender is in effect basing the issuance of the Letter of Credit Accommodations on the Value of the Eligible Inventory being purchased with such Letter of Credit Accommodations. In determining the actual amounts of such Letter of Credit Accommodations to be so treated for purposes of the sublimit, the outstanding Revolving Loans and Reserves shall be attributed first to any components of the lending formulas set forth above -2- that are not subject to such sublimit, before being attributed to the components of the lending formulas subject to such sublimit. 1.8 "Business Day" shall mean any day other than a Saturday, Sunday, or other day on which commercial banks are authorized or required to close under the laws of the State of Florida, the State of New York or the State of North Carolina, and a day on which the Reference Bank and Lender are open for the transaction of business, except that if a determination of a Business Day shall relate to any Eurodollar Rate Loans, the term Business Day shall also exclude any day on which banks are closed for dealings in dollar deposits in the London interbank market or other applicable Eurodollar Rate market. 1.9 "Capital Leases" shall mean, as applied to any Person, any lease of (or any agreement conveying the right to use) any property (whether real, personal or mixed) by such Person as lessee which in accordance with GAAP, is required to be reflected as a liability on the balance sheet of such Person. 1.10 "Capital Stock" shall mean, with respect to any Person, any and all shares, interests, participations or other equivalents (however designated) of such Person's capital stock or partnership, limited liability company or other equity interests at any time outstanding, and any and all rights, warrants or options exchangeable for or convertible into such capital stock or other interests (but excluding any debt security that is exchangeable for or convertible into such capital stock). 1.11 "Cash Equivalents" shall mean, at any time, (a) any evidence of Indebtedness with a maturity date of ninety (90) days or less issued or directly and fully guaranteed or insured by the United States of America or any agency or instrumentality thereof; provided, that, the full faith and credit of the United States of America is pledged in support thereof; (b) certificates of deposit or bankers' acceptances with a maturity of ninety (90) days or less of any financial institution that is a member of the Federal Reserve System having combined capital and unimpaired surplus of not less than $1,000,000,000; (c) commercial paper (including variable rate demand notes) with a maturity of ninety (90) days or less issued by a corporation (except an Affiliate of Borrower) organized under the laws of any State of the United States of America or the District of Columbia and rated at least A-1 by Standard & Poor's Ratings Service, a division of The McGraw-Hill Companies, Inc. or at least P-1 by Moody's Investors Service, Inc.; (d) repurchase obligations with a term of not more than thirty (30) days for underlying securities of the types described in clause (a) above entered into with any financial institution having combined capital and unimpaired surplus of not less than $1,000,000,000; (e) repurchase agreements and reverse repurchase agreements relating to marketable direct obligations issued or unconditionally guaranteed by the United States of America or issued by any governmental agency thereof and backed by the full faith and credit of the United States of America, in each case maturing within ninety (90) -3- days or less from the date of acquisition; provided, that, the terms of such agreements comply with the guidelines set forth in the Federal Financial Agreements of Depository Institutions with Securities Dealers and Others, as adopted by the Comptroller of the Currency on October 31, 1985; and (f) investments in money market funds and mutual funds that are registered under the Investment Company Act of 1940 as amended which invest substantially all of their assets in securities of the types described in clauses (a) through (e) above. 1.12 "Change of Control" shall mean (a) the transfer (in one transaction or a series of transactions) of all or substantially all of the assets of Borrower to any Person or group (as such term is used in Section 13(d)(3) of the Exchange Act); (b) the liquidation or dissolution of Borrower or the adoption of a plan by the stockholders of Borrower relating to the dissolution or liquidation of Borrower; (c) the acquisition by any Person or group (as such term is used in Section 13(d)(3) of the Exchange Act), except for one or more Permitted Holders, of beneficial ownership, directly or indirectly, of a majority of the voting power of the total outstanding Voting Stock of Borrower or the Board of Directors of Borrower; (d) during any period of two (2) consecutive years, individuals who at the beginning of such period constituted the Board of Directors of Borrower (together with any new directors who have been appointed by any Permitted Holder, or whose nomination for election by the stockholders of Borrower, as the case may be, was approved by a vote of at least sixty-six and two-thirds (66 2/3%) percent of the directors then still in office who were either directors at the beginning of such period or whose election or nomination for election was previously so approved) cease for any reason to constitute a majority of the Board of Directors of Borrower then still in office; or (e) the failure of the Permitted Holders to own more than fifty-one (51%) percent of the voting power of the total outstanding Voting Stock of Borrower. 1.13 "Code" shall mean the Internal Revenue Code of 1986, as the same now exists or may from time to time hereafter be amended, modified, recodified or supplemented, together with all rules, regulations and interpretations thereunder or related thereto. 1.14 "Collateral" shall have the meaning set forth in Section 5 hereof. 1.15 "Collateral Access Agreement" shall mean an agreement in writing, in form and substance satisfactory to Lender, by a lessor of premises to Borrower, or any other person to whom any Collateral (including Inventory, Equipment, bills of lading or other documents of title) is consigned or who has custody, control or possession of any such Collateral or is otherwise the owner or operator of any premises on which any of such Collateral is located, in favor of Lender waiving or subordinating any rights of such lessor other person with respect to the Collateral and granting Lender certain rights. -4- 1.16 "Consistent Basis" means in reference to the application of GAAP, that the accounting principles observed in the current period are comparable in all material respects to those applied in the preceding period. 1.17 "Default" shall mean an act, condition or event which with notice or passage of time or both would constitute an Event of Default. 1.18 "Deposit Account Control Agreement" shall mean an agreement in writing, in form and substance satisfactory to Lender, by and among Lender, Borrower and any bank at which any deposit account of Borrower is at any time maintained which provides that such bank will comply with instructions originated by Lender directing disposition of the funds in the deposit account without further consent by Borrower and such other terms and conditions as Lender may require. 1.19 "EBITDA" shall mean Borrower's net income for any accounting period plus (i) the amount of the provision for federal, state and local income tax for such period, plus (ii) the amount of interest expense during such period for indebtedness for borrowed money, plus (iii) the amount of the provision for depreciation and amortization for such period determined in accordance with GAAP and, in the case of amounts described in clauses (i), (ii) and (iii), only to the extent deducted in determining net income for such period. 1.20 "Eligible Accounts" shall mean Accounts created by Borrower which are and continue to be acceptable to Lender based on the criteria set forth below. In general, Accounts shall be Eligible Accounts if: (a) such Accounts arise from the actual and bona fide sale and delivery of goods by Borrower or rendition of services by Borrower in the ordinary course of its business which transactions are completed in accordance with the terms and provisions contained in any documents related thereto; (b) such Accounts are (i) neither unpaid more than thirty (30) days after the due date, nor more than sixty (60) days after the date of the original invoice for them, provided however, that (ii) notwithstanding subsection (i) hereof the Accounts listed on Schedule 1.20 hereof, each of which shall be subject to net 30 day terms, shall be considered Eligible Accounts so long as such Accounts are not unpaid more than sixty (60) days after the due date nor more than ninety (90) days after the date of the original invoice for them and otherwise meet the criteria for Eligible Accounts set forth in this Subsection 1.20; (c) such Accounts comply with the terms and conditions contained in Section 7.2(b) of this Agreement; -5- (d) such Accounts do not arise from sales on consignment, guaranteed sale, sale and return, sale on approval, or other terms under which payment by the account debtor may be conditional or contingent; (e) the chief executive office of the account debtor with respect to such Accounts is located in the United States of America, including Puerto Rico, or Canada (provided, that, at any time promptly upon Lender's request, Borrower shall execute and deliver, or cause to be executed and delivered, such other agreements, documents and instruments as may be required by Lender to perfect the security interests of Lender in those Accounts of an account debtor with its chief executive office or principal place of business in Canada in accordance with the applicable laws of the Province of Canada in which such chief executive office or principal place of business is located and take or cause to be taken such other and further actions as Lender may request to enable Lender as secured party with respect thereto to collect such Accounts under the applicable Federal or Provincial laws of Canada) or, at Lender's option, if the chief executive office and principal place of business of the account debtor with respect to such Accounts is located other than in the United States of America, including Puerto Rico, or Canada, then if either: (i) the account debtor has delivered to Borrower an irrevocable letter of credit issued or confirmed by a bank satisfactory to Lender and payable only in the United States of America and in U.S. dollars, sufficient to cover such Account, in form and substance satisfactory to Lender and if required by Lender, the original of such letter of credit has been delivered to Lender or Lender's agent and Borrower has complied with the terms of Section 5.2(f) hereof with respect to the assignment of the proceeds of such letter of credit to Lender or naming Lender as transferee beneficiary thereunder, as Lender may specify, or (ii) such Account is subject to credit insurance payable to Lender issued by an insurer and on terms and in an amount acceptable to Lender, or (iii) such Account is otherwise acceptable in all respects to Lender (subject to such lending formula with respect thereto as Lender may determine); (f) such Accounts do not consist of progress billings (such that the obligation of the account debtors with respect to such Accounts is conditioned upon Borrower's satisfactory completion of any further performance under the agreement giving rise thereto), bill and hold invoices or retainage invoices, except as to bill and hold invoices, if Lender shall have received an agreement in writing from the account debtor, in form and substance satisfactory to Lender, confirming the unconditional obligation of the account debtor to take the goods related thereto and pay such invoice; (g) the account debtor with respect to such Accounts has not asserted a counterclaim, defense or dispute and Borrower does not owe any amounts to the account debtor with respect to such Accounts, and such account debtor does not claim that Borrower owes any amounts to such account debtor, that -6- may give rise to any right of setoff or recoupment against such Accounts (but the portion of the Accounts of such account debtor in excess of the amount at any time and from time to time owed by Borrower to such account debtor or claimed owed by such account debtor may be deemed Eligible Accounts); (h) there are no facts, events or occurrences which would impair the validity, enforceability or collectability of such Accounts or reduce the amount payable or delay payment thereunder; (i) such Accounts are subject to the first priority, valid and perfected security interest of Lender and any goods giving rise thereto are not, and were not at the time of the sale thereof, subject to any security interests or liens except those permitted in this Agreement that are subject to an intercreditor agreement in form and substance satisfactory to Lender between the holder of such security interest or lien and Lender; (j) neither the account debtor nor any officer or employee of the account debtor with respect to such Accounts is an officer, employee, agent or other Affiliate of Borrower; (k) the account debtors with respect to such Accounts are not any foreign government, the United States of America, any State, political subdivision, department, agency or instrumentality thereof, unless, if the account debtor is the United States of America, any State, political subdivision, department, agency or instrumentality thereof, upon Lender's request, the Federal Assignment of Claims Act of 1940, as amended or any similar State or local law, if applicable, has been complied with in a manner satisfactory to Lender; (l) there are no proceedings or actions which are threatened or pending against the account debtors with respect to such Accounts which might result in any material adverse change in any such account debtor's financial condition (including, without limitation, any bankruptcy, dissolution, liquidation, reorganization or similar proceeding); (m) such Accounts of a single account debtor or its affiliates do not constitute more than fifteen (15%) percent of all otherwise Eligible Accounts (but the portion of the Accounts not in excess of such percentage may be deemed Eligible Accounts); (n) such Accounts are (i) not owed by an account debtor who has Accounts unpaid more than thirty (30) days after the due date, nor more than sixty (60) days after the original invoice date for them, provided however, that (ii) notwithstanding subsection (i) hereof the Accounts listed on Schedule 1.20 hereof, each of which shall be subject to net 30 day terms, shall be considered Eligible Accounts so long as such Accounts are not unpaid more than sixty (60) days after -7- the due date nor more than ninety (90) days after the date of the original invoice for them and otherwise meet the criteria for Eligible Accounts set forth in this Subsection 1.20, and in either case such Accounts constitute more than fifty percent (50%) of the total Accounts of such account debtor provided such percentage shall decrease by five percent (5%) per month beginning the month after the date of closing until the level of twenty-five percent (25%) of the total Accounts of such account debtor is reached at which time no further decreases shall occur; (o) the account debtor is not located in a state requiring the filing of a Notice of Business Activities Report or similar report in order to permit Borrower to seek judicial enforcement in such State of payment of such Account, unless Borrower has qualified to do business in such state or has filed a Notice of Business Activities Report or equivalent report for the then current year or such failure to file and inability to seek judicial enforcement is capable of being remedied without any material delay or material cost; (p) such Accounts are owed by account debtors whose total indebtedness to Borrower does not exceed the credit limit with respect to such account debtors as determined by Borrower from time to time in the ordinary course of business consistent with its current practices as of the date hereof and as is reasonably acceptable to Lender (but the portion of the Accounts not in excess of such credit limit may be deemed Eligible Accounts); and (q) such Accounts are owed by account debtors deemed creditworthy at all times by Lender in good faith. The criteria for Eligible Accounts set forth above may only be changed and any new criteria for Eligible Accounts may only be established by Lender in good faith based on either: (i) an event, condition or other circumstance arising after the date hereof, or (ii) an event, condition or other circumstance existing on the date hereof to the extent Lender has no written notice thereof from Borrower prior to the date hereof, in either case under clause (i) or (ii) which adversely affects or could reasonably be expected to adversely affect the Accounts in the good faith determination of Lender. Any Accounts which are not Eligible Accounts shall nevertheless be part of the Collateral. 1.21 "Eligible Inventory" shall mean Inventory consisting of finished goods held for resale in the ordinary course of the business of Borrower which are acceptable to Lender based on the criteria set forth below. In general, Eligible Inventory shall not include (a) raw materials; (b) work-in-process; (c) components which are not part of finished goods; (d) spare parts for equipment; (e) packaging and shipping materials; (f) supplies used or consumed in Borrower's business; (g) Inventory at premises other than those owned and controlled by Borrower, except any Inventory which would otherwise be deemed Eligible Inventory that is not located at premises owned and operated by Borrower may nevertheless be -8- considered Eligible Inventory: (i) as to locations which are leased by Borrower if Lender shall have received a Collateral Access Agreement from the owner and lessor of such location, duly authorized, executed and delivered by such owner and lessor or if Lender shall not have received such Collateral Access Agreement (or Lender shall determine to accept a Collateral Access Agreement that does not include all required provisions or provisions in the form otherwise required by Lender), Lender may, at its option, nevertheless consider Inventory at such location to be Eligible Inventory to the extent Lender shall have established such Reserves in respect of amounts at any time payable by Borrower to the owner and lessor thereof as Lender shall determine, and (ii) as to locations owned and operated by a third person, (A) if Lender shall have received a Collateral Access Agreement from such owner and operator with respect to such location, duly authorized, executed and delivered by such owner and operator or if Lender shall not have received such Collateral Access Agreement (or Lender shall determine to accept a Collateral Access Agreement that does not include all required provisions or provisions in the form otherwise required by Lender), Lender may, at its option, nevertheless consider Inventory at such location to be Eligible Inventory to the extent Lender shall have established such Reserves in respect of amounts at any time payable by Borrower to the owner and operator thereof as Lender shall determine, and (B) in addition, as to locations owned and operated by a third person, Lender shall have received, if required by Lender: (1) UCC financing statements between the owner and operator, as consignee or bailee and Borrower, as consignor or bailor, in form and substance satisfactory to Lender, which are duly assigned to Lender and the written authorization to file such financing statements in form satisfactory to Lender and (2) a written notice to any lender to the owner and operator of the first priority security interest in such Inventory of Lender; (h) Inventory subject to a security interest or lien in favor of any person other than Lender except those permitted in this Agreement (but without limiting the right of Lender to establish any Reserves with respect to amounts secured by such security interest or lien in favor of any Person even if permitted herein); (i) bill and hold goods; (j) unserviceable, obsolete or slow moving Inventory; (k) Inventory which is not subject to the first priority, valid and perfected security interest of Lender; (l) returned, damaged and/or defective Inventory; (m) Inventory purchased or sold on consignment and (n) Inventory located outside the United States of America. The criteria for Eligible Inventory set forth above may only be changed and any new criteria for Eligible Inventory may only be established by Lender in good faith based on either: (i) an event, condition or other circumstance arising after the date hereof, or (ii) an event, condition or other circumstance existing on the date hereof to the extent Lender has no written notice thereof from Borrower prior to the date hereof, in either case under clause (i) or (ii) which adversely affects or could reasonably be expected to adversely affect the Inventory in the good faith determination of Lender. Any Inventory which is not Eligible Inventory shall nevertheless be part of the Collateral. -9- 1.22 "Environmental Laws" shall mean all foreign, Federal, State and local laws (including common law), legislation, rules, codes, licenses, permits (including any conditions imposed therein), authorizations, judicial or administrative decisions, injunctions or agreements between Borrower and any Governmental Authority, (a) relating to pollution and the protection, preservation or restoration of the environment (including air, water vapor, surface water, ground water, drinking water, drinking water supply, surface land, subsurface land, plant and animal life or any other natural resource), or to human health or safety, (b) relating to the exposure to, or the use, storage, recycling, treatment, generation, manufacture, processing, distribution, transportation, handling, labeling, production, release or disposal, or threatened release, of Hazardous Materials, or (c) relating to all laws with regard to recordkeeping, notification, disclosure and reporting requirements respecting Hazardous Materials. The term "Environmental Laws" includes (i) the Federal Comprehensive Environmental Response, Compensation and Liability Act of 1980, the Federal Superfund Amendments and Reauthorization Act, the Federal Water Pollution Control Act of 1972, the Federal Clean Water Act, the Federal Clean Air Act, the Federal Resource Conservation and Recovery Act of 1976 (including the Hazardous and Solid Waste Amendments thereto), the Federal Solid Waste Disposal and the Federal Toxic Substances Control Act, the Federal Insecticide, Fungicide and Rodenticide Act, and the Federal Safe Drinking Water Act of 1974, (ii) applicable state counterparts to such laws, and (iii) any common law or equitable doctrine that may impose liability or obligations for injuries or damages due to, or threatened as a result of, the presence of or exposure to any Hazardous Materials. 1.23 "Equipment" shall mean all of Borrower's now owned and hereafter acquired equipment, wherever located, including machinery, data processing and computer equipment and computer hardware and software, whether owned or licensed, and including embedded software, vehicles, tools, furniture, fixtures, all attachments, accessions and property now or hereafter affixed thereto or used in connection therewith, and substitutions and replacements thereof, wherever located. 1.24 "ERISA" shall mean the United States Employee Retirement Income Security Act of 1974, together with all rules, regulations and interpretations thereunder or related thereto. 1.25 "ERISA Affiliate" shall mean any person required to be aggregated with Borrower or any of its Subsidiaries under Sections 414(b), 414(c), 414(m) or 414(o) of the Code. 1.26 "ERISA Event" shall mean (a) any "reportable event", as defined in Section 4043 of ERISA or the regulations issued thereunder, with respect to a Plan; (b) the adoption of any amendment to a Plan that would require the provision of security pursuant to Section 401(a)(29) of the Code or Section 307 of ERISA; (c) the -10- existence with respect to any Plan of an "accumulated funding deficiency" (as defined in Section 412 of the Code or Section 302 of ERISA), whether or not waived; (d) the filing pursuant to Section 412 of the Code or Section 303(d) of ERISA of an application for a waiver of the minimum funding standard with respect to any Plan; (e) the occurrence of a "prohibited transaction" with respect to which Borrower or any of its Subsidiaries is a "disqualified person" (within the meaning of Section 4975 of the Code) or with respect to which Borrower or any of its Subsidiaries could otherwise be liable; (f) a complete or partial withdrawal by the Borrower or any ERISA Affiliate from a Multiemployer Plan or a cessation of operations which is treated as such a withdrawal or notification that a Multiemployer Plan is in reorganization; (g) the filing of a notice of intent to terminate, the treatment of a Plan amendment as a termination under Section 4041 or 4041A of ERISA, or the commencement of proceedings by the Pension Benefit Guaranty Corporation to terminate a Plan; (h) an event or condition which might reasonably be expected to constitute grounds under Section 4042 of ERISA for the termination of, or the appointment of a trustee to administer, any Plan; (i) the imposition of any liability under Title IV of ERISA, other than the Pension Benefit Guaranty Corporation premiums due but not delinquent under Section 4007 of ERISA, upon Borrower or any ERISA Affiliate in excess of $250,000; and (j) any other event or condition with respect to a Plan including any Plan subject to Title IV of ERISA maintained, or contributed to, by any ERISA Affiliate that could reasonably be expected to result in liability of Borrower in excess of $250,000. 1.27 "Eurodollar Rate" shall mean with respect to the Interest Period for a Eurodollar Rate Loan, the interest rate per annum equal to the arithmetic average of the rates of interest per annum (rounded upwards, if necessary, to the next one-sixteenth (1/16) of one (1%) percent) at which Reference Bank is offered deposits of United States dollars in the London interbank market (or other Eurodollar Rate market selected by Borrower and approved by Lender) on or about 9:00 a.m. (New York time) two (2) Business Days prior to the commencement of such Interest Period in amounts substantially equal to the principal amount of the Eurodollar Rate Loans requested by and available to Borrower in accordance with this Agreement, with a maturity of comparable duration to the Interest Period selected by Borrower. 1.28 "Eurodollar Rate Loans" shall mean any Loans or portion thereof on which interest is payable based on the Adjusted Eurodollar Rate in accordance with the terms hereof. 1.29 "Event of Default" shall mean the occurrence or existence of any event or condition described in Section 10.1 hereof. 1.30 "Excess Availability" shall mean the amount, as determined by Lender, calculated at any time, equal to: (a) the lesser of: (i) the Borrowing Base and (ii) the Revolving Loan Limit (in each case under (i) and (ii) after giving effect -11- to any Reserves other than any Reserves in respect of Letter of Credit Accommodations), minus (b) the sum of: (i) the amount of all then outstanding and unpaid Obligations (but not including for this purpose the then outstanding principal amount of the Term Loan), plus (ii) the amount of all Reserves then established in respect of Letter of Credit Accommodations, plus (iii) the aggregate amount of all then outstanding and unpaid trade payables and other obligations of Borrower which are more than thirty (30) days past due as of such time, plus (iv) the amount of checks issued by Borrower to pay trade payables and other obligations which are more than thirty (30) days past due as of such time, but not yet sent (but without duplication of clause (b)(iii) and the book overdraft of Borrower. 1.31 "Exchange Act" shall mean the Securities Exchange Act of 1934, together with all rules, regulations and interpretations thereunder or related thereto. 1.32 "Executive Officers" shall mean Jugal K. Taneja, William L. LaGamba and Ronald J. Patrick. 1.33 "Financing Agreements" shall mean, collectively, this Agreement and all notes, guarantees, security agreements, deposit account control agreements, investment property control agreements, intercreditor agreements, and all other agreements, documents and instruments now or at any time hereafter executed and/or delivered by Borrower or any Obligor in connection with this Agreement. 1.34 "GAAP" shall mean generally accepted accounting principles in the United States of America as in effect from time to time as set forth in the opinions and pronouncements of the Accounting Principles Board and the American Institute of Certified Public Accountants and the statements and pronouncements of the Financial Accounting Standards Board which are applicable to the circumstances as of the date of determination consistently applied, except that, for purposes of Sections 9.18 and 9.19 hereof, GAAP shall be determined on the basis of such principles in effect on the date hereof and consistent with those used in the preparation of the most recent audited financial statements delivered to Lender prior to the date hereof. 1.35 "Governmental Authority" shall mean any nation or government, any state, province, or other political subdivision thereof, any central bank (or similar monetary or regulatory authority) thereof, any entity exercising executive, legislative, judicial, regulatory or administrative functions of or pertaining to government, and any corporation or other entity owned or controlled, through stock or capital ownership or otherwise, by any of the foregoing. 1.36 "Guarantor" shall mean Jugal K. Taneja. -12- 1.37 "Hazardous Materials" shall mean any hazardous, toxic or dangerous substances, materials and wastes, including hydrocarbons (including naturally occurring or man-made petroleum and hydrocarbons), flammable explosives, asbestos, urea formaldehyde insulation, radioactive materials, biological substances, polychlorinated biphenyls, pesticides, herbicides and any other kind and/or type of pollutants or contaminants (including materials which include hazardous constituents), sewage, sludge, industrial slag, solvents and/or any other similar substances, materials, or wastes and including any other substances, materials or wastes that are or become regulated under any Environmental Law (including any that are or become classified as hazardous or toxic under any Environmental Law). 1.38 "Indebtedness" shall mean, with respect to any Person, any liability, whether or not contingent, (a) in respect of borrowed money (whether or not the recourse of the lender is to the whole of the assets of such Person or only to a portion thereof) or evidenced by bonds, notes, debentures or similar instruments; (b) representing the balance deferred and unpaid of the purchase price of any property or services (except any such balance that constitutes an account payable to a trade creditor (whether or not an Affiliate) created, incurred, assumed or guaranteed by such Person in the ordinary course of business of such Person in connection with obtaining goods, materials or services that is not overdue by more than ninety (90) days, unless the trade payable is being contested in good faith); (c) all obligations as lessee under leases which have been, or should be, in accordance with GAAP recorded as Capital Leases; (d) any contractual obligation, contingent or otherwise, of such Person to pay or be liable for the payment of any indebtedness described in this definition of another Person, including, without limitation, any such indebtedness, directly or indirectly guaranteed, or any agreement to purchase, repurchase, or otherwise acquire such indebtedness, obligation or liability or any security therefor, or to provide funds for the payment or discharge thereof, or to maintain solvency, assets, level of income, or other financial condition; (e) all obligations with respect to redeemable stock and redemption or repurchase obligations under any Capital Stock or other equity securities issued by such Person; (f) all reimbursement obligations and other liabilities of such Person with respect to surety bonds (whether bid, performance or otherwise), letters of credit, banker's acceptances, drafts or similar documents or instruments issued for such Person's account; (g) all indebtedness of such Person in respect of indebtedness of another Person for borrowed money or indebtedness of another Person otherwise described in this definition which is secured by any consensual lien, security interest, collateral assignment, conditional sale, mortgage, deed of trust, or other encumbrance on any asset of such Person, whether or not such obligations, liabilities or indebtedness are assumed by or are a personal liability of such Person, all as of such time; (h) all obligations, liabilities and indebtedness of such Person (marked to market) arising under swap agreements, cap agreements and collar agreements and other agreements or arrangements designed to protect such person -13- against fluctuations in interest rates or currency or commodity values and (i) all obligations owed by such Person under License Agreements with respect to non-refundable, advance or minimum guarantee royalty payments. 1.39 "Information Certificate" shall mean the Information Certificate of Borrower constituting Exhibit A hereto containing material information with respect to Borrower, its business and assets provided by or on behalf of Borrower to Lender in connection with the preparation of this Agreement and the other Financing Agreements and the financing arrangements provided for herein. 1.40 "Intellectual Property" shall mean Borrower's now owned and hereafter arising or acquired: patents, patent rights, patent applications, copyrights, works which are the subject matter of copyrights, copyright registrations, copyright applications, trademarks, service marks, trade names, trade styles, trademark and service mark applications, and licenses and rights to use any of the foregoing; all extensions, renewals, reissues, divisions, continuations, and continuations-in-part of any of the foregoing; all rights to sue for past, present and future infringement of any of the foregoing; inventions, trade secrets, formulae, processes, compounds, drawings, designs, blueprints, surveys, reports, manuals, and operating standards; goodwill (including any goodwill associated with any trademark or the license of any trademark); customer and other lists in whatever form maintained; and trade secret rights, copyright rights, rights in works of authorship, domain names and domain name registrations; software and contract rights relating to software, in whatever form created or maintained. 1.41 "Interest Period" shall mean for any Eurodollar Rate Loan, a period of approximately one (1), two (2), or three (3) months duration as Borrower may elect, the exact duration to be determined in accordance with the customary practice in the applicable Eurodollar Rate market; provided, that, Borrower may not elect an Interest Period which will end after the last day of the then-current term of this Agreement. 1.42 "Interest Rate" shall mean, as to Prime Rate Loans, a rate equal to one-half of one percent (.5%) percent per annum in excess of the Prime Rate and, as to Eurodollar Rate Loans, a rate of three percent (3%) per annum in excess of the Adjusted Eurodollar Rate (based on the Eurodollar Rate applicable for the Interest Period selected by Borrower as in effect three (3) Business Days after the date of receipt by Lender of the request of Borrower for such Eurodollar Rate Loans in accordance with the terms hereof, whether such rate is higher or lower than any rate previously quoted to Borrower); provided, that, notwithstanding anything to the contrary contained herein, the Interest Rate shall mean the rate of two and three quarters percent (2.75%) per annum in excess of the Prime Rate as to Prime Rate Loans and the rate of five and one-quarter percent (5.25%) per annum in excess of the Adjusted Eurodollar Rate as to Eurodollar Rate Loans, at Lender's option, without notice, (a) either (i) for the period on and after the date of -14- termination or non-renewal hereof until such time as all Obligations are indefeasibly paid and satisfied in full in immediately available funds, or (ii) for the period from and after the date of the occurrence of any Event of Default, and for so long as such Event of Default is continuing as determined by Lender and (b) on the Revolving Loans at any time outstanding in excess of the amounts available to Borrower under Section 2 (whether or not such excess(es) arise or are made with or without Lender's knowledge or consent and whether made before or after an Event of Default). 1.43 "Inventory" shall mean all of Borrower's now owned and hereafter existing or acquired goods, wherever located, which (a) are leased by Borrower as lessor; (b) are held by Borrower for sale or lease or to be furnished under a contract of service; (c) are furnished by Borrower under a contract of service; or (d) consist of raw materials, work in process, finished goods or materials used or consumed in its business. 1.44 "Investment Property Control Agreement" shall mean an agreement in writing, in form and substance satisfactory to Lender, by and among Lender, Borrower and any securities intermediary, commodity intermediary or other person who has custody, control or possession of any investment property of Borrower acknowledging that such securities intermediary, commodity intermediary or other person has custody, control or possession of such investment property on behalf of Lender, that it will comply with entitlement orders originated by Lender with respect to such investment property, or other instructions of Lender, and including such other terms and conditions as Lender may require. 1.45 "Lender Payment Account" shall mean account no. 500000003034 of Lender at Wachovia Bank, National Association or such other account of Lender as Lender may from time to time designate to Borrower as the Lender Payment Account for purposes of this Agreement. 1.46 "Letter of Credit Accommodations" shall mean, collectively, the letters of credit, merchandise purchase or other guaranties which are from time to time either (a) issued or opened by Lender for the account of Borrower or any Obligor or (b) with respect to which Lender has agreed to indemnify the issuer or guaranteed to the issuer the performance by Borrower of its obligations to such issuer: sometimes being referred to herein individually as a "Letter of Credit Accommodation". 1.47 "License Agreements" shall have the meaning set forth in Section 8.11 hereof. 1.48 "Line of Business" shall mean wholesale distribution of pharmaceuticals, over-the-counter products, health and beauty aids and nutritional supplements primarily to the pharmaceutical industry. -15- 1.49 "Loans" shall mean the Revolving Loans and the Term Loan. 1.50 "Material Contract" shall mean (a) any contract or other agreement (other than the Financing Agreements), written or oral, of Borrower involving monetary liability of or to any Person in an amount in excess of $250,000 in any fiscal year and (b) any other contract or other agreement (other than the Financing Agreements), whether written or oral, to which Borrower is a party as to which the breach, nonperformance, cancellation or failure to renew by any party thereto would have a material adverse effect on the business, assets, condition (financial or otherwise) or results of operations or prospects of Borrower or the validity or enforceability of this Agreement, any of the other Financing Agreements, or any of the rights and remedies of Lender hereunder or thereunder. 1.51 "Maximum Credit" shall mean the amount of $40,000,000. 1.52 "Multiemployer Plan" shall mean a "multi-employer plan" as defined in Section 4001(a)(3) of ERISA which is or was at any time during the current year or the immediately preceding six (6) years contributed to by Borrower or any ERISA Affiliate. 1.53 "Obligations" shall mean any and all Revolving Loans, the Term Loan, Letter of Credit Accommodations and all other obligations, liabilities and indebtedness of every kind, nature and description owing by Borrower to Lender and/or its affiliates, including principal, interest, charges, fees, costs and expenses, however evidenced, whether as principal, surety, endorser, guarantor or otherwise, whether arising under this Agreement or otherwise, whether now existing or hereafter arising, whether arising before, during or after the initial or any renewal term of this Agreement or after the commencement of any case with respect to Borrower under the United States Bankruptcy Code or any similar statute (including the payment of interest and other amounts which would accrue and become due but for the commencement of such case, whether or not such amounts are allowed or allowable in whole or in part in such case), whether direct or indirect, absolute or contingent, joint or several, due or not due, primary or secondary, liquidated or unliquidated, secured or unsecured, and however acquired by Lender. 1.54 "Obligor" shall mean any guarantor, endorser, acceptor, surety or other person liable on or with respect to the Obligations or who is the owner of any property which is security for the Obligations, other than Borrower. 1.55 "Permitted Holders" shall mean the persons listed on Schedule 1.55 hereto and their respective successors and assigns. 1.56 "Person" or "person" shall mean any individual, sole proprietorship, partnership, corporation (including any corporation which elects subchapter S status under the Code), limited liability company, limited liability partnership, -16- business trust, unincorporated association, joint stock corporation, trust, joint venture or other entity or any government or any agency or instrumentality or political subdivision thereof. 1.57 "Plan" means an employee benefit plan (as defined in Section 3(3) of ERISA) which Borrower sponsors, maintains, or to which it makes, is making, or is obligated to make contributions, or in the case of a Multiemployer Plan has made contributions at any time during the immediately preceding six (6) plan years. 1.58 "Prime Rate" shall mean the rate from time to time publicly announced by Wachovia Bank, National Association, or its successors, as its prime rate, whether or not such announced rate is the best rate available at such bank. 1.59 "Prime Rate Loans" shall mean any Loans or portion thereof on which interest is payable based on the Prime Rate in accordance with the terms thereof. 1.60 "Real Property" shall mean all now owned and hereafter acquired real property of Borrower, including leasehold interests, together with all buildings, structures, and other improvements located thereon and all licenses, easements and appurtenances relating thereto, wherever located. 1.61 "Receivables" shall mean all of the following now owned or hereafter arising or acquired property of Borrower: (a) all Accounts; (b) all interest, fees, late charges, penalties, collection fees and other amounts due or to become due or otherwise payable in connection with any Account; (c) all payment intangibles of Borrower and other contract rights, chattel paper, instruments, notes, and other forms of obligations owing to Borrower, whether from the sale and lease of goods or other property, licensing of any property (including Intellectual Property or other general intangibles), rendition of services or from loans or advances by Borrower or to or for the benefit of any third person (including loans or advances to any Affiliates or Subsidiaries of Borrower) or otherwise associated with any Accounts, Inventory or general intangibles of Borrower (including, without limitation, choses in action, causes of action, tax refunds, tax refund claims, any funds which may become payable to Borrower in connection with the termination of any Plan or other employee benefit plan and any other amounts payable to Borrower from any Plan or other employee benefit plan, rights and claims against carriers and shippers, rights to indemnification, business interruption insurance and proceeds thereof, casualty or any similar types of insurance and any proceeds thereof and proceeds of insurance covering the lives of employees on which Borrower is a beneficiary). 1.62 "Records" shall mean all of Borrower's present and future books of account of every kind or nature, purchase and sale agreements, invoices, ledger cards, bills of lading and other shipping evidence, statements, correspondence, memoranda, credit files and other data relating to the Collateral or any account debtor, together with the tapes, disks, diskettes and other data and software -17- storage media and devices, file cabinets or containers in or on which the foregoing are stored (including any rights of Borrower with respect to the foregoing maintained with or by any other person). 1.63 "Reference Bank" shall mean Wachovia Bank, National Association, or such other bank as Lender may from time to time designate. 1.64 "Renewal Date" shall have the meaning set forth in Section 12.1 hereof. 1.65 "Reserves" shall mean as of any date of determination, such amounts as Lender may from time to time establish and revise in good faith reducing the amount of Revolving Loans and Letter of Credit Accommodations which would otherwise be available to Borrower under the lending formula(s) provided for herein: (a) to reflect events, conditions, contingencies or risks which, as determined by Lender in good faith, adversely affect, or would have a reasonable likelihood of adversely affecting, either (i) the Collateral or any other property which is security for the Obligations or its value, (ii) the assets, business or prospects of Borrower or any Obligor or (iii) the security interests and other rights of Lender in the Collateral (including the enforceability, perfection and priority thereof) or (b) to reflect Lender's good faith belief that any collateral report or financial information furnished by or on behalf of Borrower or any Obligor to Lender is or may have been incomplete, inaccurate or misleading in any material respect or (c) to reflect outstanding Letter of Credit Accommodations as provided in Section 2.2 hereof or (d) in respect of any state of facts which Lender determines in good faith constitutes a Default or an Event of Default. Without limiting the generality of the foregoing, Reserves may be established, at Lender's option, to reflect that (i) dilution with respect to the Accounts (based on the ratio of the aggregate amount of non-cash reductions in Accounts for any period to the aggregate dollar amount of the sales of Borrower for such period) as calculated by Lender for any period is or is reasonably anticipated to be greater than five percent (5%), (ii) the orderly liquidation value of the Equipment or fair market value of any of the Real Property as set forth in the most recent acceptable appraisals received by Lender with respect thereto has declined so that the then outstanding principal amount of the Term Loan is greater than such percentage with respect to such appraised values as Lender used in establishing the original principal amount of the Term Loan multiplied by such appraised values, (iii) returns, discounts, claims, credits and allowances of any nature that are not paid pursuant to the reduction of Accounts, (iv) the sales, excise or similar taxes included in the amount of any Accounts reported to Lender, (v) a change in the turnover, age or mix of the categories of Inventory that adversely affects the aggregate value of all Inventory or (vi) the liquidation value of the Eligible Inventory, or any category thereof, has decreased. To the extent Lender may revise the lending formulas used to determine the Borrowing Base or establish new criteria or revise existing criteria for Eligible Accounts or Eligible Inventory so -18- as to address any circumstances, condition, event or contingency in a manner satisfactory to Lender, Lender shall not establish a Reserve for the same purpose. The amount of any Reserve established by Lender shall have a reasonable relationship to the event, condition or other matter which is the basis for such reserve as determined by Lender in good faith. 1.66 "Revolving Loan Limit" shall mean $40,000,000 minus the then-outstanding and unpaid principal amount of the Term Loan. 1.67 "Revolving Loans" shall mean the loans now or hereafter made by Lender to or for the benefit of Borrower on a revolving basis (involving advances, repayments and readvances) as set forth in Section 2.1 hereof. 1.68 "Solvent" shall mean, at any time with respect to any Person, that at such time such Person (a) is able to pay its debts as they mature and has (and has a reasonable basis to believe it will continue to have) sufficient capital (and not unreasonably small capital) to carry on its business consistent with its practices as of the date hereof, and (b) the assets and properties of such Person at a fair valuation (and including as assets for this purpose at a fair valuation all rights of subrogation, contribution or indemnification arising pursuant to any guarantees given by such Person) are greater than the Indebtedness of such Person, and including subordinated and contingent liabilities computed at the amount which, such person has a reasonable basis to believe, represents an amount which can reasonably be expected to become an actual or matured liability (and including as to contingent liabilities arising pursuant to any guarantee the face amount of such liability as reduced to reflect the probability of it becoming a matured liability). 1.69 "Subsidiary" or "subsidiary" shall mean, with respect to any Person, any corporation, limited liability company, limited liability partnership or other limited or general partnership, trust, association or other business entity of which an aggregate of at least a majority of the outstanding Capital Stock or other interests entitled to vote in the election of the board of directors of such corporation (irrespective of whether, at the time, Capital Stock of any other class or classes of such corporation shall have or might have voting power by reason of the happening of any contingency), managers, trustees or other controlling persons, or an equivalent controlling interest therein, of such Person is, at the time, directly or indirectly, owned by such Person and/or one or more subsidiaries of such Person. 1.70 "Tangible Net Worth" shall mean an amount equal to the total assets of Borrower minus the Total Intangible Assets of Borrower, minus the total liabilities of Borrower, calculated in accordance with GAAP applied on a Consistent Basis. 1.71 "Target" shall have the meaning set forth in Section 6.6 hereof. -19- 1.72 "Term Loan" shall mean the term loan made by Lender to Borrower as provided for in Section 2.3 hereof. 1.73 "Test Period" shall have the meaning set forth in Section 9.18 hereof. 1.74 "Total Intangible Assets" of Borrower shall be determined in accordance with GAAP applied on a Consistent Basis, but in any event shall be deemed to include the excess of costs over the assets of acquired businesses, formulae, trademarks, patents, patent rights and deferred expenses (including, but not limited to, organization expense, experimental and developmental expenses, but excluding prepaid expenses and unamortized debt discount and expense), and further including Affiliate or shareholder advancements or investments, notes receivable and long-term deferred tax assets. 1.75 "UCC" shall mean the Uniform Commercial Code as in effect in the State of Florida, and any successor statute, as in effect from time to time (except that terms used herein which are defined in the Uniform Commercial Code as in effect in the State of Florida on the date hereof shall continue to have the same meaning notwithstanding any replacement or amendment of such statute except as Lender may otherwise determine). 1.76 "Value" shall mean, as determined by Lender in good faith, with respect to Inventory, the lower of (a) cost computed on a first-in first-out basis in accordance with GAAP, or (b) market value provided, that, for purposes of the calculation of the Borrowing Base, (i) the Value of the Inventory shall not include: (A) the portion of the value of Inventory equal to the profit earned by any Affiliate on the sale thereof to Borrower or (B) write-ups or write-downs in value with respect to currency exchange rates and (ii) notwithstanding anything to the contrary contained herein, the cost of the Inventory shall be computed in the same manner and consistent with the most recent appraisal of the Inventory received and accepted by Lender prior to the date hereof, if any; or (c) eighty-five percent (85%) of an orderly liquidation value appraisal (net of expenses) of Inventory conducted at Borrower's expense by independent appraisers acceptable to Lender in its sole discretion. 1.77 "Voting Stock" shall mean with respect to any Person, (a) one (1) or more classes of Capital Stock of such Person having general voting powers to elect at least a majority of the board of directors, managers or trustees of such Person, irrespective of whether at the time Capital Stock of any other class or classes have or might have voting power by reason of the happening of any contingency, and (b) any Capital Stock of such Person convertible or exchangeable without restriction at the option of the holder thereof into Capital Stock of such Person described in clause (a) of this definition. -20- SECTION 2. CREDIT FACILITIES 2.1 Revolving Loans. (a) Subject to and upon the terms and conditions contained herein, Lender agrees to make Revolving Loans to Borrower from time to time in amounts requested by Borrower up to the amount equal to the lesser of: (i) the Borrowing Base or (ii) the Revolving Loan Limit. (b) Except in Lender's discretion, (i) the aggregate amount of the Revolving Loans outstanding at any time shall not exceed the Revolving Loan Limit and (ii) the aggregate amount of the Loans and the Letter of Credit Accommodations outstanding at any time shall not exceed the Maximum Credit. In the event that the outstanding amount of any component of the Loans, or the aggregate amount of the outstanding Loans and Letter of Credit Accommodations, exceed the amounts available pursuant to the Borrowing Base, the Revolving Loan Limit, the sublimits for Letter of Credit Accommodations set forth in Section 2.2(e) or the Maximum Credit, as applicable, such event shall not limit, waive or otherwise affect any rights of Lender in that circumstance or on any future occasions and Borrower shall, upon demand by Lender, which may be made at any time or from time to time, immediately repay to Lender the entire amount of any such excess(es) for which payment is demanded. 2.2 Letter of Credit Accommodations. (a) Subject to and upon the terms and conditions contained herein, at the request of Borrower, Lender agrees to provide or arrange for Letter of Credit Accommodations for the account of Borrower containing terms and conditions acceptable to Lender and the issuer thereof. Any payments made by Lender to any issuer thereof and/or related parties in connection with the Letter of Credit Accommodations shall constitute additional Revolving Loans to Borrower pursuant to this Section 2. (b) In addition to any charges, fees or expenses charged by any bank or issuer in connection with the Letter of Credit Accommodations, Borrower shall pay to Lender a letter of credit fee at a rate equal to two and one-half percent (2.5%) per annum on the daily outstanding balance of the Letter of Credit Accommodations for the immediately preceding month (or part thereof), payable in arrears as of the first day of each succeeding month, except that Borrower shall pay to Lender such letter of credit fee, at Lender's option, without notice, at a rate equal to five percent (5%) percent per annum on such daily outstanding balance for: (i) the period from and after the date of termination or non-renewal hereof until Lender has received full and final payment of all Obligations (notwithstanding entry of a judgment against Borrower) and (ii) the period from and after the date of the occurrence of an Event of Default for so long as such Event of Default is -21- continuing as determined by Lender. Such letter of credit fee shall be calculated on the basis of a three hundred sixty (360) day year and actual days elapsed and the obligation of Borrower to pay such fee shall survive the termination or non-renewal of this Agreement. (c) Borrower shall give Lender two (2) Business Days' prior written notice of Borrower's request for the issuance of a Letter of Credit Accommodation. Such notice shall be irrevocable and shall specify the original face amount of the Letter of Credit Accommodation requested, the effective date (which date shall be a Business Day) of issuance of such requested Letter of Credit Accommodation, whether such Letter of Credit Accommodations may be drawn in a single or in partial draws, the date on which such requested Letter of Credit Accommodation is to expire (which date shall be a Business Day), the purpose for which such Letter of Credit Accommodation is to be issued, and the beneficiary of the requested Letter of Credit Accommodation. Borrower shall attach to such notice the proposed terms of the Letter of Credit Accommodation. (d) In addition to being subject to the satisfaction of the applicable conditions precedent contained in Section 4 hereof and the other terms and conditions contained herein, no Letter of Credit Accommodations shall be available unless each of the following conditions precedent have been satisfied in a manner satisfactory to Lender: (i) Borrower shall have delivered to the proposed issuer of such Letter of Credit Accommodation at such times and in such manner as such proposed issuer may require, an application in form and substance satisfactory to such proposed issuer and Lender for the issuance of the Letter of Credit Accommodation and such other documents as may be required pursuant to the terms thereof, and the form and terms of the proposed Letter of Credit Accommodation shall be satisfactory to Lender and such proposed issuer, (ii) as of the date of issuance, no order of any court, arbitrator or other Governmental Authority shall purport by its terms to enjoin or restrain money center banks generally from issuing letters of credit of the type and in the amount of the proposed Letter of Credit Accommodation, and no law, rule or regulation applicable to money center banks generally and no request or directive (whether or not having the force of law) from any Governmental Authority with jurisdiction over money center banks generally shall prohibit, or request that the proposed issuer of such Letter of Credit Accommodation refrain from, the issuance of letters of credit generally or the issuance of such Letters of Credit Accommodation; and (iii) the Excess Availability, prior to giving effect to any Reserves with respect to such Letter of Credit Accommodations, on the date of the proposed issuance of any Letter of Credit Accommodations, shall be equal to or greater than: (A) if the proposed Letter of Credit Accommodation is for the purpose of purchasing Eligible Inventory and the documents of title with respect thereto are consigned to the issuer, the sum of (1) the percentage equal to one hundred (100%) percent minus the then applicable percentage with respect to Eligible Inventory set forth in the definition of the term -22- Borrowing Base multiplied by the Value of such Eligible Inventory, plus (2) freight, taxes, duty and other amounts which Lender estimates must be paid in connection with such Inventory upon arrival and for delivery to one of Borrower's locations for Eligible Inventory within the United States of America and (B) if the proposed Letter of Credit Accommodation is for any other purpose or the documents of title are not consigned to the issuer in connection with a Letter of Credit Accommodation for the purpose of purchasing Inventory, an amount equal to one hundred (100%) percent of the face amount thereof and all other commitments and obligations made or incurred by Lender with respect thereto. Effective on the issuance of each Letter of Credit Accommodation, a Reserve shall be established in the applicable amount set forth in Section 2.2(d)(iii)(A) or Section 2.2(d)(iii)(B). (e) Except in Lender's discretion, the amount of all outstanding Letter of Credit Accommodations and all other commitments and obligations made or incurred by Lender in connection therewith shall not at any time exceed $1,000,000. (f) Borrower shall indemnify and hold Lender harmless from and against any and all losses, claims, damages, liabilities, costs and expenses which Lender may suffer or incur in connection with any Letter of Credit Accommodations and any documents, drafts or acceptances relating thereto, including any losses, claims, damages, liabilities, costs and expenses due to any action taken by any issuer or correspondent with respect to any Letter of Credit Accommodation. Borrower assumes all risks with respect to the acts or omissions of the drawer under or beneficiary of any Letter of Credit Accommodation and for such purposes the drawer or beneficiary shall be deemed Borrower's agent. Borrower assumes all risks for, and agrees to pay, all foreign, Federal, State and local taxes, duties and levies relating to any goods subject to any Letter of Credit Accommodations or any documents, drafts or acceptances thereunder. Borrower hereby releases and holds Lender harmless from and against any acts, waivers, errors, delays or omissions, whether caused by Borrower, by any issuer or correspondent or otherwise with respect to or relating to any Letter of Credit Accommodation, except for the gross negligence or wilful misconduct of Lender as determined pursuant to a final, non-appealable order of a court of competent jurisdiction. The provisions of this Section 2.2(f) shall survive the payment of Obligations and the termination or non-renewal of this Agreement. (g) In connection with Inventory purchased pursuant to Letter of Credit Accommodations, Borrower shall, at Lender's request, instruct all suppliers, carriers, forwarders, customs brokers, warehouses or others receiving or holding cash, checks, Inventory, documents or instruments in which Lender holds a security interest to deliver them to Lender and/or subject to Lender's order, and if they shall come into Borrower's possession, to deliver them, upon Lender's request, to Lender in their original form. Borrower shall also, at Lender's request, designate Lender as -23- the consignee on all bills of lading and other negotiable and non-negotiable documents. (h) Borrower hereby irrevocably authorizes and directs any issuer of a Letter of Credit Accommodation to name Borrower as the account party therein and to deliver to Lender all instruments, documents and other writings and property received by issuer pursuant to the Letter of Credit Accommodations and to accept and rely upon Lender's instructions and agreements with respect to all matters arising in connection with the Letter of Credit Accommodations or the applications therefor. Nothing contained herein shall be deemed or construed to grant Borrower any right or authority to pledge the credit of Lender in any manner. Lender shall have no liability of any kind with respect to any Letter of Credit Accommodation provided by an issuer other than Lender unless Lender has duly executed and delivered to such issuer the application or a guarantee or indemnification in writing with respect to such Letter of Credit Accommodation. Borrower shall be bound by any interpretation made in good faith by Lender, or any other issuer or correspondent under or in connection with any Letter of Credit Accommodation or any documents, drafts or acceptances thereunder, notwithstanding that such interpretation may be inconsistent with any instructions of Borrower. (i) So long as no Event of Default exists or has occurred and is continuing, Borrower may, after notice to Lender, (i) approve or resolve any questions of non-compliance of documents, (ii) give any instructions as to acceptance or rejection of any documents or goods, (iii) execute any and all applications for steamship or airway guaranties, indemnities or delivery orders, and (iv) with Lender's consent, grant any extensions of the maturity of, time of payment for, or time of presentation of, any drafts, acceptances, or documents, and agree to any amendments, renewals, extensions, modifications, changes or cancellations of any of the terms or conditions of any of the applications, Letter of Credit Accommodations, or documents, drafts or acceptances thereunder or any letters of credit included in the Collateral. (j) At any time an Event of Default exists or has occurred and is continuing, Lender shall have the right and authority to, and Borrower shall not, without the prior written consent of Lender, (i) approve or resolve any questions of non-compliance of documents, (ii) give any instructions as to acceptance or rejection of any documents or goods, (iii) execute any and all applications for steamship or airway guaranties, indemnities or delivery orders, (iv) grant any extensions of the maturity of, time of payments for, or time of presentation of, any drafts, acceptances, or documents, and (v) agree to any amendments, renewals, extensions, modifications, changes or cancellations of any of the terms or conditions of any of the applications, Letter of Credit Accommodations, or documents, drafts or -24- acceptances thereunder or any letters of credit included in the Collateral. Lender may take such actions either in its own name or in Borrower's name. (k) Any rights, remedies, duties or obligations granted or undertaken by Borrower to any issuer or correspondent in any application for any Letter of Credit Accommodation, or any other agreement in favor of any issuer or correspondent relating to any Letter of Credit Accommodation, shall be deemed to have been granted or undertaken by Borrower to Lender. Any duties or obligations undertaken by Lender to any issuer or correspondent in any application for any Letter of Credit Accommodation, or any other agreement by Lender in favor of any issuer or correspondent relating to any Letter of Credit Accommodation, shall be deemed to have been undertaken by Borrower to Lender and to apply in all respects to Borrower. 2.3 Term Loan. Lender is making a Term Loan to Borrower in the original principal amount of $400,000. The Term Loan is (a) evidenced by a Term Promissory Note in such original principal amount duly executed and delivered by Borrower to Lender concurrently herewith; (b) to be repaid, together with interest and other amounts, in accordance with this Agreement, the Term Promissory Note, and the other Financing Agreements and (c) secured by all of the Collateral. The principal amount of the Term Loan shall be repaid in thirty-six (36) consecutive monthly installments (or earlier as provided herein) payable on the first day of each month commencing May, 2003, of which the first thirty-five (35) installments shall each be in the amount of $11,111.11 and the last installment shall be in the amount of the entire unpaid balance of the Term Loan. SECTION 3. INTEREST AND FEES 3.1 Interest. (a) Borrower shall pay to Lender interest on the outstanding principal amount of the Loans at the Interest Rate. All interest accruing hereunder on and after the date of any Event of Default or termination or non-renewal hereof shall be payable on demand. (b) Borrower may from time to time request Eurodollar Rate Loans or may request that Prime Rate Loans be converted to Eurodollar Rate Loans or that any existing Eurodollar Rate Loans continue for an additional Interest Period. Such request from Borrower shall specify the amount of the Eurodollar Rate Loans or the amount of the Prime Rate Loans to be converted to Eurodollar Rate Loans or the amount of the Eurodollar Rate Loans to be continued (subject to the limits set forth below) and the Interest Period to be applicable to such Eurodollar Rate Loans. Subject to the terms and conditions contained herein, three (3) Business Days after receipt by Lender of such a request from Borrower, such Eurodollar Rate Loans shall be made or Prime Rate Loans shall be converted to Eurodollar Rate Loans or -25- such Eurodollar Rate Loans shall continue, as the case may be, provided, that, (i) no Default or Event of Default shall exist or have occurred and be continuing, (ii) no party hereto shall have sent any notice of termination or non-renewal of this Agreement, (iii) Borrower shall have complied with such customary procedures as are established by Lender and specified by Lender to Borrower from time to time for requests by Borrower for Eurodollar Rate Loans, (iv) no more than four (4) Interest Periods may be in effect at any one time, (v) the aggregate amount of the Eurodollar Rate Loans must be in an amount not less than $5,000,000 or an integral multiple of $1,000,000 in excess thereof, (vi) the maximum amount of the Eurodollar Rate Loans at any time requested by Borrower shall not exceed the amount equal to (A) the principal amount of the Term Loan which it is anticipated will be outstanding as of the last day of the applicable Interest Period plus (B) eighty (80%) percent of the lowest principal amount of the Revolving Loans which it is anticipated will be outstanding during the applicable Interest Period, in each case as determined by Lender (but with no obligation of Lender to make such Loans), and (vii) Lender shall have determined that the Interest Period or Adjusted Eurodollar Rate is available to Lender through the Reference Bank and can be readily determined as of the date of the request for such Eurodollar Rate Loan by Borrower. Any request by Borrower for Eurodollar Rate Loans or to convert Prime Rate Loans to Eurodollar Rate Loans or to continue any existing Eurodollar Rate Loans shall be irrevocable. Notwithstanding anything to the contrary contained herein, Lender and Reference Bank shall not be required to purchase United States Dollar deposits in the London interbank market or other applicable Eurodollar Rate market to fund any Eurodollar Rate Loans, but the provisions hereof shall be deemed to apply as if Lender and Reference Bank had purchased such deposits to fund the Eurodollar Rate Loans. (c) Any Eurodollar Rate Loans shall automatically convert to Prime Rate Loans upon the last day of the applicable Interest Period, unless Lender has received and approved a request to continue such Eurodollar Rate Loan at least three (3) Business Days prior to such last day in accordance with the terms hereof. Any Eurodollar Rate Loans shall, at Lender's option, upon notice by Lender to Borrower, convert to Prime Rate Loans in the event that this Agreement shall terminate or not be renewed. Borrower shall pay to Lender, upon demand by Lender (or Lender may, at its option, charge any loan account of Borrower) any amounts required to compensate Lender, the Reference Bank or any participant with Lender for any loss (including loss of anticipated profits), cost or expense incurred by such person, as a result of the conversion of Eurodollar Rate Loans to Prime Rate Loans pursuant to any of the foregoing. (d) Interest shall be payable by Borrower to Lender monthly in arrears not later than the first day of each calendar month and shall be calculated on the basis of a three hundred sixty (360) day year and actual days elapsed. The interest rate on non-contingent Obligations (other than Eurodollar Rate Loans) -26- shall increase or decrease by an amount equal to each increase or decrease in the Prime Rate effective on the first day of the month after any change in such Prime Rate is announced based on the Prime Rate in effect on the last day of the month in which any such change occurs. In no event shall charges constituting interest payable by Borrower to Lender exceed the maximum amount or the rate permitted under any applicable law or regulation, and if any such part or provision of this Agreement is in contravention of any such law or regulation, such part or provision shall be deemed amended to conform thereto. 3.2 Closing Fee. Borrower shall pay to Lender as a closing fee the amount of $300,000, which shall be fully earned as of the date hereof. The Closing Fee shall be payable over two equal installments of $150,000 each, at closing and on the first anniversary of the date hereof. 3.3 Servicing Fee. Borrower shall pay to Lender monthly a servicing fee in an amount equal to $2,000 in respect of Lender's services for each month (or part thereof) while this Agreement remains in effect and for so long thereafter as any of the Obligations are outstanding, which fee shall be fully earned as of and payable in advance on the date hereof and on the first day of each month hereafter. 3.4 Unused Line Fee. Borrower shall pay to Lender monthly an unused line fee at a rate equal to one quarter of one percent (.25%) percent per annum calculated upon the amount by which the Revolving Loan Limit exceeds the average daily principal balance of the outstanding Revolving Loans and Letter of Credit Accommodations during the immediately preceding month (or part thereof) while this Agreement is in effect and for so long thereafter as any of the Obligations are outstanding, which fee shall be payable on the first day of each month in arrears. 3.5 Changes in Laws and Increased Costs of Loans. (a) If after the date hereof, either (i) any change in, or in the interpretation of, any law or regulation is introduced, including, without limitation, with respect to reserve requirements, applicable to Lender or any banking or financial institution from whom Lender borrows funds or obtains credit (a "Funding Bank"), or (ii) a Funding Bank or Lender complies with any future guideline or request from any central bank or other Governmental Authority or (iii) a Funding Bank or Lender determines that the adoption of any applicable law, rule or regulation regarding capital adequacy, or any change therein, or any change in the interpretation or administration thereof by any Governmental Authority, central bank or comparable agency charged with the interpretation or administration thereof has or would have the effect described below, or a Funding Bank or Lender complies with any request or directive regarding capital adequacy (whether or not having the force of law) of any such authority, central bank or comparable agency, and in the case of any event set forth in this clause (iii), such adoption, change or compliance has or would have the direct or indirect effect of reducing the rate of -27- return on Lender's capital as a consequence of its obligations hereunder to a level below that which Lender could have achieved but for such adoption, change or compliance (taking into consideration the Funding Bank's or Lender's policies with respect to capital adequacy) by an amount deemed by Lender to be material, and the result of any of the foregoing events described in clauses (i), (ii) or (iii) is or results in an increase in the cost to Lender of funding or maintaining the Loans or the Letter of Credit Accommodations, then Borrower shall from time to time upon demand by Lender pay to Lender additional amounts sufficient to indemnify Lender against such increased cost on an after-tax basis (after taking into account applicable deductions and credits in respect of the amount indemnified). A certificate as to the basis and amount of such increased cost shall be submitted to Borrower by Lender and shall be conclusive, absent manifest error. (b) If prior to the first day of any Interest Period, (i) Lender shall have determined in good faith (which determination shall be conclusive and binding upon Borrower) that, by reason of circumstances affecting the relevant market, adequate and reasonable means do not exist for ascertaining the Eurodollar Rate for such Interest Period, (ii) Lender determines that the Eurodollar Rate determined or to be determined for such Interest Period will not adequately and fairly reflect the cost to Lender of making or maintaining Eurodollar Rate Loans during such Interest Period, or (iii) Dollar deposits in the principal amounts of the Eurodollar Rate Loans to which such Interest Period is to be applicable are not generally available in the London interbank market, Lender shall give telecopy or telephonic notice thereof to Borrower as soon as practicable thereafter, and will also give prompt written notice to Borrower when such conditions no longer exist. If such notice is given (A) any Eurodollar Rate Loans requested to be made on the first day of such Interest Period shall be made as Prime Rate Loans, (B) any Loans that were to have been converted on the first day of such Interest Period to or continued as Eurodollar Rate Loans shall be converted to or continued as Prime Rate Loans and (C) each outstanding Eurodollar Rate Loan shall be converted, on the last day of the then-current Interest Period thereof, to Prime Rate Loans. Until such notice has been withdrawn by Lender, no further Eurodollar Rate Loans shall be made or continued as such, nor shall Borrower have the right to convert Prime Rate Loans to Eurodollar Rate Loans. (c) Notwithstanding any other provision herein, if the adoption of or any change in any law, treaty, rule or regulation or final, non-appealable determination of an arbitrator or a court or other Governmental Authority or in the interpretation or application thereof occurring after the date hereof shall make it unlawful for Lender to make or maintain Eurodollar Rate Loans as contemplated by this Loan Agreement, (i) Lender shall promptly give written notice of such circumstances to Borrower (which notice shall be withdrawn whenever such circumstances no longer exist), (ii) the commitment of Lender hereunder to make Eurodollar Rate Loans, continue Eurodollar Rate Loans as such and convert Prime -28- Rate Loans to Eurodollar Rate Loans shall forthwith be canceled and, until such time as it shall no longer be unlawful for Lender to make or maintain Eurodollar Rate Loans, Lender shall then have a commitment only to make a Prime Rate Loan when a Eurodollar Rate Loan is requested and (iii) Loans then outstanding as Eurodollar Rate Loans, if any, shall be converted automatically to Prime Rate Loans on the respective last days of the then current Interest Periods with respect to such Loans or within such earlier period as required by law. If any such conversion of a Eurodollar Rate Loan occurs on a day which is not the last day of the then current Interest Period with respect thereto, Borrower shall pay to such Lender such amounts, if any, as may be required pursuant to Section 3.3(d) below. (d) Borrower shall indemnify Lender and to hold Lender harmless from any loss or expense which Lender may sustain or incur as a consequence of (i) default by Borrower in making a borrowing of, conversion into or extension of Eurodollar Rate Loans after Borrower has given a notice requesting the same in accordance with the provisions of this Loan Agreement, (ii) default by Borrower in making any prepayment of a Eurodollar Rate Loan after Borrower has given a notice thereof in accordance with the provisions of this Agreement, and (iii) the making of a prepayment of Eurodollar Rate Loans on a day which is not the last day of an Interest Period with respect thereto. With respect to Eurodollar Rate Loans, such indemnification may include an amount equal to the excess, if any, of (A) the amount of interest which would have accrued on the amount so prepaid, or not so borrowed, converted or extended, for the period from the date of such prepayment or of such failure to borrow, convert or extend to the last day of the applicable Interest Period (or, in the case of a failure to borrow, convert or extend, the Interest Period that would have commenced on the date of such failure) in each case at the applicable rate of interest for such Eurodollar Rate Loans provided for herein over (B) the amount of interest (as reasonably determined by such Lender) which would have accrued to Lender on such amount by placing such amount on deposit for a comparable period with leading banks in the interbank Eurodollar market. This covenant shall survive the termination or non-renewal of this Loan Agreement and the payment of the Obligations. SECTION 4. CONDITIONS PRECEDENT 4.1 Conditions Precedent to Initial Loans and Letter of Credit Accommodations. Each of the following is a condition precedent to Lender making the initial Loans and providing the initial Letter of Credit Accommodations hereunder: (a) Lender shall have received, in form and substance satisfactory to Lender, all releases, terminations and such other documents as Lender may request to evidence and effectuate the termination by the existing lenders to Borrower of their respective financing arrangements with Borrower and the termination and release by it or them, as the case may be, of any interest in and to -29- any assets and properties of Borrower and each Obligor, duly authorized, executed and delivered by it or each of them, including, but not limited to, (i) UCC termination statements for all UCC financing statements previously filed by it or any of them or their predecessors, as secured party and Borrower or any Obligor, as debtor and (ii) satisfactions and discharges of any mortgages, deeds of trust or deeds to secure debt by Borrower or any Obligor in favor of such existing lender or lenders, in form acceptable for recording with the appropriate Governmental Authority; (b) all requisite corporate action and proceedings in connection with this Agreement and the other Financing Agreements shall be satisfactory in form and substance to Lender, and Lender shall have received all information and copies of all documents, including records of requisite corporate action and proceedings which Lender may have requested in connection therewith, such documents where requested by Lender or its counsel to be certified by appropriate corporate officers or Governmental Authority (and including a copy of the certificate of incorporation of Borrower certified by the Secretary of State (or equivalent Governmental Authority) which shall set forth the same complete corporate name of Borrower as is set forth herein and such document as shall set forth the organizational identification number of Borrower, if one is issued in its jurisdiction of incorporation); (c) no material adverse change shall have occurred in the assets, business or prospects of Borrower since the date of Lender's latest field examination (not including for this purpose the field review referred to in clause (d) below) and no change or event shall have occurred which would impair the ability of Borrower or any Obligor to perform its obligations hereunder or under any of the other Financing Agreements to which it is a party or of Lender to enforce the Obligations or realize upon the Collateral; (d) Lender shall have completed a field review of the Records and such other information with respect to the Collateral as Lender may require to determine the amount of Revolving Loans available to Borrower (including, without limitation, current perpetual inventory records and/or roll-forwards of Accounts and Inventory through the date of closing and test counts of the Inventory in a manner satisfactory to Lender, together with such supporting documentation as may be necessary or appropriate, and other documents and information that will enable Lender to accurately identify and verify the Collateral), the results of which in each case shall be satisfactory to Lender, not more than three (3) Business Days prior to the date hereof; (e) Lender shall have received, in form and substance satisfactory to Lender, all consents, waivers, acknowledgments and other agreements from third persons which Lender may deem necessary or desirable in order to permit, protect and perfect its security interests in and liens upon the Collateral or to effectuate the provisions or purposes of this Agreement and the other Financing Agreements, -30- including, without limitation, Collateral Access Agreements by owners and lessors of leased premises of Borrower and by warehouses at which Collateral is located; (f) the Excess Availability as determined by Lender, as of the date hereof, shall be not less than $4,000,000 after giving effect to the initial Loans made or to be made and Letter of Credit Accommodations issued or to be issued in connection with the initial transactions hereunder; (g) Lender shall have received, in form and substance satisfactory to Lender, Deposit Account Control Agreements by and among Lender, Borrower and each bank where Borrower has a deposit account, in each case, duly authorized, executed and delivered by such bank and Borrower (or Lender shall be the bank's customer with respect to such deposit account, as Lender may specify); (h) Lender shall have received evidence, in form and substance satisfactory to Lender, that Lender has a valid perfected first priority security interest in all of the Collateral; (i) Lender shall have received and reviewed lien and judgment search results for the jurisdiction of incorporation or organization of Borrower, the jurisdiction of the chief executive office of Borrower and all jurisdictions in which assets of Borrower are located, which search results shall be in form and substance satisfactory to Lender; (j) Lender shall have received evidence of insurance and loss payee endorsements required hereunder and under the other Financing Agreements, in form and substance satisfactory to Lender, and certificates of insurance policies and/or endorsements naming Lender as loss payee; (k) Lender shall have received, in form and substance satisfactory to Lender, such opinion letters of counsel to Borrower with respect to the Financing Agreements and such other matters as Lender may request; (l) Lender shall have received, in form and substance satisfactory to Lender a guarantee of the Obligations from Guarantor in an initial amount up to $2,000,000; (m) Loans shall be subject to Reserves in the amount of $400,000; (n) Lender shall have received in form and substance satisfactory to Lender such assignments of existing notes receivable as Lender may request; and (o) the other Financing Agreements and all instruments and documents hereunder and thereunder shall have been duly executed and delivered to Lender, in form and substance satisfactory to Lender. -31- 4.2 Conditions Precedent to All Loans and Letter of Credit Accommodations. Each of the following is an additional condition precedent to Lender making Loans and/or providing Letter of Credit Accommodations to Borrower, including the initial Loans and Letter of Credit Accommodations and any future Loans and Letter of Credit Accommodations: (a) all representations and warranties contained herein and in the other Financing Agreements shall be true and correct with the same effect as though such representations and warranties had been made on and as of the date of the making of each such Loan or providing each such Letter of Credit Accommodation and after giving effect thereto, except to the extent that such representations and warranties expressly relate solely to an earlier date (in which case such representations and warranties shall have been true and accurate on and as of such earlier date); (b) no law, regulation, order, judgment or decree of any Governmental Authority shall exist, and no action, suit, investigation, litigation or proceeding shall be pending or threatened in any court or before any arbitrator or Governmental Authority, which (i) purports to enjoin, prohibit, restrain or otherwise affect (A) the making of the Loans or providing the Letter of Credit Accommodations, or (B) the consummation of the transactions contemplated pursuant to the terms hereof or the other Financing Agreements or (ii) has or could reasonably be expected to have a material adverse effect on the assets, business or prospects of Borrower or would impair the ability of Borrower to perform its obligations hereunder or under any of the other Financing Agreements or of Lender to enforce any Obligations or realize upon any of the Collateral; (c) Loans shall be subject to Reserves in the amount of $400,000 minus the aggregate amount of principal payments made by Borrower to Lender for repayment of the Term Loan; and (d) no Default or Event of Default shall exist or have occurred and be continuing on and as of the date of the making of such Loan or providing each such Letter of Credit Accommodation and after giving effect thereto. SECTION 5. GRANT AND PERFECTION OF SECURITY INTEREST 5.1 Grant of Security Interest. To secure payment and performance of all Obligations, including, without limitation, the Revolving Loans, the Term Loan, and the Letter of Credit Accommodations, Borrower hereby grants to Lender a continuing security interest in, a lien upon, and a right of set off against, and hereby assigns to Lender as security, all personal and real property and fixtures and interests in property and fixtures of Borrower, whether now owned or hereafter acquired or existing, and wherever located (together with all other collateral -32- security for the Obligations at any time granted to or held or acquired by Lender, collectively, the "Collateral"), including: (a) all Accounts; (b) all general intangibles, including, without limitation, all Intellectual Property; (c) all goods, including, without limitation, Inventory and Equipment; (d) all Real Property and fixtures; (e) all chattel paper (including all tangible and electronic chattel paper); (f) all instruments (including all promissory notes); (g) all documents; (h) all deposit accounts; (i) all letters of credit, banker's acceptances and similar instruments and including all letter-of-credit rights; (j) all supporting obligations and all present and future liens, security interests, rights, remedies, title and interest in, to and in respect of Receivables and other Collateral, including (i) rights and remedies under or relating to guaranties, contracts of suretyship, letters of credit and credit and other insurance related to the Collateral, (ii) rights of stoppage in transit, replevin, repossession, reclamation and other rights and remedies of an unpaid vendor, lienor or secured party, (iii) goods described in invoices, documents, contracts or instruments with respect to, or otherwise representing or evidencing, Receivables or other Collateral, including returned, repossessed and reclaimed goods, and (iv) deposits by and property of account debtors or other persons securing the obligations of account debtors; (k) all (i) investment property (including securities, whether certificated or uncertificated, securities accounts, security entitlements, commodity contracts or commodity accounts) and (ii) monies, credit balances, deposits and other property of Borrower now or hereafter held or received by or in transit to Lender or its Affiliates or at any other depository or other institution from or for the account of Borrower, whether for safekeeping, pledge, custody, transmission, collection or otherwise; -33- (l) all commercial tort claims, including, without limitation, those identified in the Information Certificate; (m) to the extent not otherwise described above, all Receivables; (n) all Records; and (o) all products and proceeds of the foregoing, in any form, including insurance proceeds and all claims against third parties for loss or damage to or destruction of or other involuntary conversion of any kind or nature of any or all of the other Collateral. This Agreement shall also serve as a "Security Agreement" within the meaning of that term as used in the Uniform Commercial Code as adopted and in force from time to time in the State of Florida, and shall be operative and effective as a Security Agreement in addition to, and not in substitution for, any other Security Agreement executed by Borrower in connection with the extension of credit or loan transaction secured hereby. Borrower agrees to and shall, upon the request of Lender, execute and deliver to Lender, in form satisfactory to Lender, such "Financing Statements," descriptions of property and such further assurances as Lender, in its sole discretion, may from time to time consider necessary to create, perfect, continue, and preserve the lien and encumbrances hereof and the security interest granted herein upon and in such Collateral. Lender, at the expenses of Borrower, may or shall cause such statements, descriptions, and assurances to be recorded and re-recorded, filed and refiled, at such times and in such places as may be required or permitted by law to so create, perfect and preserve the lien and encumbrances hereof upon all of said collateral. In addition to any other rights and remedies contained in this Agreement or any other documents executed in connection with the Obligations, Lender shall have all the rights and remedies of a secured party under the Uniform Commercial Code as adopted and in force from time to time in the State of Florida or other applicable law, all of which rights shall be cumulative and nonexclusive, to the extent permitted by law. 5.2 Perfection of Security Interests. (a) Borrower irrevocably and unconditionally authorizes Lender (or its agent) to file at any time and from time to time such financing statements with respect to the Collateral naming Lender or its designee as the secured party and Borrower as debtor, as Lender may require, and including any other information with respect to Borrower or otherwise required by part 5 of Article 9 of the Uniform Commercial Code of such jurisdiction as Lender may determine, together with any amendment and continuations with respect thereto, which authorization shall apply to all financing statements filed on, prior to or after the date hereof. Borrower hereby ratifies and approves all financing statements naming Lender or its designee as secured party and Borrower as debtor with respect to the Collateral -34- (and any amendments with respect to such financing statements) filed by or on behalf of Lender prior to the date hereof and ratifies and confirms the authorization of Lender to file such financing statements (and amendments, if any). Borrower hereby authorizes Lender to adopt on behalf of Borrower any symbol required for authenticating any electronic filing. In the event that the description of the collateral in any financing statement naming Lender or its designee as the secured party and Borrower as debtor includes assets and properties of Borrower that do not at any time constitute Collateral, whether hereunder, under any of the other Financing Agreements or otherwise, the filing of such financing statement shall nonetheless be deemed authorized by Borrower to the extent of the Collateral included in such description and it shall not render the financing statement ineffective as to any of the Collateral or otherwise affect the financing statement as it applies to any of the Collateral. In no event shall Borrower at any time file, or permit or cause to be filed, any correction statement or termination statement with respect to any financing statement (or amendment or continuation with respect thereto) naming Lender or its designee as secured party and Borrower as debtor. (b) Borrower does not have any chattel paper (whether tangible or electronic) or instruments as of the date hereof, except as set forth in the Information Certificate. In the event that Borrower shall be entitled to or shall receive any chattel paper or instrument after the date hereof, Borrower shall promptly notify Lender thereof in writing. Promptly upon the receipt thereof by or on behalf of Borrower (including by any agent or representative), Borrower shall deliver, or cause to be delivered to Lender, all tangible chattel paper and instruments that Borrower or may at any time acquire, accompanied by such instruments of transfer or assignment duly executed in blank as Lender may from time to time specify, in each case except as Lender may otherwise agree. At Lender's option, Borrower shall, or Lender may at any time on behalf of Borrower, cause the original of any such instrument or chattel paper to be conspicuously marked in a form and manner acceptable to Lender with the following legend referring to chattel paper or instruments as applicable: "This [chattel paper][instrument] is subject to the security interest of Congress Financial Corporation (Florida) and any sale, transfer, assignment or encumbrance of this [chattel paper][instrument] violates the rights of such secured party." (c) In the event that Borrower shall at any time hold or acquire an interest in any electronic chattel paper or any "transferable record" (as such term is defined in Section 201 of the Federal Electronic Signatures in Global and National Commerce Act or in Section 16 of the Uniform Electronic Transactions Act as in effect in any relevant jurisdiction), Borrower shall promptly notify Lender thereof in writing. Promptly upon Lender's request, Borrower shall take, or cause to be taken, such actions as Lender may reasonably request to give Lender control of such electronic chattel paper under Section 9-105 of the UCC and control of such transferable record under Section 201 of the Federal Electronic Signatures in -35- Global and National Commerce Act or, as the case may be, Section 16 of the Uniform Electronic Transactions Act, as in effect in such jurisdiction. (d) Borrower does not have any deposit accounts as of the date hereof, except as set forth in the Information Certificate. Borrower shall not, directly or indirectly, after the date hereof open, establish or maintain any new deposit account unless each of the following conditions is satisfied: (i) Lender shall have received not less than five (5) Business Days prior written notice of the intention of Borrower to open or establish such account which notice shall specify in reasonable detail and specificity acceptable to Lender the name of the account, the owner of the account, the name and address of the bank at which such account is to be opened or established, the individual at such bank with whom Borrower is dealing and the purpose of the account, (ii) the bank where such account is opened or maintained shall be acceptable to Lender, and (iii) on or before the opening of such deposit account, Borrower shall as Lender may specify either (A) deliver to Lender a Deposit Account Control Agreement with respect to such deposit account duly authorized, executed and delivered by Borrower and the bank at which such deposit account is opened and maintained or (B) arrange for Lender to become the customer of the bank with respect to the deposit account on terms and conditions acceptable to Lender. The terms of this subsection (d) shall not apply to deposit accounts specifically and exclusively used for payroll, payroll taxes and other employee wage and benefit payments to or for the benefit of Borrower's salaried employees. (e) Borrower does not own or hold, directly or indirectly, beneficially or as record owner or both, any investment property, as of the date hereof, or have any investment account, securities account, commodity account or other similar account with any bank or other financial institution or other securities intermediary or commodity intermediary as of the date hereof, in each case except as set forth in the Information Certificate. (i) In the event that Borrower shall be entitled to or shall at any time after the date hereof hold or acquire any certificated securities, Borrower shall promptly endorse, assign and deliver the same to Lender, accompanied by such instruments of transfer or assignment duly executed in blank as Lender may from time to time specify. If any securities, now or hereafter acquired by Borrower are uncertificated and are issued to Borrower or its nominee directly by the issuer thereof, Borrower shall immediately notify Lender thereof and shall as Lender may specify, either (A) cause the issuer to agree to comply with instructions from Lender as to such securities, without further consent of Borrower or such nominee, or (B) arrange for Lender to become the registered owner of the securities. -36- (ii) Borrower shall not, directly or indirectly, after the date hereof open, establish or maintain any investment account, securities account, commodity account or any other similar account (other than a deposit account) with any securities intermediary or commodity intermediary unless each of the following conditions is satisfied: (A) Lender shall have received not less than five (5) Business Days prior written notice of the intention of Borrower to open or establish such account which notice shall specify in reasonable detail and specificity acceptable to Lender the name of the account, the owner of the account, the name and address of the securities intermediary or commodity intermediary at which such account is to be opened or established, the individual at such intermediary with whom Borrower is dealing and the purpose of the account, (B) the securities intermediary or commodity intermediary (as the case may be) where such account is opened or maintained shall be acceptable to Lender, and (C) on or before the opening of such investment account, securities account or other similar account with a securities intermediary or commodity intermediary, Borrower shall as Lender may specify either (1) execute and deliver, and cause to be executed and delivered to Lender, an Investment Property Control Agreement with respect thereto duly authorized, executed and delivered by Borrower and such securities intermediary or commodity intermediary or (2) arrange for Lender to become the entitlement holder with respect to such investment property on terms and conditions acceptable to Lender. (f) Borrower is not the beneficiary or otherwise entitled to any right to payment under any letter of credit, banker's acceptance or similar instrument as of the date hereof, except as set forth in the Information Certificate. In the event that Borrower shall be entitled to or shall receive any right to payment under any letter of credit, banker's acceptance or any similar instrument, whether as beneficiary thereof or otherwise after the date hereof, Borrower shall promptly notify Lender thereof in writing. Borrower shall immediately, as Lender may specify, either (i) deliver, or cause to be delivered to Lender, with respect to any such letter of credit, banker's acceptance or similar instrument, the written agreement of the issuer and any other nominated person obligated to make any payment in respect thereof (including any confirming or negotiating bank), in form and substance satisfactory to Lender, consenting to the assignment of the proceeds of the letter of credit to Lender by Borrower and agreeing to make all payments thereon directly to Lender or as Lender may otherwise direct or (ii) cause Lender to become, at Borrower's expense, the transferee beneficiary of the letter of credit, banker's acceptance or similar instrument (as the case may be). -37- (g) Borrower has no commercial tort claims as of the date hereof, except as set forth in the Information Certificate. In the event that Borrower shall at any time after the date hereof have any commercial tort claims, Borrower shall promptly notify Lender thereof in writing, which notice shall (i) set forth in reasonable detail the basis for and nature of such commercial tort claim and (ii) include the express grant by Borrower to Lender of a security interest in such commercial tort claim (and the proceeds thereof). In the event that such notice does not include such grant of a security interest, the sending thereof by Borrower to Lender shall be deemed to constitute such grant to Lender. Upon the sending of such notice, any commercial tort claim described therein shall constitute part of the Collateral and shall be deemed included therein. Without limiting the authorization of Lender provided in Section 5.2(a) hereof or otherwise arising by the execution by Borrower of this Agreement or any of the other Financing Agreements, Lender is hereby irrevocably authorized from time to time and at any time to file such financing statements naming Lender or its designee as secured party and Borrower as debtor, or any amendments to any financing statements, covering any such commercial tort claim as Collateral. In addition, Borrower shall promptly upon Lender's request, execute and deliver, or cause to be executed and delivered, to Lender such other agreements, documents and instruments as Lender may require in connection with such commercial tort claim. (h) Borrower does not have any goods, documents of title or other Collateral in the custody, control or possession of a third party as of the date hereof, except as set forth in the Information Certificate and except for goods located in the United States in transit to a location of Borrower permitted herein in the ordinary course of business of Borrower in the possession of the carrier transporting such goods. In the event that any goods, documents of title or other Collateral are at any time after the date hereof in the custody, control or possession of any other person not referred to in the Information Certificate or such carriers, Borrower shall promptly notify Lender thereof in writing. Promptly upon Lender's request, Borrower shall deliver to Lender a Collateral Access Agreement duly authorized, executed and delivered by such person and Borrower. (i) Borrower shall take any other actions reasonably requested by Lender from time to time to cause the attachment, perfection and first priority of, and the ability of Lender to enforce, the security interest of Lender in any and all of the Collateral, including, without limitation, (i) executing, delivering and, where appropriate, filing financing statements and amendments relating thereto under the UCC or other applicable law, to the extent, if any, that Borrower's signature thereon is required therefor, (ii) causing Lender's name to be noted as secured party on any certificate of title for a titled good if such notation is a condition to attachment, perfection or priority of, or ability of Lender to enforce, the security interest of Lender in such Collateral, (iii) complying with any provision of any statute, regulation or treaty of the United States as to any Collateral if compliance -38- with such provision is a condition to attachment, perfection or priority of, or ability of Lender to enforce, the security interest of Lender in such Collateral, (iv) obtaining the consents and approvals of any Governmental Authority or third party, including, without limitation, any consent of any licensor, lessor or other person obligated on Collateral, and taking all actions required by any earlier versions of the UCC or by other law, as applicable in any relevant jurisdiction. SECTION 6. COLLECTION AND ADMINISTRATION 6.1 Borrower's Loan Account. Lender shall maintain one or more loan account(s) on its books in which shall be recorded (a) all Loans, Letter of Credit Accommodations and other Obligations and the Collateral, (b) all payments made by or on behalf of Borrower and (c) all other appropriate debits and credits as provided in this Agreement, including fees, charges, costs, expenses and interest. All entries in the loan account(s) shall be made in accordance with Lender's customary practices as in effect from time to time. 6.2 Statements. Lender shall render to Borrower each month a statement setting forth the balance in the Borrower's loan account(s) maintained by Lender for Borrower pursuant to the provisions of this Agreement, including principal, interest, fees, costs and expenses. Each such statement shall be subject to subsequent adjustment by Lender but shall, absent manifest errors or omissions, be considered correct and deemed accepted by Borrower and conclusively binding upon Borrower as an account stated except to the extent that Lender receives a written notice from Borrower of any specific exceptions of Borrower thereto within thirty (30) days after the date such statement has been mailed by Lender. Until such time as Lender shall have rendered to Borrower a written statement as provided above, the balance in Borrower's loan account(s) shall be presumptive evidence of the amounts due and owing to Lender by Borrower. 6.3 Collection of Accounts. (a) Borrower shall establish and maintain, at its expense, blocked accounts or lockboxes and related blocked accounts (in either case, "Blocked Accounts"), as Lender may specify, with such banks as are acceptable to Lender into which Borrower shall promptly deposit and direct its account debtors to directly remit all payments on Receivables and all payments constituting proceeds of Inventory or other Collateral in the identical form in which such payments are made, whether by cash, check or other manner. Borrower shall deliver, or cause to be delivered to Lender, a Depository Account Control Agreement duly authorized, executed and delivered by each bank where a Blocked Account is maintained as provided in Section 5.2 hereof or at any time and from time to time Lender may become bank's customer with respect to the Blocked Accounts and promptly upon Lender's request, Borrower shall execute and deliver such agreements or documents as Lender may require in connection therewith. Borrower shall cause all funds -39- received or deposited into the Blocked Accounts to be transferred each Business Day to the Lender Payment Account. Borrower agrees that all payments made to such Blocked Accounts or other funds received and collected by Lender, whether in respect of the Receivables, as proceeds of Inventory or other Collateral or otherwise shall be treated as payments to Lender in respect of the Obligations and therefore shall constitute the property of Lender to the extent of the then outstanding Obligations. Borrower further agrees that within ninety (90) days of the closing of this loan facility, Borrower will close an existing Blocked Account with another Lender. Closing of such existing Blocked Account shall constitute a condition subsequent, and failure to close such Blocked Account within ninety(90) days of closing of this loan facility will constitute an Event of Default. (b) For purposes of calculating the amount of the Loans available to Borrower, such payments will be applied (conditional upon final collection) to the Obligations on the Business Day of receipt by Lender of immediately available funds in the Lender Payment Account provided such payments and notice thereof are received in accordance with Lender's usual and customary practices as in effect from time to time and within sufficient time to credit Borrower's loan account on such day, and if not, then on the next Business Day. For the purposes of calculating interest on the Obligations, such payments or other funds received will be applied (conditional upon final collection) to the Obligations one (1) Business Day following the date of receipt of immediately available funds by Lender in the Lender Payment Account provided such payments or other funds and notice thereof are received in accordance with Lender's usual and customary practices as in effect from time to time and within sufficient time to credit Borrower's loan account on such day, and if not, then on the next Business Day. In the event that at any time or from time to time there are no Revolving Loans outstanding, Lender shall be entitled to an administrative fee in an amount equivalent to the Interest Rate for Prime Rate Loans (on a per annum basis) multiplied by the amount of the funds received in the Blocked Account for such day as calculated by Lender in accordance with its customary practice. (c) Borrower and its shareholders, directors, employees, agents, Subsidiaries or other Affiliates shall, acting as trustee for Lender, receive, as the property of Lender, any monies, checks, notes, drafts or any other payment relating to and/or proceeds of Accounts or other Collateral which come into their possession or under their control and immediately upon receipt thereof, shall deposit or cause the same to be deposited in the Blocked Accounts, or remit the same or cause the same to be remitted, in kind, to Lender. In no event shall the same be commingled with Borrower's own funds. Borrower agrees to pay, within a reasonable time, to Lender on demand for any amounts owed or paid to any bank or other financial institution at which a Blocked Account or investment account is established or any other bank, financial institution or other person involved in the transfer of funds to or from the Blocked Accounts or any investment account arising out of Lender's -40- payments to or indemnification of such bank, financial institution or other person. The obligation of Borrower to reimburse Lender for such amounts pursuant to this Section 6.3 shall survive the termination or non-renewal of this Agreement. 6.4 Payments. (a) All Obligations shall be payable to the Lender Payment Account as provided in Section 6.3 or such other place as Lender may designate from time to time. Lender shall apply payments received or collected from Borrower or for the account of Borrower (including the monetary proceeds of collections or of realization upon any Collateral) as follows: first, to pay any fees, indemnities or expense reimbursements then due to Lender from Borrower; second, to pay interest due in respect of any Loans; third, to pay principal due in respect of the Loans; fourth, to pay or prepay any other Obligations whether or not then due, in such order and manner as Lender determines. Notwithstanding anything to the contrary contained in this Agreement, (i) unless so directed by Borrower, or unless a Default or an Event of Default shall exist or have occurred and be continuing, Lender shall not apply any payments which it receives to any Eurodollar Rate Loans, except (A) on the expiration date of the Interest Period applicable to any such Eurodollar Rate Loans, or (B) in the event that there are no outstanding Prime Rate Loans and (ii) to the extent Borrower uses any proceeds of the Loans or Letter of Credit Accommodations to acquire rights in or the use of any Collateral or to repay any Indebtedness used to acquire rights in or the use of any Collateral, payments in respect of the obligations shall be deemed applied first to the Obligations arising from Loans and Letter of Credit Accommodations that were not used for such purposes and second to the Obligations arising from Loans and Letter of Credit Accommodations the proceeds of which were used to acquire rights in or the use of any Collateral in the chronological order in which Borrower acquired such rights or use. (b) At Lender's option, all principal, interest, fees, costs, expenses and other charges provided for in this Agreement or the other Financing Agreements may be charged directly to the loan account(s) of Borrower. Borrower shall make all payments to Lender on the Obligations free and clear of, and without deduction or withholding for or on account of, any setoff, counterclaim, defense, duties, taxes, levies, imposts, fees, deductions, withholding, restrictions or conditions of any kind. If after receipt of any payment of, or proceeds of Collateral applied to the payment of, any of the Obligations, Lender is required to surrender or return such payment or proceeds to any Person for any reason, then the Obligations intended to be satisfied by such payment or proceeds shall be reinstated and continue and this Agreement shall continue in full force and effect as if such payment or proceeds had not been received by Lender. Borrower shall be liable to pay to Lender, and does hereby indemnify and hold Lender harmless for the amount of any payments or proceeds surrendered or returned. This Section 6.4 shall remain -41- effective notwithstanding any contrary action which may be taken by Lender in reliance upon such payment or proceeds. This Section 6.4 shall survive the payment of the Obligations and the termination or non-renewal of this Agreement. 6.5 Authorization to Make Loans. Lender is authorized to make the Loans and provide the Letter of Credit Accommodations based upon telephonic or other instructions received from anyone purporting to be one of the Executive Officers or, at the discretion of Lender, if such Loans are necessary to satisfy any Obligations. All requests for Loans or Letter of Credit Accommodations hereunder shall specify the date on which the requested advance is to be made or Letter of Credit Accommodations established (which day shall be a Business Day) and the amount of the requested Loan. Requests received after 12:00 noon, Eastern Standard Time on any day shall be deemed to have been made as of the opening of business on the immediately following Business Day. All Loans and Letter of Credit Accommodations under this Agreement shall be conclusively presumed to have been made to, and at the request of and for the benefit of, Borrower when deposited to the credit of Borrower or otherwise disbursed or established in accordance with the instructions of Borrower or in accordance with the terms and conditions of this Agreement. 6.6 Use of Proceeds. Borrower shall use the initial proceeds of the Loans provided by Lender to Borrower hereunder only for: (a) payments to each of the persons listed in the disbursement direction letter furnished by Borrower to Lender on or about the date hereof and (b) costs, expenses and fees in connection with the preparation, negotiation, execution and delivery of this Agreement and the other Financing Agreements. All other Loans made or Letter of Credit Accommodations provided by Lender to Borrower pursuant to the provisions hereof shall be used by Borrower only for general operating, working capital and other proper corporate purposes of Borrower not otherwise prohibited by the terms hereof. Notwithstanding the foregoing, proceeds from Revolving Loans of up to $5,000,000 in the aggregate outstanding within any fiscal year of Borrower during the term of this Agreement (the "Acquisition Line") may be used by Borrower for one or more strategic acquisitions of more than 50% of the voting securities or substantially all of the assets of existing businesses from one or more third parties, provided that all of the following conditions are met with respect to each such acquisition at the time of any such acquisition: (i) Lender has received and reviewed all due diligence materials requested in connection with the acquisition and the results of such review shall be satisfactory to Lender in its reasonable discretion; (ii) Excess Availability does not fall below $3,000,000 after giving effect to such acquisition(s); (iii) Borrower has maintained not less than $3,000,000 in average Excess Availability for thirty (30) days preceding any such acquisition; (iv) the target of any such acquisition is engaged in the same or a similar Line of Business, and (v) no Event of Default has occurred or is existing at the time of such acquisition. Without limiting the foregoing, Lender further acknowledges and agrees that in addition to -42- the Acquisition Line, Borrower may use proceeds from Revolving Loans to finance its acquisition of Utopia, Inc., a Florida corporation ("Target") substantially on the terms and conditions provided in the Letter of Intent attached to this Agreement as Exhibit "C", provided that such use of proceeds shall be subject to (i) completion of a field examination of Target by Lender and receipt and review of any due diligence materials requested by Lender, the results of which shall be satisfactory to Lender in its reasonable discretion, (ii) that the Excess Availability does not fall below $4,000,000 after giving effect to such acquisition, and (iii) further provided closing of such acquisition shall occur on or before August 1, 2003, and (iv) no Event of Default has occurred or is existing at the time of such acquisition. In the event acquisition of the Target is not closed on or before August 1, 2003, any future acquisition of Target shall be included in and shall be subject to the terms of the Acquisition Line. None of the proceeds will be used, directly or indirectly, for the purpose of purchasing or carrying any margin security or for the purposes of reducing or retiring any indebtedness which was originally incurred to purchase or carry any margin security or for any other purpose which might cause any of the Loans to be considered a "purpose credit" within the meaning of Regulation U of the Board of Governors of the Federal Reserve System, as amended. -43- SECTION 7. COLLATERAL REPORTING AND COLLATERAL COVENANTS 7.1 Collateral Reporting. (a) Borrower shall provide Lender with the following documents in a form satisfactory to Lender: (i) on a regular basis as required by Lender, a schedule of sales made, credits issued and cash received; (ii) as soon as possible after the end of each month (but in any event within ten (10) days after the end thereof), on a monthly basis or more frequently as Lender may request, (A) perpetual inventory reports, (B) inventory reports by location and category (including identifying Inventory at locations owned and operated by third parties or on consignment), (C) agings of accounts payable (and including information indicating the status of payments to owners and lessors of the leased premises of Borrower) and (D) agings of accounts receivable (together with a reconciliation to the previous month's aging and general ledger); (iii) upon Lender's request, (A) copies of customer statements, purchase orders, sales invoices, credit memos, remittance advices and reports, and copies of deposit slips and bank statements, (B) copies of shipping and delivery documents, and (C) copies of purchase orders, invoices and delivery documents for Inventory and Equipment acquired by Borrower; (iv) such other reports as to the Collateral as Lender shall request from time to time; and (b) If any of Borrower's records or reports of the Collateral are prepared or maintained by an accounting service, contractor, shipper or other agent, Borrower hereby irrevocably authorizes such service, contractor, shipper or agent to deliver such records, reports, and related documents to Lender and to follow Lender's instructions with respect to further services at any time that an Event of Default exists or has occurred and is continuing. 7.2 Accounts Covenants. (a) Borrower shall notify Lender promptly of: (i) any material delay in Borrower's performance of any of its obligations to any account debtor or the assertion of any claims, offsets, defenses or counterclaims by any account debtor, or -44- any disputes with account debtors, or any settlement, adjustment or compromise thereof, (ii) all material adverse information relating to the financial condition of any account debtor and (iii) any event or circumstance which, to Borrower's knowledge would cause Lender to consider any then existing Accounts as no longer constituting Eligible Accounts. No credit, discount, allowance or extension or agreement for any of the foregoing shall be granted to any account debtor without Lender's consent, except in the ordinary course of Borrower's business in accordance with practices and policies previously disclosed in writing to Lender and except as set forth in the schedules delivered to Lender pursuant to Section 7.1(a) above. So long as no Event of Default exists or has occurred and is continuing, Borrower shall settle, adjust or compromise any claim, offset, counterclaim or dispute with any account debtor. At any time that an Event of Default exists or has occurred and is continuing, Lender shall, at its option, have the exclusive right to settle, adjust or compromise any claim, offset, counterclaim or dispute with account debtors or grant any credits, discounts or allowances. (b) With respect to each Account: (i) the amounts shown on any invoice delivered to Lender or schedule thereof delivered to Lender shall be true and complete, (ii) no payments shall be made thereon except payments immediately delivered to Lender pursuant to the terms of this Agreement, (iii) no credit, discount, allowance or extension or agreement for any of the foregoing shall be granted to any account debtor except as reported to Lender in accordance with this Agreement and except for credits, discounts, allowances or extensions made or given in the ordinary course of Borrower's business in accordance with practices and policies previously disclosed to Lender, (iv) there shall be no setoffs, deductions, contras, defenses, counterclaims or disputes existing or asserted with respect thereto except as reported to Lender in accordance with the terms of this Agreement, (v) none of the transactions giving rise thereto will violate any applicable foreign, Federal, State or local laws or regulations, all documentation relating thereto will be legally sufficient under such laws and regulations and all such documentation will be legally enforceable in accordance with its terms. (c) Lender shall have the right at any time or times, in Lender's name or in the name of a nominee of Lender, to verify the validity, amount or any other matter relating to any Account or other Collateral, by mail, telephone, facsimile transmission or otherwise. 7.3 Inventory Covenants. With respect to the Inventory: (a) Borrower shall at all times maintain inventory records reasonably satisfactory to Lender, keeping correct and accurate records itemizing and describing the kind, type, quality and quantity of Inventory, Borrower's cost therefor and daily withdrawals therefrom and additions thereto; (b) Borrower shall conduct a physical count of the Inventory at least once each year, but at any time or times as Lender may request on or after an Event of Default, and promptly following such physical inventory -45- shall supply Lender with a report in the form and with such specificity as may be reasonably satisfactory to Lender concerning such physical count; (c) Borrower shall not remove any Inventory from the locations set forth or permitted herein, without the prior written consent of Lender, except for sales of Inventory in the ordinary course of Borrower's business and except to move Inventory directly from one location set forth or permitted herein to another such location and except for Inventory shipped from the manufacturer thereof to Borrower which is in transit to the locations set forth or permitted herein; (d) upon Lender's request, Borrower shall, at its expense, no more than two (2) times in any twelve (12) month period, but at any time or times as Lender may request on or after an Event of Default, deliver or cause to be delivered to Lender written appraisals as to the Inventory in form, scope and methodology acceptable to Lender and by an appraiser acceptable to Lender, addressed to Lender and upon which Lender is expressly permitted to rely; (e) Borrower shall produce, use, store and maintain the Inventory with all reasonable care and caution and in accordance with applicable standards of any insurance and in conformity with applicable laws (including the requirements of the Federal Fair Labor Standards Act of 1938, as amended and all rules, regulations and orders related thereto); (f) none of the Inventory or other Collateral constitutes farm products or the proceeds thereof; (g) Borrower assumes all responsibility and liability arising from or relating to the production, use, sale or other disposition of the Inventory; (h) Borrower shall not sell Inventory to any customer on approval, or any other basis which entitles the customer to return or may obligate Borrower to repurchase such Inventory other than in the ordinary course of business; (i) Borrower shall keep the Inventory in good and marketable condition; and (j) Borrower shall not, without prior written notice to Lender or the specific identification of such Inventory other than in the ordinary course of business with respect thereto provided by Borrower to Lender pursuant to Section 7.1(a) hereof, acquire or accept any Inventory on consignment or approval. 7.4 Equipment and Real Property Covenants. With respect to the Equipment and Real Property: (a) Borrower shall, at its expense, at any time or times as Lender may request on or after an Event of Default, deliver or cause to be delivered to Lender written appraisals as to the Equipment and/or the Real Property in form, scope and methodology acceptable to Lender and by an appraiser acceptable to Lender, addressed to Lender and upon which Lender is expressly permitted to rely; (b) Borrower shall keep the Equipment in good order, repair, running and marketable condition (ordinary wear and tear excepted); (c) Borrower shall use the Equipment and Real Property with all reasonable care and caution and in accordance with applicable standards of any insurance and in conformity with all applicable laws; (d) the Equipment is and shall be used in Borrower's business and not for personal, family, household or farming use; (e) Borrower shall not remove any Equipment from the locations set forth or permitted herein, except to the extent necessary to have any Equipment repaired or maintained in the ordinary course of the business of Borrower or to move Equipment directly from one -46- location set forth or permitted herein to another such location and except for the movement of motor vehicles used by or for the benefit of Borrower in the ordinary course of business; (f) the Equipment is now and shall remain personal property and Borrower shall not permit any of the Equipment to be or become a part of or affixed to real property; and (g) Borrower assumes all responsibility and liability arising from the use of the Equipment and Real Property. 7.5 Power of Attorney. Borrower hereby irrevocably designates and appoints Lender (and all persons designated by Lender) as Borrower's true and lawful attorney-in-fact, and authorizes Lender, in Borrower's or Lender's name, to: (a) at any time an Event of Default exists or has occurred and is continuing (i) demand payment on Receivables or other Collateral, (ii) enforce payment of Receivables by legal proceedings or otherwise, (iii) exercise all of Borrower's rights and remedies to collect any Receivable or other Collateral, (iv) sell or assign any Receivable upon such terms, for such amount and at such time or times as the Lender deems advisable, (v) settle, adjust, compromise, extend or renew an Account, (vi) discharge and release any Receivable, (vii) prepare, file and sign Borrower's name on any proof of claim in bankruptcy or other similar document against an account debtor or other obligor in respect of any Receivables or other Collateral, (viii) notify the post office authorities to change the address for delivery of remittances from account debtors or other obligors in respect of Receivables or other proceeds of Collateral to an address designated by Lender, and open and dispose of all mail addressed to Borrower and handle and store all mail relating to the Collateral; and (ix) do all acts and things which are necessary, in Lender's determination, to fulfill Borrower's obligations under this Agreement and the other Financing Agreements and (b) at any time to (i) take control in any manner of any item of payment in respect of Receivables or constituting Collateral or otherwise received in or for deposit in the Blocked Accounts or otherwise received by Lender, (ii) have access to any lockbox or postal box into which remittances from account debtors or other obligors in respect of Receivables or other proceeds of Collateral are sent or received, (iii) endorse Borrower's name upon any items of payment in respect of Receivables or constituting Collateral or otherwise received by Lender and deposit the same in Lender's account for application to the Obligations, (iv) endorse Borrower's name upon any chattel paper, document, instrument, invoice, or similar document or agreement relating to any Receivable or any goods pertaining thereto or any other Collateral, including any warehouse or other receipts, or bills of lading and other negotiable or non-negotiable documents, (v) clear Inventory the purchase of which was financed with Letter of Credit Accommodations through U.S. Customs or foreign export control authorities in Borrower's name, Lender's name or the name of Lender's designee, and to sign and deliver to customs officials powers of attorney in Borrower's name for such purpose, and to complete in Borrower's or Lender's name, any order, sale or transaction, obtain the necessary documents in connection therewith and collect the proceeds thereof, (vi) sign Borrower's name on any verification of Receivables and notices thereof to account debtors or any -47- secondary obligors or other obligors in respect thereof. Borrower hereby releases Lender and its officers, employees and designees from any liabilities arising from any act or acts under this power of attorney and in furtherance thereof, whether of omission or commission, except as a result of Lender's own gross negligence or wilful misconduct as determined pursuant to a final non-appealable order of a court of competent jurisdiction. 7.6 Right to Cure. Lender may, at its option, (a) upon notice to Borrower, cure any default by Borrower under any material agreement with a third party that affects the Collateral, its value or the ability of Lender to collect, sell or otherwise dispose of the Collateral or the rights and remedies of Lender therein or the ability of Borrower to perform its obligations hereunder or under the other Financing Agreements, (b) pay or bond on appeal any judgment entered against Borrower, (c) discharge taxes, liens, security interests or other encumbrances at any time levied on or existing with respect to the Collateral and (d) pay any amount, incur any expense or perform any act which, in Lender's judgment, is necessary or appropriate to preserve, protect, insure or maintain the Collateral and the rights of Lender with respect thereto. Lender may add any amounts so expended to the Obligations and charge Borrower's account therefor, such amounts to be repayable by Borrower on demand. Lender shall be under no obligation to effect such cure, payment or bonding and shall not, by doing so, be deemed to have assumed any obligation or liability of Borrower. Any payment made or other action taken by Lender under this Section shall be without prejudice to any right to assert an Event of Default hereunder and to proceed accordingly. 7.7 Access to Premises.From time to time as requested by Lender, at the cost and expense of Borrower, (a) Lender or its designee shall have complete access to all of Borrower's premises during normal business hours and after twenty-four (24) hour notice to Borrower, or at any time and without notice to Borrower if an Event of Default exists or has occurred and is continuing, for the purposes of inspecting, verifying and auditing the Collateral and all of Borrower's books and records, including the Records, and (b) Borrower shall promptly furnish to Lender such copies of such books and records or extracts therefrom as Lender may request, and (c) Lender or its designee may use during normal business hours such of Borrower's personnel, equipment, supplies and premises as may be reasonably necessary for the foregoing and if an Event of Default exists or has occurred and is continuing for the collection of Receivables and realization of other Collateral. SECTION 8. REPRESENTATIONS AND WARRANTIES Borrower hereby represents and warrants to Lender the following (which shall survive the execution and delivery of this Agreement), the truth and accuracy of which are a continuing condition of the making of Loans and providing Letter of Credit Accommodations by Lender to Borrower: -48- 8.1 Corporate Existence; Power and Authority. Borrower is a corporation duly organized and in good standing under the laws of its state of incorporation and is duly qualified as a foreign corporation and in good standing in all states or other jurisdictions where the nature and extent of the business transacted by it or the ownership of assets makes such qualification necessary, except for those jurisdictions in which the failure to so qualify would not have a material adverse effect on Borrower's financial condition, results of operation or business or the rights of Lender in or to any of the Collateral. The execution, delivery and performance of this Agreement, the other Financing Agreements and the transactions contemplated hereunder and thereunder (a) are all within Borrower's corporate powers, (b) have been duly authorized, (c) are not in contravention of law or the terms of Borrower's certificate of incorporation, by-laws, or other organizational documentation, or any indenture, agreement or undertaking to which Borrower is a party or by which Borrower or its property are bound and (d) will not result in the creation or imposition of, or require or give rise to any obligation to grant, any lien, security interest, charge or other encumbrance upon any property of Borrower. This Agreement and the other Financing Agreements constitute legal, valid and binding obligations of Borrower enforceable in accordance with their respective terms. 8.2 Name; State of Organization; Chief Executive Office; Collateral Locations. (a) The exact legal name of Borrower is as set forth on the signature page of this Agreement and in the Information Certificate. Borrower has not, during the five years immediately prior to the date of this Agreement, except as set forth in the Information Certificate, been known by or used any other corporate or fictitious name or been a party to any merger or consolidation, or acquired all or substantially all of the assets of any Person, or acquired any of its property or assets out of the ordinary course of business, except as set forth in the Information Certificate. (b) Borrower is an organization of the type and organized in the jurisdiction set forth in the Information Certificate. The Information Certificate accurately sets forth the organizational identification number of Borrower or accurately states that Borrower has none and accurately sets forth the federal employer identification number of Borrower. (c) The chief executive office and mailing address of Borrower and Borrower's Records concerning Accounts are located only at the address identified as such in Schedule 8.2 to the Information Certificate and its only other places of business and the only other locations of Collateral, if any, are the addresses set forth in Schedule 8.2 to the Information Certificate, subject to the right of Borrower to establish new locations in accordance with Section 9.2 below. The Information -49- Certificate correctly identifies any of such locations which are not owned by Borrower and sets forth the owners and/or operators thereof. 8.3 Financial Statements; No Material Adverse Change. All financial statements relating to Borrower which have been or may hereafter be delivered by Borrower to Lender have been prepared in accordance with GAAP (except as to any interim financial statements, to the extent such statements are subject to normal year-end adjustments and do not include any notes) and fairly present the financial condition and the results of operation of Borrower as at the dates and for the periods set forth therein. Except as disclosed in any interim financial statements furnished by Borrower to Lender prior to the date of this Agreement, there has been no material adverse change in the assets, liabilities, properties and condition, financial or otherwise, of Borrower, since the date of the most recent audited financial statements furnished by Borrower to Lender prior to the date of this Agreement. 8.4 Priority of Liens; Title to Properties. The security interests and liens granted to Lender under this Agreement and the other Financing Agreements constitute valid and perfected first priority liens and security interests in and upon the Collateral subject only to the liens indicated on Schedule 8.4 to the Information Certificate and the other liens permitted under Section 9.8 hereof. Borrower has good and marketable fee simple title to or valid leasehold interests in all of its Real Property and good, valid and merchantable title to all of its other properties and assets subject to no liens, mortgages, pledges, security interests, encumbrances or charges of any kind, except those granted to Lender and such others as are specifically listed on Schedule 8.4 to the Information Certificate or permitted under Section 9.8 hereof. 8.5 Tax Returns. Borrower has filed, or caused to be filed, in a timely manner all tax returns, reports and declarations which are required to be filed by it. All information in such tax returns, reports and declarations is complete and accurate in all material respects. Borrower has paid or caused to be paid all taxes due and payable or claimed due and payable in any assessment received by it, except taxes the validity of which are being contested in good faith by appropriate proceedings diligently pursued and available to Borrower and with respect to which adequate reserves have been set aside on its books. Adequate provision has been made for the payment of all accrued and unpaid Federal, State, county, local, foreign and other taxes whether or not yet due and payable and whether or not disputed. 8.6 Litigation. Except as set forth in Schedule 8.6 to the Information Certificate, there is no present investigation by any Governmental Authority pending, or to the best of Borrower's knowledge threatened, against or affecting Borrower, its assets or business and there is no action, suit, proceeding or claim by any Person pending, or to the best of Borrower's knowledge threatened, against -50- Borrower or its assets or goodwill, or against or affecting any transactions contemplated by this Agreement, which if adversely determined against Borrower would result in any material adverse change in the assets, business or prospects of Borrower or would impair the ability of Borrower to perform its obligations hereunder or under any of the other Financing Agreements to which it is a party or of Lender to enforce any Obligations or realize upon any Collateral. 8.7 Compliance with Other Agreements and Applicable Laws. Borrower is not in default in any material respect under, or in violation in any material respect of any of the terms of, any agreement, contract, instrument, lease or other commitment to which it is a party or by which it or any of its assets are bound and Borrower is in compliance in all material respects with all applicable provisions of laws, rules, regulations, licenses, permits, approvals and orders of any foreign, Federal, State or local Governmental Authority. 8.8 Environmental Compliance. (a) Except as set forth on Schedule 8.8 to the Information Certificate, Borrower and any Subsidiary have not generated, used, stored, treated, transported, manufactured, handled, produced or disposed of any Hazardous Materials, on or off its premises (whether or not owned by it) in any manner which at any time violates any applicable Environmental Law or any license, permit, certificate, approval or similar authorization thereunder and the operations of Borrower and any Subsidiary complies in all material respects with all Environmental Laws and all licenses, permits, certificates, approvals and similar authorizations thereunder. (b) Except as set forth on Schedule 8.8 to the Information Certificate, there has been no investigation, proceeding, complaint, order, directive, claim, citation or notice by any Governmental Authority or any other person nor is any pending or to the best of Borrower's knowledge threatened, with respect to any non-compliance with or violation of the requirements of any Environmental Law by Borrower and any Subsidiary or the release, spill or discharge, threatened or actual, of any Hazardous Material or the generation, use, storage, treatment, transportation, manufacture, handling, production or disposal of any Hazardous Materials or any other environmental, health or safety matter, which affects Borrower or its business, operations or assets or any properties at which Borrower has transported, stored or disposed of any Hazardous Materials. (c) Borrower and its Subsidiaries have no material liability (contingent or otherwise) in connection with a release, spill or discharge, threatened or actual, of any Hazardous Materials or the generation, use, storage, treatment, transportation, manufacture, handling, production or disposal of any Hazardous Materials. -51- (d) Borrower and its Subsidiaries have all licenses, permits, certificates, approvals or similar authorizations required to be obtained or filed in connection with the operations of Borrower under any Environmental Law and all of such licenses, permits, certificates, approvals or similar authorizations are valid and in full force and effect. 8.9 Employee Benefits. (a) Each Plan is in compliance with the applicable provisions of ERISA, the Code and other federal or state law. Each Plan which is intended to qualify under Section 401(a) of the Code has received a favorable determination letter from the Internal Revenue Service and to the best of Borrower's knowledge, nothing has occurred which would cause the loss of such qualification. Borrower and its ERISA Affiliates have made all required contributions to any Plan subject to Section 412 of the Code, and no application for a funding waiver or an extension of any amortization period pursuant to Section 412 of the Code has been made with respect to any Plan. (b) There are no pending or to the best of Borrower's knowledge, threatened claims, actions or lawsuits, or action by any Governmental Authority, with respect to any Plan. There has been no prohibited transaction or violation of the fiduciary responsibility rules with respect to any Plan. (c) (i) No ERISA Event has occurred or is reasonably expected to occur; (ii) the current value of each Plan's assets (determined in accordance with the assumptions used for funding such Plan pursuant to Section 412 of the Code) are not less than such Plan's liabilities under Section 4001(a)(16) of ERISA; (iii) Borrower and its ERISA Affiliates have not incurred and do not reasonably expect to incur, any liability under Title IV of ERISA with respect to any Plan (other than premiums due and not delinquent under Section 4007 of ERISA); (iv) Borrower and its ERISA Affiliates have not incurred and do not reasonably expect to incur, any liability (and no event has occurred which, with the giving of notice under Section 4219 of ERISA, would result in such liability) under Section 4201 or 4243 of ERISA with respect to a Multiemployer Plan; and (v) Borrower and its ERISA Affiliates have not engaged in a transaction that could be subject to Section 4069 or 4212(c) of ERISA. 8.10 Bank Accounts. All of the deposit accounts, investment accounts or other accounts in the name of or used by Borrower maintained at any bank or other financial institution are set forth in Schedule 8.10 to the Information Certificate, subject to the right of Borrower to establish new accounts in accordance with Section 5.2 hereof. 8.11 Intellectual Property. Borrower owns or licenses or otherwise has the right to use all Intellectual Property necessary for the operation of its business as -52- presently conducted or proposed to be conducted. As of the date hereof, Borrower does not have any Intellectual Property registered, or subject to pending applications, in the United States Patent and Trademark Office or any similar office or agency in the United States, any State thereof, any political subdivision thereof or in any other country, other than those described in Schedule 8.11 to the Information Certificate hereto and has not granted any licenses with respect thereto other than as set forth in Schedule 8.11 to the Information Certificate. No event has occurred which permits or would permit after notice or passage of time or both, the revocation, suspension or termination of such rights. To the best of Borrower's knowledge, no slogan or other advertising device, product, process, method, substance or other Intellectual Property or goods bearing or using any Intellectual Property presently contemplated to be sold by or employed by Borrower infringes any patent, trademark, servicemark, tradename, copyright, license or other Intellectual Property owned by any other Person presently and no claim or litigation is pending or threatened against or affecting Borrower contesting its right to sell or use any such Intellectual Property. Schedule 8.11 to the Information Certificate sets forth all of the agreements or other arrangements of Borrower pursuant to which Borrower has a license or other right to use any trademarks, logos, designs, representations or other Intellectual Property owned by another person as in effect on the date hereof and the dates of the expiration of such agreements or other arrangements of Borrower as in effect on the date hereof (collectively, together with such agreements or other arrangements as may be entered into by Borrower after the date hereof, collectively, the "License Agreements" and individually, a "License Agreement"). No trademark, servicemark or other Intellectual Property at any time used by Borrower which is owned by another person, or owned by Borrower subject to any security interest, lien, collateral assignment, pledge or other encumbrance in favor of any person other than Lender, is affixed to any Eligible Inventory, except to the extent permitted under the term of the License Agreements listed on Schedule 8.11 to the Information Certificate. 8.12 Subsidiaries; Affiliates; Capitalization; Solvency. (a) Borrower does not have any direct or indirect Subsidiaries or Affiliates and is not engaged in any joint venture or partnership except as set forth in Schedule 8.12 to the Information Certificate, subject to the right of Borrower to form or acquire Subsidiaries in accordance with Section 9.10 hereof. (b) Borrower is the record and beneficial owner of all of the issued and outstanding shares of Capital Stock of each of the Subsidiaries listed on Schedule 8.12 to the Information Certificate as being owned by Borrower and there are no proxies, irrevocable or otherwise, with respect to such shares and no equity securities of any of the Subsidiaries are or may become required to be issued by reason of any options, warrants, rights to subscribe to, calls or commitments of any -53- kind or nature and there are no contracts, commitments, understandings or arrangements by which any Subsidiary is or may become bound to issue additional shares of it Capital Stock or securities convertible into or exchangeable for such shares. (c) A majority of the issued and outstanding shares of Capital Stock of Borrower are directly and beneficially owned and held by the Permitted Holders indicated in the Information Certificate, and in each case all of such shares have been duly authorized and are fully paid and non-assessable, free and clear of all claims, liens, pledges and encumbrances of any kind, except as disclosed in writing to Lender prior to the date hereof. (d) Borrower is Solvent and will continue to be Solvent after the creation of the Obligations, the security interests of Lender and the other transaction contemplated hereunder. 8.13 Labor Disputes. (a) Set forth on Schedule 8.13 to the Information Certificate is a list (including dates of termination) of all collective bargaining or similar agreements between or applicable to Borrower and any union, labor organization or other bargaining agent in respect of the employees of Borrower on the date hereof. (b) There is (i) no significant unfair labor practice complaint pending against Borrower or, to the best of Borrower's knowledge, threatened against it, before the National Labor Relations Board, and no significant grievance or significant arbitration proceeding arising out of or under any collective bargaining agreement is pending on the date hereof against Borrower or, to best of Borrower's knowledge, threatened against it, and (ii) no significant strike, labor dispute, slowdown or stoppage is pending against Borrower or, to the best of Borrower's knowledge, threatened against Borrower. 8.14 Restrictions on Subsidiaries. Except for restrictions contained in this Agreement or any other agreement with respect to Indebtedness of Borrower permitted hereunder as in effect on the date hereof, there are no contractual or consensual restrictions on Borrower or any of its Subsidiaries which prohibit or otherwise restrict (a) the transfer of cash or other assets (i) between Borrower and any of its Subsidiaries or (ii) between any Subsidiaries of Borrower or (b) the ability of Borrower or any of its Subsidiaries to incur Indebtedness or grant security interests to Lender in the Collateral. 8.15 Material Contracts. Schedule 8.15 to the Information Certificate sets forth all Material Contracts to which Borrower is a party or is bound as of the date hereof. Borrower has delivered true, correct and complete copies of such Material Contracts to Lender on or before the date hereof. Borrower is not in breach of or in -54- default under any Material Contract and has not received any notice of the intention of any other party thereto to terminate any Material Contract. 8.16 Payable Practices. Borrower has not made any material change in the historical accounts payable practices from those in effect immediately prior to the date hereof. 8.17 Accuracy and Completeness of Information. All information furnished by or on behalf of Borrower in writing to Lender in connection with this Agreement or any of the other Financing Agreements or any transaction contemplated hereby or thereby, including all information on the Information Certificate is true and correct in all material respects on the date as of which such information is dated or certified and does not omit any material fact necessary in order to make such information not misleading. No event or circumstance has occurred which has had or could reasonably be expected to have a material adverse affect on the business, assets or prospects of Borrower, which has not been fully and accurately disclosed to Lender in writing prior to the date hereof. 8.18 Survival of Warranties; Cumulative. All representations and warranties contained in this Agreement or any of the other Financing Agreements shall survive the execution and delivery of this Agreement and shall be deemed to have been made again to Lender on the date of each additional borrowing or other credit accommodation hereunder and shall be conclusively presumed to have been relied on by Lender regardless of any investigation made or information possessed by Lender. The representations and warranties set forth herein shall be cumulative and in addition to any other representations or warranties which Borrower shall now or hereafter give, or cause to be given, to Lender. SECTION 9. AFFIRMATIVE AND NEGATIVE COVENANTS 9.1 Maintenance of Existence. (a) Borrower shall at all times preserve, renew and keep in full force and effect its corporate existence and rights and franchises with respect thereto and maintain in full force and effect all permits, licenses, trademarks, tradenames, approvals, authorizations, leases and contracts necessary to carry on the business as presently or proposed to be conducted. (b) Borrower shall not change its name unless each of the following conditions is satisfied: (i) Lender shall have received not less than thirty (30) days prior written notice from Borrower of such proposed change in its corporate name, which notice shall accurately set forth the new name; and (ii) Lender shall have received a copy of the amendment to the Certificate of Incorporation of Borrower providing for the name change certified by the Secretary of State of the jurisdiction of incorporation or organization of Borrower as soon as it is available. -55- (c) Borrower shall not change its chief executive office or its mailing address or organizational identification number (or if it does not have one, shall not acquire one) unless Lender shall have received not less than thirty (30) days' prior written notice from Borrower of such proposed change, which notice shall set forth such information with respect thereto as Lender may require and Lender shall have received such agreements as Lender may reasonably require in connection therewith. Borrower shall not change its type of organization, jurisdiction of organization or other legal structure. 9.2 New Collateral Locations. Borrower may only establish new locations of its business or Collateral so long as such new location is within the United States of America and Borrower (a) gives Lender thirty (30) days prior written notice from Borrower of the intended opening of any such new location and (b) executes and delivers, or causes to be executed and delivered, to Lender such agreements, documents, and instruments as Lender may deem necessary or desirable to protect its interests in the Collateral at such location. 9.3 Compliance with Laws, Regulations, Etc. (a) Borrower shall, and shall cause any Subsidiary to, at all times, comply in all material respects with all laws, rules, regulations, licenses, permits, approvals and orders applicable to it and duly observe all requirements of any foreign, Federal, State or local Governmental Authority. (b) Borrower shall give written notice to Lender immediately upon Borrower's receipt of any notice of, or Borrower's otherwise obtaining knowledge of, (i) the occurrence of any event involving the release, spill or discharge, threatened or actual, of any Hazardous Material or (ii) any investigation, proceeding, complaint, order, directive, claims, citation or notice with respect to: (A) any non-compliance with or violation of any applicable Environmental Law by Borrower or (B) the release, spill or discharge, threatened or actual, of any Hazardous Material other than in the ordinary course of business and other than as permitted under any applicable Environmental Law. Copies of all environmental surveys, audits, assessments, feasibility studies and results of remedial investigations shall be promptly furnished, or caused to be furnished, by Borrower to Lender. Borrower shall take prompt and appropriate action to respond to any non-compliance with any of the Environmental Laws and shall regularly report to Lender on such response. (c) Without limiting the generality of the foregoing, whenever Lender reasonably determines that there is non-compliance, or any condition which requires any action by or on behalf of Borrower in order to avoid any material non-compliance, with any Environmental Law, Borrower shall, at Lender's request and Borrower's expense: (i) cause an independent environmental engineer acceptable to Lender to conduct such tests of the site where Borrower's non- -56- compliance or alleged non-compliance with such Environmental Laws has occurred as to such non-compliance and prepare and deliver to Lender a report as to such non-compliance setting forth the results of such tests, a proposed plan for responding to any environmental problems described therein, and an estimate of the costs thereof and (ii) provide to Lender a supplemental report of such engineer whenever the scope of such non-compliance, or Borrower's response thereto or the estimated costs thereof, shall change in any material respect. (d) Borrower shall indemnify and hold harmless Lender, its directors, officers, employees, agents, invitees, representatives, successors and assigns, from and against any and all losses, claims, damages, liabilities, costs, and expenses (including attorneys' fees and legal expenses) directly or indirectly arising out of or attributable to the use, generation, manufacture, reproduction, storage, release, threatened release, spill, discharge, disposal or presence of a Hazardous Material, including the costs of any required or necessary repair, cleanup or other remedial work with respect to any property of Borrower and the preparation and implementation of any closure, remedial or other required plans. All representations, warranties, covenants and indemnifications in this Section 9.3 shall survive the payment of the Obligations and the termination or non-renewal of this Agreement. 9.4 Payment of Taxes and Claims. Borrower shall, and shall cause any Subsidiary to, duly pay and discharge all taxes, assessments, contributions and governmental charges upon or against it or its properties or assets, except for taxes the validity of which are being contested in good faith by appropriate proceedings diligently pursued and available to Borrower or such Subsidiary, as the case may be, and with respect to which adequate reserves have been set aside on its books. Borrower shall be liable for any tax or penalties imposed on Lender as a result of the financing arrangements provided for herein and Borrower agrees to indemnify and hold Lender harmless with respect to the foregoing, and to repay to Lender on demand the amount thereof, and until paid by Borrower such amount shall be added and deemed part of the Loans, provided, that, nothing contained herein shall be construed to require Borrower to pay any income or franchise taxes attributable to the income of Lender from any amounts charged or paid hereunder to Lender. The foregoing indemnity shall survive the payment of the Obligations and the termination or non-renewal of this Agreement. 9.5 Insurance. Borrower shall, and shall cause any Subsidiary to, at all times, maintain with financially sound and reputable insurers insurance with respect to the Collateral against loss or damage and all other insurance of the kinds and in the amounts customarily insured against or carried by corporations of established reputation engaged in the same or similar businesses and similarly situated. Said policies of insurance shall be satisfactory to Lender as to form, amount and insurer. Borrower shall furnish certificates, policies or endorsements -57- to Lender as Lender shall require as proof of such insurance, and, if Borrower fails to do so, Lender is authorized, but not required, to obtain such insurance at the expense of Borrower. All policies shall provide for at least thirty (30) days prior written notice to Lender of any cancellation or reduction of coverage and that Lender may act as attorney for Borrower in obtaining, and at any time an Event of Default exists or has occurred and is continuing, adjusting, settling, amending and canceling such insurance. Borrower shall cause Lender to be named as a loss payee and an additional insured (but without any liability for any premiums) under such insurance policies and Borrower shall obtain non-contributory lender's loss payable endorsements to all insurance policies in form and substance satisfactory to Lender. Such lender's loss payable endorsements shall specify that the proceeds of such insurance shall be payable to Lender as its interests may appear and further specify that Lender shall be paid regardless of any act or omission by Borrower or any of its Affiliates. At its option, Lender may apply any insurance proceeds received by Lender at any time to the cost of repairs or replacement of Collateral and/or to payment of the Obligations, whether or not then due, in any order and in such manner as Lender may determine or hold such proceeds as cash collateral for the Obligations. 9.6 Financial Statements and Other Information. (a) Borrower shall, and shall cause any Subsidiary to, keep proper books and records in which true and complete entries shall be made of all dealings or transactions of or in relation to the Collateral and the business of Borrower and its Subsidiaries in accordance with GAAP. Borrower shall promptly furnish to Lender all such financial and other information as Lender shall reasonably request relating to the Collateral and the assets, business and operations of Borrower, and shall notify the auditors and accountants of Borrower that Lender is authorized to obtain such information directly from them. Without limiting the foregoing, Borrower shall furnish or cause to be furnished to Lender, the following: (i) within twenty-five (25) days after the end of each fiscal month, monthly unaudited consolidated financial statements and unaudited consolidating financial statements (including in each case balance sheets, statements of income and loss, statements of cash flow, and statements of shareholders' equity), all in reasonable detail, fairly presenting the financial position and the results of the operations of Borrower as of the end of and through such fiscal month, certified to be correct by the chief financial officer of Borrower, subject to normal year-end adjustments and accompanied by a Compliance Certificate substantially in the form of Exhibit B hereto, along with a schedule in form reasonably satisfactory to Lender of the calculations used in determining, as of the end of such month, whether Borrower was in compliance with the covenants set forth in Section 9.17 of this Agreement for such month, (ii) within forty-five (45) days after the end of each fiscal quarter, quarterly unaudited consolidated financial statements and unaudited consolidating financial statements (including in each case balance sheets, statements of income -58- and loss, statements of cash flow, and statements of shareholders' equity), all in reasonable detail, fairly presenting the financial position and the results of the operations of Borrower as of the end of and through such fiscal quarter, certified to be correct by the chief financial officer of Borrower, subject to normal year-end adjustments and accompanied by a Compliance Certificate substantially in the form of Exhibit B hereto, along with a schedule in form reasonably satisfactory to Lender of the calculations used in determining, as of the end of such quarter, whether Borrower was in compliance with the covenant set forth in Sections 9.17 and 9.18 of this Agreement for such quarter and (iii) within ninety (90) days after the end of each fiscal year, audited consolidated financial statements and unaudited consolidating financial statements of Borrower (including in each case balance sheets, statements of income and loss, statements of cash flow and statements of shareholders' equity), and the accompanying notes thereto, all in reasonable detail, fairly presenting the financial position and the results of the operations of Borrower as of the end of and for such fiscal year, together with the unqualified opinion of independent certified public accountants, which accountants shall be an independent accounting firm selected by Borrower and reasonably acceptable to Lender, that such financial statements have been prepared in accordance with GAAP, and present fairly the results of operations and financial condition of Borrower as of the end of and for the fiscal year then ended. (b) Borrower shall promptly notify Lender in writing of the details of (i) any loss, damage, investigation, action, suit, proceeding or claim relating to the Collateral or any other property which is security for the Obligations or which would result in any material adverse change in Borrower's business, properties, assets, goodwill or condition, financial or otherwise, (ii) any Material Contract of Borrower being terminated or amended or any new Material Contract entered into (in which event Borrower shall provide Lender with a copy of such Material Contract), (iii) any order, judgment or decree in excess of $100,000 shall have been entered against Borrower or any of its properties or assets, (iv) any notification of violation of laws or regulations received by Borrower, (v) any ERISA Event, and (vi) the occurrence of any Default or Event of Default. (c) Borrower shall promptly after the sending or filing thereof furnish or cause to be furnished to Lender copies of all reports which Borrower sends to its stockholders generally and copies of all reports and registration statements which Borrower files with the Securities and Exchange Commission, any national securities exchange or the National Association of Securities Dealers, Inc. (d) Borrower shall furnish or cause to be furnished to Lender such budgets, forecasts, projections and other information respecting the Collateral and the business of Borrower, as Lender may, from time to time, reasonably request. Lender is hereby authorized to deliver a copy of any financial statement or any -59- other information relating to Borrower to any court or other Governmental Authority, to any Affiliate of Lender or to any participant or assignee or prospective participant or assignee. Borrower hereby irrevocably authorizes and directs all accountants or auditors to deliver to Lender, at Borrower's expense, copies of the financial statements of Borrower and any reports or management letters prepared by such accountants or auditors on behalf of Borrower and to disclose to Lender such information as they may have regarding the business of Borrower. Any documents, schedules, invoices or other papers delivered to Lender may be destroyed or otherwise disposed of by Lender one (1) year after the same are delivered to Lender, except as otherwise designated by Borrower to Lender in writing. 9.7 Sale of Assets, Consolidation, Merger, Dissolution, Etc. Borrower shall not, and shall not permit any Subsidiary to (and Lender does not authorize Borrower to), directly or indirectly, (a) merge into or with or consolidate with any other Person or permit any other Person to merge into or with or consolidate with it; or (b) sell, issue, assign, lease, license, transfer, abandon or otherwise dispose of any Capital Stock or Indebtedness to any other Person or any of its assets to any other Person, except for (i) sales of Inventory in the ordinary course of business, (ii) the disposition of worn-out or obsolete Equipment so long as (A) any proceeds are paid to Lender and (B) such sales do not involve Equipment having an aggregate fair market value in excess of $250,000 for all such Equipment disposed of in any fiscal year of Borrower and (iii) the issuance and sale by Borrower of Capital Stock of Borrower after the date hereof; provided, that, (A) Lender shall have received not less than ten (10) Business Days prior written notice of such issuance and sale by Borrower, which notice shall specify the parties to whom such shares are to be sold, the terms of such sale, the total amount which it is anticipated will be realized from the issuance and sale of such stock and the net cash proceeds which it is anticipated will be received by Borrower from such sale, (B) Borrower shall not be required to pay any cash dividends or repurchase or redeem such Capital Stock or make any other payments in respect thereof, (C) the terms of such Capital Stock, and the terms and conditions of the purchase and sale thereof, shall not include any terms that include any limitation on the right of Borrower to request or receive Loans or Letter of Credit Accommodations or the right of Borrower to amend or modify any of the terms and conditions of this Agreement or any of the other Financing Agreements or otherwise in any way relate to or affect the arrangements of Borrower with Lender or are more restrictive or burdensome to Borrower than the terms of any Capital Stock in effect on the date hereof, (D) except as Lender may otherwise agree in writing, all of the proceeds from such sale and issuance shall be paid to Lender for application to the Obligations in such order and manner as Lender may determine, and (E) as of the date of such issuance and sale -60- and after giving effect thereto, no Default or Event of Default shall exist or have occurred; (c) wind up, liquidate or dissolve; or (d) agree to do any of the foregoing. 9.8 Encumbrances. Borrower shall not, and shall not permit any Subsidiary to, create, incur, assume, suffer or permit to exist any security interest, mortgage, pledge, lien, charge or other encumbrance of any nature whatsoever on any of its assets or properties, including the Collateral, or file or permit the filing of, or permit to remain in effect, any financing statement or other similar notice of any security interest or lien with respect to any such assets or properties, except: (a) the security interests and liens of Lender; (b) liens securing the payment of taxes, either not yet overdue or the validity of which are being contested in good faith by appropriate proceedings diligently pursued and available to Borrower or such Subsidiary, as the case may be and with respect to which adequate reserves have been set aside on its books; (c) non-consensual statutory liens (other than liens securing the payment of taxes) arising in the ordinary course of Borrower's or such Subsidiary's business to the extent: (i) such liens secure Indebtedness which is not overdue or (ii) such liens secure Indebtedness relating to claims or liabilities which are fully insured and being defended at the sole cost and expense and at the sole risk of the insurer or being contested in good faith by appropriate proceedings diligently pursued and available to Borrower or such Subsidiary, in each case prior to the commencement of foreclosure or other similar proceedings and with respect to which adequate reserves have been set aside on its books; (d) zoning restrictions, easements, licenses, covenants and other restrictions affecting the use of Real Property which do not interfere in any material respect with the use of such Real Property or ordinary conduct of the business of Borrower or such Subsidiary as presently conducted thereon or materially impair the value of the Real Property which may be subject thereto; (e) purchase money security interests in Equipment (including Capital Leases) and purchase money mortgages on Real Property to secure Indebtedness permitted under Section 9.9(b) hereof; and (f) the security interests and liens set forth on Schedule 8.4 to the Information Certificate. 9.9 Indebtedness. Borrower shall not, and shall not permit any Subsidiary to, incur, create, assume, become or be liable in any manner with respect to, suffer or permit to exist, any Indebtedness or guarantee, assume, endorse, or otherwise become responsible for (directly or indirectly) the performance, dividends or other obligations of any Person, except: (a) the Obligations; (b) purchase money Indebtedness (including Capital Leases) arising after the date hereof to the extent secured by purchase money security interests in -61- Equipment (including Capital Leases) and purchase money mortgages on Real Property not to exceed $300,000 in the aggregate at any time outstanding so long as such security interests and mortgages do not apply to any property of Borrower or any Subsidiary other than the Equipment or Real Property so acquired, and the Indebtedness secured thereby does not exceed the cost of the Equipment or Real Property so acquired, as the case may be; (c) guarantees by any Subsidiaries of Borrower of the Obligations in favor of Lender; (d) Indebtedness of Borrower under interest swap agreements, interest rate cap agreements, interest rate collar agreements, interest rate exchange agreements and similar contractual agreements entered into for the purpose of protecting a Person against fluctuations in interest rates; provided, that, such arrangements are with banks or other financial institutions that have combined capital and unimpaired surplus of not less than $1,000,000,000 and are not for speculative purposes and such Indebtedness shall be unsecured; (e) the Indebtedness set forth on Schedule 9.9 to the Information Certificate; provided, that, (i) Borrower may only make regularly scheduled payments of principal and interest in respect of such Indebtedness in accordance with the terms of the agreement or instrument evidencing or giving rise to such Indebtedness as in effect on the date hereof, (ii) Borrower shall not, directly or indirectly, (A) amend, modify, alter or change the terms of such Indebtedness or any agreement, document or instrument related thereto as in effect on the date hereof except, that, Borrower may, after prior written notice to Lender, amend, modify, alter or change the terms thereof so as to extend the maturity thereof, or defer the timing of any payments in respect thereof, or to forgive or cancel any portion of such Indebtedness (other than pursuant to payments thereof), or to reduce the interest rate or any fees in connection therewith, or (B) redeem, retire, defease, purchase or otherwise acquire such Indebtedness, or set aside or otherwise deposit or invest any sums for such purpose, and (iii) Borrower shall furnish to Lender all notices or demands in connection with such Indebtedness either received by Borrower or on its behalf, promptly after the receipt thereof, or sent by Borrower or on its behalf, concurrently with the sending thereof, as the case may be. 9.10 Loans, Investments, Etc. Borrower shall not, and shall not permit any Subsidiary to, directly or indirectly, make, or suffer or permit to exist, any loans or advance money or property to any person, or any investment in (by capital contribution, dividend or otherwise) or purchase or repurchase the Capital Stock or Indebtedness or all or a substantial part of the assets or property of any person, or form or acquire any Subsidiaries, or agree to do any of the foregoing, except: (a) the endorsement of instruments for collection or deposit in the ordinary course of business; -62- (b) investments in cash or Cash Equivalents, provided, that, (i) no Revolving Loans are then outstanding and (ii) the terms and conditions of Section 5.2 hereof shall have been satisfied with respect to the deposit account or investment account in which such cash or Cash Equivalents are held; (c) the existing equity investments of Borrower as of the date hereof in its Subsidiaries, provided, that, Borrower shall have no obligation to make any other investment in, or loans to, or other payments in respect of, any such Subsidiaries; (d) stock or obligations issued to Borrower by any Person (or the representative of such Person) in respect of Indebtedness of such Person owing to Borrower in connection with the insolvency, bankruptcy, receivership or reorganization of such Person or a composition or readjustment of the debts of such Person; provided, that, the original of any such stock or instrument evidencing such obligations shall be promptly delivered to Lender, upon Lender's request, together with such stock power, assignment or endorsement by Borrower as Lender may request; (e) obligations of account debtors to Borrower arising from Accounts which are past due evidenced by a promissory note made by such account debtor payable to Borrower; provided, that, promptly upon the receipt of the original of any such promissory note by Borrower, such promissory note shall be endorsed to the order of Lender by Borrower and promptly delivered to Lender as so endorsed; (f) the loans and advances set forth on Schedule 9.10 to the Information Certificate; provided, that, as to such loans and advances, (i) Borrower shall not, directly or indirectly, amend, modify, alter or change the terms of such loans and advances or any agreement, document or instrument related thereto and (ii) Borrower shall furnish to Lender all notices or demands in connection with such loans and advances either received by Borrower or on its behalf, promptly after the receipt thereof, or sent by Borrower or on its behalf, concurrently with the sending thereof, as the case may be. 9.11 Dividends and Redemptions. Borrower shall not, directly or indirectly, declare or pay any dividends on account of any shares of class of Capital Stock of Borrower or such Subsidiary now or hereafter outstanding, or set aside or otherwise deposit or invest any sums for such purpose, or redeem, retire, defease, purchase or otherwise acquire any shares of any class of Capital Stock (or set aside or otherwise deposit or invest any sums for such purpose) for any consideration or apply or set apart any sum, or make any other distribution (by reduction of capital or otherwise) in respect of any such shares or agree to do any of the foregoing, except (a) in any case in the form of shares of Capital Stock consisting of common stock and (b) any Subsidiary of Borrower may pay any dividends to Borrower. -63- 9.12 Transactions with Affiliates. Except for the three (3) transactions disclosed on Schedule 9.12 of the Information Certificate, Borrower shall not, directly or indirectly, (a) purchase, acquire or lease any property from, or sell, transfer or lease any property to, any officer, director, agent or other person affiliated with Borrower, except in the ordinary course of and pursuant to the reasonable requirements of Borrower's business and upon fair and reasonable terms no less favorable to the Borrower than Borrower would obtain in a comparable arm's length transaction with an unaffiliated person or (b) make any payments of management, consulting or other fees for management or similar services, or of any Indebtedness owing to any officer, employee, shareholder, director or other Affiliate of Borrower except reasonable compensation to officers, employees and directors for services rendered to Borrower in the ordinary course of business. 9.13 Compliance with ERISA. Borrower shall and shall cause each of its ERISA Affiliates to: (a) maintain each Plan (other than a Multiemployer Plan) in compliance in all material respects with the applicable provisions of ERISA, the Code and other Federal and State law; (b) cause each Plan which is qualified under Section 401(a) of the Code to maintain such qualification; (c) not terminate any of such Plans so as to incur any liability to the Pension Benefit Guaranty Corporation; (d) not allow or suffer to exist any prohibited transaction involving any of such Plans or any trust created thereunder which would subject Borrower or such ERISA Affiliate to a tax or penalty or other liability on prohibited transactions imposed under Section 4975 of the Code or ERISA; (e) make all required contributions to any Plan which it is obligated to pay under Section 302 of ERISA, Section 412 of the Code or the terms of such Plan; (f) not allow or suffer to exist any accumulated funding deficiency, whether or not waived, with respect to any such Plan; or (g) not allow or suffer to exist any occurrence of a reportable event or any other event or condition which presents a material risk of termination by the Pension Benefit Guaranty Corporation of any such Plan that is a single employer plan, which termination could result in any liability to the Pension Benefit Guaranty Corporation. 9.14 End of Fiscal Years; Fiscal Quarters. Borrower shall, for financial reporting purposes, cause its, and each of its Subsidiaries' (a) fiscal years to end on March 31 of each year and (b) fiscal quarters to end on March 31, June 30, September 30 and December 31 of each year. 9.15 Change in Business. Borrower shall not engage in any business other than the business of Borrower on the date hereof and any business reasonably related, ancillary or complimentary to the business in which Borrower is engaged on the date hereof. 9.16 Limitation of Restrictions Affecting Subsidiaries. Borrower shall not, directly, or indirectly, create or otherwise cause or suffer to exist any encumbrance or restriction which prohibits or limits the ability of any Subsidiary of Borrower to -64- (a) pay dividends or make other distributions or pay any Indebtedness owed to Borrower or any Subsidiary of Borrower; (b) make loans or advances to Borrower or any Subsidiary of Borrower, (c) transfer any of its properties or assets to Borrower or any Subsidiary of Borrower; or (d) create, incur, assume or suffer to exist any lien upon any of its property, assets or revenues, whether now owned or hereafter acquired, other than encumbrances and restrictions arising under (i) applicable law, (ii) this Agreement, (iii) customary provisions restricting subletting or assignment of any lease governing a leasehold interest of Borrower or any of its Subsidiaries, (iv) customary restrictions on dispositions of real property interests found in reciprocal easement agreements of Borrower or its Subsidiary, (v) any agreement relating to permitted Indebtedness incurred by a Subsidiary of Borrower prior to the date on which such Subsidiary was acquired by Borrower and outstanding on such acquisition date, and (vi) the extension or continuation of contractual obligations in existence on the date hereof; provided, that, any such encumbrances or restrictions contained in such extension or continuation are no less favorable to Lender than those encumbrances and restrictions under or pursuant to the contractual obligations so extended or continued. Borrower further agrees that within One Hundred Twenty (120) days of the Closing of this loan facility, Borrower will dissolve the following subsidiaries: Desktop Media Group, Inc., a Florida corporation, VetMall, Inc., a Florida corporation, and HealthSeek.com, Inc., a Massachusetts corporation. Dissolution of these three subsidiaries within One Hundred Twenty (120) days shall constitute a condition subsequent, unless Borrower provides a business reason for continuing the existence of one or more of the Subsidiaries, and Lender approves in writing such continued existence, which approval will not be unreasonably withheld, and provided further that in no event will any of these Subsidiaries be used to operate any portion or aspect of the Borrower's business. 9.17 Tangible Net Worth. Borrower shall maintain Tangible Net Worth of no less than: (i) $3,400,000 at all times from closing through March 31, 2004, (ii) $3,600,000 at all times from April 1, 2004 through March 31, 2005, and (iii) $3,800,000 from April 1, 2005 through March 31, 2006. 9.18 EBITDA. Borrower shall not, for any period set forth below (each, a "Test Period"), permit its cumulative EBITDA to be less than the amount set forth below opposite such Test Period: TEST PERIOD EBITDA - ---------------- -------- 4/1/03 - 6/30/03 $338,000 4/1/03 - 9/30/03 $744,000 -65- TEST PERIOD EBITDA - ----------------- ---------- 4/1/03 - 12/31/03 $1,087,000 4/1/03 - 3/31/04 $1,495,000 7/1/03 - 6/30/04 $1,578,000 10/1/03 - 9/30/04 $1,578,000 1/1/04 - 12/31/04 $1,578,000 4/1/03 - 3/31/05 $1,578,000 7/1/04 - 6/30/05 $1,661,000 10/1/04 - 9/30/05 $1,661,000 1/1/05 - 12/31/05 $1,661,000 4/1/04 - 3/31/06 $1,661,000 9.19 License Agreements. (a) Borrower shall (i) promptly and faithfully observe and perform all of the material terms, covenants, conditions and provisions of the material License Agreements to be observed and performed by it, at the times set forth therein, if any, (ii) not do, permit, suffer or refrain from doing anything could reasonably be expected to result in a default under or breach of any of the terms of any material License Agreement, (iii) not cancel, surrender, modify, amend, waive or release any material License Agreement in any material respect or any term, provision or right of the licensee thereunder in any material respect, or consent to or permit to occur any of the foregoing; except, that, subject to Section 9.19(b) below, Borrower may cancel, surrender or release any material License Agreement in the ordinary course of the business of Borrower; provided, that, Borrower shall give Lender not less than thirty (30) days prior written notice of its intention to so cancel, surrender and release any such material License Agreement, (iv) give Lender prompt written notice of any material License Agreement entered into by Borrower after the date hereof, together with a true, correct and complete copy thereof and such other information with respect thereto as Lender may request, (v) give Lender prompt written notice of any material breach of any obligation, or any default, by any party under any material License Agreement, and deliver to Lender (promptly upon the receipt thereof by Borrower in the case of a notice to Borrower, and concurrently with the sending thereof in the case of a notice from Borrower) a -66- copy of each notice of default and every other notice and other communication received or delivered by Borrower in connection with any material License Agreement which relates to the right of Borrower to continue to use the property subject to such License Agreement, and (vi) furnish to Lender, promptly upon the request of Lender, such information and evidence as Lender may require from time to time concerning the observance, performance and compliance by Borrower or the other party or parties thereto with the terms, covenants or provisions of any material License Agreement. (b) Borrower will either exercise any option to renew or extend the term of each material License Agreement in such manner as will cause the term of such material License Agreement to be effectively renewed or extended for the period provided by such option and give prompt written notice thereof to Lender or give Lender prior written notice that Borrower does not intend to renew or extend the term of any such material License Agreement or that the term thereof shall otherwise be expiring, not less than sixty (60) days prior to the date of any such non-renewal or expiration. In the event of the failure of any Borrower to extend or renew any material License Agreement, Lender shall have, and is hereby granted, the irrevocable right and authority, at its option, to renew or extend the term of such material License Agreement, whether in its own name and behalf, or in the name and behalf of a designee or nominee of Lender or in the name and behalf of Borrower, as Lender shall determine at any time that an Event of Default shall exist or have occurred and be continuing. Lender may, but shall not be required to, perform any or all of such obligations of any Borrower under any of the License Agreements, including, but not limited to, the payment of any or all sums due from Borrower thereunder. Any sums so paid by Lender shall constitute part of the Obligations. 9.20 After Acquired Real Property. If Borrower hereafter acquires any Real Property or fixtures and such Real Property, fixtures or other property at any one location has a fair market value in an amount equal to or greater than $250,000 (or if a Default or Event of Default exists, then regardless of the fair market value of such assets), without limiting any other rights of Lender, or duties or obligations of Borrower, upon Lender's request, Borrower shall execute and deliver to Lender a mortgage, deed of trust or deed to secure debt, as Lender may determine, in form and substance satisfactory to Lender and in form appropriate for recording in the real estate records of the jurisdiction in which such Real Property or other property is located granting to Lender a first and only lien and mortgage on and security interest in such Real Property, fixtures or other property (except as Borrower would otherwise be permitted to incur hereunder or as otherwise consented to in writing by Lender) and such other agreements, documents and instruments as Lender may require in connection therewith. -67- 9.21 Costs and Expenses. Borrower shall pay to Lender on demand all costs, expenses, filing fees and taxes paid or payable in connection with the preparation, negotiation, execution, delivery, recording, administration, collection, liquidation, enforcement and defense of the Obligations, Lender's rights in the Collateral, this Agreement, the other Financing Agreements and all other documents related hereto or thereto, including any amendments, supplements or consents which may hereafter be contemplated (whether or not executed) or entered into in respect hereof and thereof, including: (a) all costs and expenses of filing or recording (including Uniform Commercial Code financing statement filing taxes and fees, documentary taxes, intangibles taxes and mortgage recording taxes and fees, if applicable); (b) costs and expenses and fees for insurance premiums, environmental audits, surveys, assessments, engineering reports and inspections, appraisal fees and search fees, costs and expenses of remitting loan proceeds, collecting checks and other items of payment, and establishing and maintaining the Blocked Accounts, together with Lender's customary charges and fees with respect thereto; (c) charges, fees or expenses charged by any bank or issuer in connection with the Letter of Credit Accommodations; (d) costs and expenses of preserving and protecting the Collateral; (e) costs and expenses paid or incurred in connection with obtaining payment of the Obligations, enforcing the security interests and liens of Lender, selling or otherwise realizing upon the Collateral, and otherwise enforcing the provisions of this Agreement and the other Financing Agreements or defending any claims made or threatened against Lender arising out of the transactions contemplated hereby and thereby (including preparations for and consultations concerning any such matters); (f) all out-of-pocket expenses and costs heretofore and from time to time hereafter incurred by Lender during the course of periodic field examinations of the Collateral and Borrower's operations, plus a per diem charge at the then standard rate of Lender per person per day for Lender's examiners in the field and office (which rate is currently $750) provided, however, that Lender agrees that per diem charges pursuant to this Subsection (f), excluding per diem charges for the initial survey examination by Lender, shall be limited to no more than $15,000 plus out-of-pocket expenses per fiscal year during the term of this Agreement provided that no Event of Default has occurred or is continuing; and (g) the fees and disbursements of counsel (including legal assistants) to Lender in connection with any of the foregoing. 9.22 Further Assurances. At the request of Lender at any time and from time to time, Borrower shall, at its expense, duly execute and deliver, or cause to be duly executed and delivered, such further agreements, documents and instruments, and do or cause to be done such further acts as may be necessary or proper to evidence, perfect, maintain and enforce the security interests and the priority thereof in the Collateral and to otherwise effectuate the provisions or purposes of this Agreement or any of the other Financing Agreements. Lender may at any time and from time to time request a certificate from an officer of Borrower representing that all conditions precedent to the making of Loans and providing Letter of Credit -68- Accommodations contained herein are satisfied. In the event of such request by Lender, Lender may, at its option, cease to make any further Loans or provide any further Letter of Credit Accommodations until Lender has received such certificate and, in addition, Lender has determined that such conditions are satisfied. SECTION 10. EVENTS OF DEFAULT AND REMEDIES 10.1 Events of Default. The occurrence or existence of any one or more of the following events are referred to herein individually as an "Event of Default", and collectively as "Events of Default": (a) Borrower (i) fails to pay when due any of the Obligations, or (ii) fails to perform any of the other terms, covenants, conditions or provisions contained in this Agreement or any of the other Financing Agreements; (b) any representation, warranty or statement of fact made by Borrower or any Obligor to Lender in this Agreement, the other Financing Agreements or any other agreement, schedule, confirmatory assignment or otherwise shall when made or deemed made be false or misleading in any material respect; (c) any Obligor revokes or terminates, or purports to revoke or terminate, or fails to perform any of the terms, covenants, conditions or provisions of, any guarantee, endorsement or other agreement of such party in favor of Lender; (d) any judgment for the payment of money is rendered against Borrower or any Obligor in excess of $100,000 in any one case or in excess of $150,000 in the aggregate and shall remain undischarged or unvacated for a period in excess of thirty (30) days or execution shall at any time not be effectively stayed, or any judgment other than for the payment of money, or injunction, attachment, garnishment or execution is rendered against Borrower or any Obligor or any of their assets; (e) any Obligor (being a natural person) dies, unless within ninety (90) days after the date of death, the Borrower submits a plan of management succession to Lender, and Lender approves such plan of management succession in Lender's sole discretion; or Borrower or any Obligor, which is a partnership, limited liability company, limited liability partnership or a corporation, dissolves or suspends or discontinues doing business; (f) Borrower or any Obligor becomes insolvent (however defined or evidenced), makes an assignment for the benefit of creditors, makes or sends notice of a bulk transfer or calls a meeting of its creditors or principal creditors; (g) a case or proceeding under the bankruptcy laws of the United States of America now or hereafter in effect or under any insolvency, -69- reorganization, receivership, readjustment of debt, dissolution or liquidation law or statute of any jurisdiction now or hereafter in effect (whether at law or in equity) is filed against Borrower or any Obligor or all or any part of its properties and such petition or application is not dismissed within thirty (30) days after the date of its filing or Borrower or any Obligor shall file any answer admitting or not contesting such petition or application or indicates its consent to, acquiescence in or approval of, any such action or proceeding or the relief requested is granted sooner; (h) a case or proceeding under the bankruptcy laws of the United States of America now or hereafter in effect or under any insolvency, reorganization, receivership, readjustment of debt, dissolution or liquidation law or statute of any jurisdiction now or hereafter in effect (whether at a law or equity) is filed by Borrower or any Obligor or for all or any part of its property; or (i) any default in respect of any Indebtedness of Borrower or any Obligor (other than Indebtedness owing to Lender), in any case in an amount in excess of $100,000, which default continues for more than the applicable cure period, if any, with respect thereto, or any default by Borrower or any Obligor under any Material Contract, which default continues for more than the applicable cure period, if any, with respect thereto; (j) any material provision hereof or of any of the other Financing Agreements shall for any reason cease to be valid, binding and enforceable with respect to any party hereto or thereto (other than Lender) in accordance with its terms, or any such party shall challenge the enforceability hereof or thereof, or shall assert in writing, or take any action or fail to take any action based on the assertion that any provision hereof or of any of the other Financing Agreements has ceased to be or is otherwise not valid, binding or enforceable in accordance with its terms, or any security interest provided for herein or in any of the other Financing Agreements shall cease to be a valid and perfected first priority security interest in any of the Collateral purported to be subject thereto (except as otherwise permitted herein or therein); (k) an ERISA Event shall occur which results in or could reasonably be expected to result in liability of Borrower in an aggregate amount in excess of $250,000; (l) any Change of Control; (m) the indictment by any Governmental Authority, or as Lender may reasonably and in good faith determine, the threatened indictment by any Governmental Authority of Borrower or any Obligor of which Borrower, any Obligor or Lender receives notice, in either case, as to which there is a reasonable possibility of an adverse determination, in the good faith determination of Lender, under any criminal statute, or commencement or threatened commencement of criminal or -70- civil proceedings against Borrower pursuant to which statute or proceedings the penalties or remedies sought or available include forfeiture of (i) any of the Collateral having a value in excess of $100,000 or (ii) any other property of Borrower which is necessary or material to the conduct of its business; (n) there shall be a material adverse change in the business, assets or prospects of Borrower or any Obligor after the date hereof; or (o) there shall be an event of default under any of the other Financing Agreements. Notwithstanding the foregoing, an Event of Default under Subsections 10.1(a)(ii), 10.1(b) or 10.1(c) above shall not be deemed to have occurred if the matter described therein is cured within ten (10) days after the date of written notice from Lender to Borrower. -71- 10.2 Remedies. (a) At any time an Event of Default exists or has occurred and is continuing, Lender shall have all rights and remedies provided in this Agreement, the other Financing Agreements, the UCC and other applicable law, all of which rights and remedies may be exercised without notice to or consent by Borrower or any Obligor, except as such notice or consent is expressly provided for hereunder or required by applicable law. All rights, remedies and powers granted to Lender hereunder, under any of the other Financing Agreements, the UCC or other applicable law, are cumulative, not exclusive and enforceable, in Lender's discretion, alternatively, successively, or concurrently on any one or more occasions, and shall include, without limitation, the right to apply to a court of equity for an injunction to restrain a breach or threatened breach by Borrower of this Agreement or any of the other Financing Agreements. Lender may, at any time or times, proceed directly against Borrower or any Obligor to collect the Obligations without prior recourse to any Obligor or any of the Collateral. (b) Without limiting the foregoing, at any time an Event of Default exists or has occurred and is continuing, Lender may, in its discretion and, without limitation, (i) accelerate the payment of all Obligations and demand immediate payment thereof to Lender (provided, that, upon the occurrence of any Event of Default described in Sections 10.1(g) and 10.1(h), all Obligations shall automatically become immediately due and payable), (ii) with or without judicial process or the aid or assistance of others, enter upon any premises on or in which any of the Collateral may be located and take possession of the Collateral or complete processing, manufacturing and repair of all or any portion of the Collateral, (iii) require Borrower, at Borrower's expense, to assemble and make available to Lender any part or all of the Collateral at any place and time designated by Lender, (iv) collect, foreclose, receive, appropriate, setoff and realize upon any and all Collateral, (v) remove any or all of the Collateral from any premises on or in which the same may be located for the purpose of effecting the sale, foreclosure or other disposition thereof or for any other purpose, (vi) sell, lease, transfer, assign, deliver or otherwise dispose of any and all Collateral (including entering into contracts with respect thereto, public or private sales at any exchange, broker's board, at any office of Lender or elsewhere) at such prices or terms as Lender may deem reasonable, for cash, upon credit or for future delivery, with the Lender having the right to purchase the whole or any part of the Collateral at any such public sale, all of the foregoing being free from any right or equity of redemption of Borrower, which right or equity of redemption is hereby expressly waived and released by Borrower and/or (vii) terminate this Agreement. Upon any action by Lender to collect, foreclose, receive, appropriate, set off or realize upon any Collateral pursuant to this Section 10.2 each of the Executive Officers hereby agrees that he will cooperate with Lender -72- as necessary for Lender to realize upon the Collateral and shall act at the direction of Lender in connection with any such realization of the Collateral, provided that any action requested by the Lender is lawful. If any of the Collateral is sold or leased by Lender upon credit terms or for future delivery, the Obligations shall not be reduced as a result thereof until payment therefor is finally collected by Lender. If notice of disposition of Collateral is required by law, ten (10) days prior notice by Lender to Borrower designating the time and place of any public sale or the time after which any private sale or other intended disposition of Collateral is to be made, shall be deemed to be reasonable notice thereof and Borrower waives any other notice. In the event Lender institutes an action to recover any Collateral or seeks recovery of any Collateral by way of prejudgment remedy, Borrower waives the posting of any bond which might otherwise be required. At any time an Event of Default exists or has occurred and is continuing, upon Lender's request, Borrower will either, as Lender shall specify, furnish cash collateral to the issuer to be used to secure and fund Lender's reimbursement obligations to the issuer in connection with any Letter of Credit Accommodations or furnish cash collateral to Lender for the Letter of Credit Accommodations. Such cash collateral shall be in the amount equal to one hundred ten (110%) percent of the amount of the Letter of Credit Accommodations plus the amount of any fees and expenses payable in connection therewith through the end of the expiration of such Letter of Credit Accommodations. (c) Lender may, at any time or times that an Event of Default exists or has occurred and is continuing, enforce Borrower's rights against any account debtor, secondary obligor or other obligor in respect of any of the Accounts or other Receivables. Without limiting the generality of the foregoing, Lender may at such time or times (i) notify any or all account debtors, secondary obligors or other obligors in respect thereof that the Receivables have been assigned to Lender and that Lender has a security interest therein and Lender may direct any or all account debtors, secondary obligors and other obligors to make payment of Receivables directly to Lender, (ii) extend the time of payment of, compromise, settle or adjust for cash, credit, return of merchandise or otherwise, and upon any terms or conditions, any and all Receivables or other obligations included in the Collateral and thereby discharge or release the account debtor or any secondary obligors or other obligors in respect thereof without affecting any of the Obligations, (iii) demand, collect or enforce payment of any Receivables or such other obligations, but without any duty to do so, and Lender shall not be liable for its failure to collect or enforce the payment thereof nor for the negligence of its agents or attorneys with respect thereto and (iv) take whatever other action Lender may deem necessary or desirable for the protection of its interests. At any time that an Event of Default exists or has occurred and is continuing, at Lender's request, all invoices and statements sent to any account debtor shall state that the Accounts and such other obligations have been assigned to Lender and are payable directly and only to Lender and Borrower shall deliver to Lender such originals of documents evidencing -73- the sale and delivery of goods or the performance of services giving rise to any Accounts as Lender may require. In the event any account debtor returns Inventory when an Event of Default exists or has occurred and is continuing, Borrower shall, upon Lender's request, hold the returned Inventory in trust for Lender, segregate all returned Inventory from all of its other property, dispose of the returned Inventory solely according to Lender's instructions, and not issue any credits, discounts or allowances with respect thereto without Lender's prior written consent. (d) To the extent that applicable law imposes duties on Lender to exercise remedies in a commercially reasonable manner (which duties cannot be waived under such law), Borrower acknowledges and agrees that it is not commercially unreasonable for Lender (i) to fail to incur expenses reasonably deemed significant by Lender to prepare Collateral for disposition or otherwise to complete raw material or work in process into finished goods or other finished products for disposition, (ii) to fail to obtain third party consents for access to Collateral to be disposed of, or to obtain or, if not required by other law, to fail to obtain consents of any Governmental Authority or other third party for the collection or disposition of Collateral to be collected or disposed of, (iii) to fail to exercise collection remedies against account debtors, secondary obligors or other persons obligated on Collateral or to remove liens or encumbrances on or any adverse claims against Collateral, (iv) to exercise collection remedies against account debtors and other persons obligated on Collateral directly or through the use of collection agencies and other collection specialists, (v) to advertise dispositions of Collateral through publications or media of general circulation, whether or not the Collateral is of a specialized nature, (vi) to contact other persons, whether or not in the same business as Borrower for expressions of interest in acquiring all or any portion of the Collateral, (vii) to hire one or more professional auctioneers to assist in the disposition of Collateral, whether or not the collateral is of a specialized nature, (viii) to dispose of Collateral by utilizing Internet sites that provide for the auction of assets of the types included in the Collateral or that have the reasonable capability of doing so, or that match buyers and sellers of assets, (ix) to dispose of assets in wholesale rather than retail markets, (x) to disclaim disposition warranties, (xi) to purchase insurance or credit enhancements to insure Lender against risks of loss, collection or disposition of Collateral or to provide to Lender a guaranteed return from the collection or disposition of Collateral, or (xii) to the extent deemed appropriate by Lender, to obtain the services of other brokers, investment bankers, consultants and other professionals to assist Lender in the collection or disposition of any of the Collateral. Borrower acknowledges that the purpose of this Section is to provide non-exhaustive indications of what actions or omissions by Lender would not be commercially unreasonable in Lender's exercise of remedies against the Collateral and that other actions or omissions by Lender shall not be deemed commercially unreasonable solely on account of not being indicated in this Section. Without limitation of the foregoing, nothing contained in -74- this Section shall be construed to grant any rights to Borrower or to impose any duties on Lender that would not have been granted or imposed by this Agreement or by applicable law in the absence of this Section. (e) For the purpose of enabling Lender to exercise the rights and remedies hereunder, Borrower hereby grants to Lender, to the extent assignable, an irrevocable, non-exclusive license (exercisable without payment of royalty or other compensation to Borrower) to use, assign, license or sublicense any of the trademarks, service-marks, trade names, business names, trade styles, designs, logos and other source of business identifiers and other Intellectual Property and general intangibles now owned or hereafter acquired by Borrower, wherever the same maybe located, including in such license reasonable access to all media in which any of the licensed items may be recorded or stored and to all computer programs used for the compilation or printout thereof. (f) Lender may apply the cash proceeds of Collateral actually received by Lender from any sale, lease, foreclosure or other disposition of the Collateral to payment of the Obligations, in whole or in part and in such order as Lender may elect, whether or not then due. Borrower shall remain liable to Lender for the payment of any deficiency with interest at the highest rate provided for herein and all costs and expenses of collection or enforcement, including attorneys' fees and legal expenses. (g) Without limiting the foregoing, upon the occurrence of a Default or Event of Default, Lender may, at its option, without notice, (i) cease making Loans or arranging for Letter of Credit Accommodations or reduce the lending formulas or amounts of Revolving Loans and Letter of Credit Accommodations available to Borrower (ii) terminate any provision of this Agreement providing for any future Loans or Letter of Credit Accommodations to be made by Lender to Borrower and/or (iii) establish such Reserves as Lender determines without limitation or restriction, notwithstanding anything to the contrary contained herein. SECTION 11. JURY TRIAL WAIVER; OTHER WAIVERS AND CONSENTS; GOVERNING LAW 11.1 Governing Law; Choice of Forum; Service of Process; Jury Trial Waiver. (a) The validity, interpretation and enforcement of this Agreement and the other Financing Agreements and any dispute arising out of the relationship between the parties hereto, whether in contract, tort, equity or otherwise, shall be governed by the internal laws of the State of Florida but excluding any principles of conflicts of law or other rule of law that would cause the application of the law of any jurisdiction other than the laws of the State of Florida. -75- (b) Borrower and Lender irrevocably consent and submit to the non-exclusive jurisdiction of the Eleventh Judicial Circuit and the United States District Court for the Middle District of Florida, whichever Lender may elect, and waive any objection based on venue or forum non conveniens with respect to any action instituted therein arising under this Agreement or any of the other Financing Agreements or in any way connected with or related or incidental to the dealings of the parties hereto in respect of this Agreement or any of the other Financing Agreements or the transactions related hereto or thereto, in each case whether now existing or hereafter arising, and whether in contract, tort, equity or otherwise, and agree that any dispute with respect to any such matters shall be heard only in the courts described above (except that Lender shall have the right to bring any action or proceeding against Borrower or its property in the courts of any other jurisdiction which Lender deems necessary or appropriate in order to realize on the Collateral or to otherwise enforce its rights against Borrower or its property). (c) Borrower hereby waives personal service of any and all process upon it and consents that all such service of process may be made by certified mail (return receipt requested) directed to its address set forth herein and service so made shall be deemed to be completed five (5) days after the same shall have been so deposited in the U.S. mails, or, at Lender's option, by service upon Borrower in any other manner provided under the rules of any such courts. Within thirty (30) days after such service, Borrower shall appear in answer to such process, failing which Borrower shall be deemed in default and judgment may be entered by Lender against Borrower for the amount of the claim and other relief requested. (d) BORROWER AND LENDER EACH HEREBY WAIVES ANY RIGHT TO TRIAL BY JURY OF ANY CLAIM, DEMAND, ACTION OR CAUSE OF ACTION (i) ARISING UNDER THIS AGREEMENT OR ANY OF THE OTHER FINANCING AGREEMENTS OR (ii) IN ANY WAY CONNECTED WITH OR RELATED OR INCIDENTAL TO THE DEALINGS OF THE PARTIES HERETO IN RESPECT OF THIS AGREEMENT OR ANY OF THE OTHER FINANCING AGREEMENTS OR THE TRANSACTIONS RELATED HERETO OR THERETO IN EACH CASE WHETHER NOW EXISTING OR HEREAFTER ARISING, AND WHETHER IN CONTRACT, TORT, EQUITY OR OTHERWISE. BORROWER AND LENDER EACH HEREBY AGREES AND CONSENTS THAT ANY SUCH CLAIM, DEMAND, ACTION OR CAUSE OF ACTION SHALL BE DECIDED BY COURT TRIAL WITHOUT A JURY AND THAT BORROWER OR LENDER MAY FILE AN ORIGINAL COUNTERPART OF A COPY OF THIS AGREEMENT WITH ANY COURT AS WRITTEN EVIDENCE OF THE CONSENT OF THE PARTIES HERETO TO THE WAIVER OF THEIR RIGHT TO TRIAL BY JURY. (e) Lender shall not have any liability to Borrower (whether in tort, contract, equity or otherwise) for losses suffered by Borrower in connection with, arising out of, or in any way related to the transactions or relationships -76- contemplated by this Agreement, or any act, omission or event occurring in connection herewith, unless it is determined by a final and non-appealable judgment or court order binding on Lender, that the losses were the result of acts or omissions constituting gross negligence or willful misconduct of Lender. In any such litigation, Lender shall be entitled to the benefit of the rebuttable presumption that it acted in good faith and with the exercise of ordinary care in the performance by it of the terms of this Agreement. Except as prohibited by law, Borrower waives any right which it may have to claim or recover in any litigation with Lender any special, exemplary, punitive or consequential damages or any damages other than, or in addition to, actual damages. Borrower: (i) certifies that neither Lender nor any representative, agent or attorney acting for or on behalf of Lender has represented, expressly or otherwise, that Lender would not, in the event of litigation, seek to enforce any of the waivers provided for in this Agreement or any of the other Financing Agreements and (ii) acknowledges that in entering into this Agreement and the other Financing Agreements, Lender is relying upon, among other things, the waivers and certifications set forth in this Section 11.1 and elsewhere herein and therein. 11.2 Waiver of Notices. Borrower hereby expressly waives demand, presentment, protest and notice of protest and notice of dishonor with respect to any and all instruments and chattel paper, included in or evidencing any of the Obligations or the Collateral, and any and all other demands and notices of any kind or nature whatsoever with respect to the Obligations, the Collateral and this Agreement, except such as are expressly provided for herein. No notice to or demand on Borrower which Lender may elect to give shall entitle Borrower to any other or further notice or demand in the same, similar or other circumstances. 11.3 Amendments and Waivers. Neither this Agreement nor any provision hereof shall be amended, modified, waived or discharged orally or by course of conduct, but only by a written agreement signed by an authorized officer of Lender, and as to amendments, as also signed by an authorized officer of Borrower. Lender shall not, by any act, delay, omission or otherwise be deemed to have expressly or impliedly waived any of its rights, powers and/or remedies unless such waiver shall be in writing and signed by an authorized officer of Lender. Any such waiver shall be enforceable only to the extent specifically set forth therein. A waiver by Lender of any right, power and/or remedy on any one occasion shall not be construed as a bar to or waiver of any such right, power and/or remedy which Lender would otherwise have on any future occasion, whether similar in kind or otherwise. 11.4 Waiver of Counterclaims. Borrower waives all rights to interpose any claims, deductions, setoffs or counterclaims of any nature (other then compulsory counterclaims) in any action or proceeding with respect to this Agreement, the Obligations, the Collateral or any matter arising therefrom or relating hereto or thereto. -77- 11.5 Indemnification. Borrower shall indemnify and hold Lender, and its directors, agents, employees and counsel, harmless from and against any and all losses, claims, damages, liabilities, costs or expenses imposed on, incurred by or asserted against any of them in connection with any litigation, investigation, claim or proceeding commenced or threatened related to the negotiation, preparation, execution, delivery, enforcement, performance or administration of this Agreement, any other Financing Agreements, or any undertaking or proceeding related to any of the transactions contemplated hereby or any act, omission, event or transaction related or attendant thereto, including amounts paid in settlement, court costs, and the fees and expenses of counsel. To the extent that the undertaking to indemnify, pay and hold harmless set forth in this Section may be unenforceable because it violates any law or public policy, Borrower shall pay the maximum portion which it is permitted to pay under applicable law to Lender in satisfaction of indemnified matters under this Section. To the extent permitted by applicable law, Borrower shall not assert, and Borrower hereby waives, any claim against Lender, on any theory of liability, for special, indirect, consequential or punitive damages (as opposed to direct or actual damages) arising out of, in connection with, or as a result of, this Agreement, any of the other Financing Agreements or any undertaking or transaction contemplated hereby. The foregoing indemnity shall survive the payment of the Obligations and the termination or non-renewal of this Agreement. SECTION 12. TERM OF AGREEMENT; MISCELLANEOUS 12.1 Term. (a) This Agreement and the other Financing Agreements shall become effective as of the date set forth on the first page hereof and shall continue in full force and effect for a term ending on the date three (3) years from the date hereof (the "Renewal Date"). Lender and Borrower may, at their mutual options extend the Renewal Date to the date four (4) years from the date hereof by each party giving the other written notice of such intent at least sixty (60) days prior to the Renewal Date, after which this Agreement and the other Financing Agreements shall automatically continue in full force and effect from year to year thereafter, unless sooner terminated pursuant to the terms hereof. Lender or Borrower may terminate this Agreement and the other Financing Agreements effective on the Renewal Date or on the anniversary of the Renewal Date in any year by giving to the other party at least sixty (60) days prior written notice; provided, that, this Agreement and all other Financing Agreements must be terminated simultaneously. In addition, Borrower may terminate this Agreement at any time upon ten (10) days prior written notice to Lender (which notice shall be irrevocable) and Lender may terminate this Agreement at any time on or after an Event of Default. Upon the effective date of termination or non-renewal of this Agreement, Borrower shall pay to Lender, in full, all outstanding and unpaid Obligations and shall furnish cash collateral to Lender (or at Lender's option, a letter of credit -78- issued for the account of Borrower and at Borrower's expense, in form and substance satisfactory to Lender, by an issuer acceptable to Lender and payable to Lender as beneficiary) in such amounts as Lender determines are reasonably necessary to secure (or reimburse) Lender from loss, cost, damage or expense, including attorneys' fees and legal expenses, in connection with any contingent Obligations, including issued and outstanding Letter of Credit Accommodations and checks or other payments provisionally credited to the Obligations and/or as to which Lender has not yet received final and indefeasible payment and any continuing obligations of Lender to any bank or other financial institution under or pursuant to any Deposit Account Control Agreement. Such payments in respect of the Obligations and cash collateral shall be remitted by wire transfer in Federal funds to such bank account of Lender, as Lender may, in its discretion, designate in writing to Borrower for such purpose. Interest shall be due until and including the next business day, if the amounts so paid by Borrower to the bank account designated by Lender are received in such bank account later than 12:00 noon, Eastern Standard time. (b) No termination of this Agreement or the other Financing Agreements shall relieve or discharge Borrower of its respective duties, obligations and covenants under this Agreement or the other Financing Agreements until all Obligations have been fully and finally discharged and paid, and Lender's continuing security interest in the Collateral and the rights and remedies of Lender hereunder, under the other Financing Agreements and applicable law, shall remain in effect until all such Obligations have been fully and finally discharged and paid. Accordingly, Borrower waives any rights which it may have under the UCC to demand the filing of termination statements with respect to the Collateral, and Lender shall not be required to send such termination statements to Borrower, or to file them with any filing office, unless and until this Agreement is terminated in accordance with its terms and all of the Obligations are paid and satisfied in full in immediately available funds. (c) If for any reason this Agreement is terminated prior to the end of the then current term or renewal term of this Agreement, in view of the impracticality and extreme difficulty of ascertaining actual damages and by mutual agreement of the parties as to a reasonable calculation of Lender's lost profits as a result thereof, Borrower agrees to pay to Lender, upon the effective date of such termination, an early termination fee in the amount set forth below if such termination is effective in the period indicated: -79- Amount Period ------ ------ (i) two (2%) percent of the From the date hereof to and Maximum Credit including April 14, 2004 (ii) one (1%) percent of the From April 15, 2004 to and Maximum Credit including April 14, 2005 (iii) one-half of one percent From April 15, 2005 to and (0.5%) of the Maximum including April 14, 2006 Credit Such early termination fee shall be presumed to be the amount of damages sustained by Lender as a result of such early termination and Borrower agrees that it is reasonable under the circumstances currently existing. In addition, Lender shall be entitled to such early termination fee upon the occurrence of any Event of Default described in Sections 10.1(g) and 10.1(h) hereof, even if Lender does not exercise its right to terminate this Agreement, but elects, at its option, to provide financing to Borrower or permit the use of cash collateral under the United States Bankruptcy Code. The early termination fee provided for in this Section 12.1 shall be deemed included in the Obligations. Notwithstanding the foregoing, Lender hereby agrees to waive any early termination fee otherwise payable pursuant to this Section 12.1(b) in the event LaSalle Business Credit, as lender, replaces the credit facility evidenced by this Agreement. 12.2 Interpretative Provisions. (a) All terms used herein which are defined in Article 1 or Article 9 of the UCC shall have the meanings given therein unless otherwise defined in this Agreement. (b) All references to the plural herein shall also mean the singular and to the singular shall also mean the plural unless the context otherwise requires. (c) All references to Borrower and Lender pursuant to the definitions set forth in the recitals hereto, or to any other person herein, shall include their respective successors and assigns. (d) The words "hereof", "herein", "hereunder", "this Agreement" and words of similar import when used in this Agreement shall refer to this Agreement -80- as a whole and not any particular provision of this Agreement and as this Agreement now exists or may hereafter be amended, modified, supplemented, extended, renewed, restated or replaced. (e) The word "including" when used in this Agreement shall mean "including, without limitation". (f) All references to the term "good faith" used herein when applicable to Lender shall mean, notwithstanding anything to the contrary contained herein or in the UCC, honesty in fact in the conduct or transaction concerned. Borrower shall have the burden of proving any lack of good faith on the part of Lender alleged by Borrower at any time. (g) An Event of Default shall exist or continue or be continuing until such Event of Default is waived in accordance with Section 11.3 or is cured in a manner satisfactory to Lender, if such Event of Default is capable of being cured as determined by Lender. (h) Any accounting term used in this Agreement shall have, unless otherwise specifically provided herein, the meaning customarily given in accordance with GAAP, and all financial computations hereunder shall be computed unless otherwise specifically provided herein, in accordance with GAAP as consistently applied and using the same method for inventory valuation as used in the preparation of the financial statements of Borrower most recently received by Lender prior to the date hereof. Notwithstanding anything to the contrary contained in GAAP or any interpretations or other pronouncements by the Financial Accounting Standards Board or otherwise, the term "unqualified opinion" as used herein to refer to opinions or reports provided by accountants shall mean an opinion or report that is not only unqualified but also does not include any explanatory note or language, including any explanation, supplemental comment or other comment concerning the ability of the applicable person to continue as a going concern. (i) In the computation of periods of time from a specified date to a later specified date, the word "from" means "from and including", the words "to" and "until" each mean "to but excluding" and the word "through" means "to and including". (j) Unless otherwise expressly provided herein, (i) references herein to any agreement, document or instrument shall be deemed to include all subsequent amendments, modifications, supplements, extensions, renewals, restatements or replacements with respect thereto, but only to the extent the same are not prohibited by the terms hereof or of any other Financing Agreement, and (ii) references to any statute or regulation are to be construed as including all statutory -81- and regulatory provisions consolidating, amending, replacing, recodifying, supplementing or interpreting the statute or regulation. (k) The captions and headings of this Agreement are for convenience of reference only and shall not affect the interpretation of this Agreement. (l) This Agreement and other Financing Agreements may use several different limitations, tests or measurements to regulate the same or similar matters. All such limitations, tests and measurements are cumulative and shall each be performed in accordance with their terms. (m) This Agreement and the other Financing Agreements are the result of negotiations among and have been reviewed by counsel to Lender and the other parties, and are the products of all parties. Accordingly, this Agreement and the other Financing Agreements shall not be construed against Lender merely because of Lender's involvement in their preparation. 12.3 Notices. All notices, requests and demands hereunder shall be in writing and deemed to have been given or made: if delivered in person, immediately upon delivery; if by telex, telegram or facsimile transmission, immediately upon sending and upon confirmation of receipt; if by nationally recognized overnight courier service with instructions to deliver the next Business Day, one (1) Business Day after sending; and if by certified mail, return receipt requested, five (5) days after mailing. All notices, requests and demands upon the parties are to be given to the following addresses (or to such other address as any party may designate by notice in accordance with this Section): If to Borrower: DrugMax, Inc. 25400 U.S. Highway 19 North, Suite 137 Clearwater, Florida 33763 Attention: Jugal K. Taneja Telephone No.: (727) 533-0431 Telecopy No.: (727) 531-1280 with a copy to: Shumaker, Loop & Kendrick, LLP 101 East Kennedy Blvd., Suite 2800 Tampa, Florida 33602-5151 Attention: Julio C. Esquivel, Esq. Telephone No.:(813) 229-7600 Telecopy No.:(813) 229-1660 -82- If to Lender: Congress Financial Corporation (Florida) 777 Brickell Avenue, Suite 808 Miami, Florida 33131 Attention: John Socarraz Telephone No.: (305) 371-6671 Telecopy No.: (305) 371-9456 with a copy to: Holland & Knight LLP 200 South Orange Avenue, Suite 2600 Orlando, Florida 32801 Attention: Louis T.M. Conti, Esq. Telephone No.: (407) 244-5118 Telecopy No.: (407) 244-5228 12.4 Partial Invalidity. If any provision of this Agreement is held to be invalid or unenforceable, such invalidity or unenforceability shall not invalidate this Agreement as a whole, but this Agreement shall be construed as though it did not contain the particular provision held to be invalid or unenforceable and the rights and obligations of the parties shall be construed and enforced only to such extent as shall be permitted by applicable law. 12.5 Successors. This Agreement, the other Financing Agreements and any other document referred to herein or therein shall be binding upon and inure to the benefit of and be enforceable by Lender, Borrower and their respective successors and assigns, except that Borrower may not assign its rights under this Agreement, the other Financing Agreements and any other document referred to herein or therein without the prior written consent of Lender. Lender may, after notice to Borrower, assign its rights and delegate its obligations under this Agreement and the other Financing Agreements and further may assign, or sell participations in, all or any part of the Loans, the Letter of Credit Accommodations or any other interest herein to another financial institution or other person on terms and conditions acceptable to Lender. 12.6 Entire Agreement. This Agreement, the other Financing Agreements, any supplements hereto or thereto, and any instruments or documents delivered or to be delivered in connection herewith or therewith represents the entire agreement and understanding concerning the subject matter hereof and thereof between the parties hereto, and supersede all other prior agreements, understandings, negotiations and discussions, representations, warranties, commitments, proposals, offers and contracts concerning the subject matter hereof, whether oral or written. In the event of any inconsistency between the terms of this Agreement and any schedule or exhibit hereto, the terms of this Agreement shall govern. -83- 12.7 Counterparts, Etc. This Agreement or any of the other Financing Agreements may be executed in any number of counterparts, each of which shall be an original, but all of which taken together shall constitute one and the same agreement. Delivery of an executed counterpart of this Agreement or any of the other Financing Agreements by telefacsimile shall have the same force and effect as the delivery of an original executed counterpart of this Agreement or any of such other Financing Agreements. Any party delivering an executed counterpart of any such agreement by telefacsimile shall also deliver an original executed counterpart, but the failure to do so shall not affect the validity, enforceability or binding effect of such agreement. IN WITNESS WHEREOF, (i) Lender and Borrower have caused these presents to be duly executed and (ii) Executive Officers have caused these presents to be duly executed to affirm their individual agreement to the provisions of Section 10.2(b) hereof, as of the day and year first above written. -84- LENDER BORROWER CONGRESS FINANCIAL DRUGMAX, INC. CORPORATION (FLORIDA) By: /s/ John Socarraz By: /s/ Jugal K. Taneja ------------------------------- -------------------------------- John Socarraz, Vice President Title: CEO & Chairman Address: Chief Executive Office: - -------- ----------------------- 777 Brickell Avenue, Suite 808 25400 U.S. Highway 19 North Miami, Florida 33131 Suite 137 Attn: John Socarraz Clearwater, Florida 33763 Attn: Jugal K. Taneja EXECUTIVE OFFICERS /s/ Jugal K. Taneja - ---------------------------------- VALLEY DRUG COMPANY Jugal K. Taneja /s/ William L. LaGamba By: /s/ Ronald J. Patrick - ---------------------------------- -------------------------------- William L. LaGamba Title: CFO /s/ Ronald J. Patrick - ---------------------------------- Ronald J. Patrick VALLEY DRUG COMPANY SOUTH By: /s/ William L. LaGamba -------------------------------- Title: CEO DISCOUNT Rx, INC. By: /s/ Ronald J. Patrick -------------------------------- Title: CFO -85- EX-99.1 4 dex991.htm CERTIFICATION OF CFO Certification of CFO
EXHIBIT 99.1

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 Annual Report of DrugMax, Inc. (the “Company”) on Form 10-K for the year ended March 31, 2003, as filed with the Securities and Exchange Commission on July 15, 2003 (the “Report”), I, Jugal K. Taneja, Chairman and Chief Executive Officer of the Company, certify pursuant to 18 U.S.C. §1350, as adopted pursuant to §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/ Jugal K. Taneja

Jugal K. Taneja

Chief Executive Officer

July 15, 2003

EX-99.2 5 dex992.htm CERTIFICATION OF CEO Certification of CEO
EXHIBIT 99.2

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 Annual Report of DrugMax, Inc. (the “Company”) on Form 10-K for the year ended March 31, 2003, as filed with the Securities and Exchange Commission on July 15, 2003 (the “Report”), I, Ronald J. Patrick, Chief Financial Officer of the Company, certify pursuant to 18 U.S.C. §1350, as adopted pursuant to §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/ Ronald J. Patrick

Ronald J. Patrick

Chief Financial Officer,

Principal Financial and Accounting Officer

July 15, 2003

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