SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
Form 10-QSB
|X| Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended March 31, 2007
|_| Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from _______________ to ________________
Commission file number 000-29245
GALES INDUSTRIES INCORPORATED
(Exact name of small business as specified in its charter)
Delaware 20-4458244
(State or other jurisdiction of (IRS Employer Identification Number)
incorporation or organization)
1479 Clinton Avenue, Bay Shore, New York 11706
(Address of principal executive offices)
(631) 968-5000
(Issuer's telephone number, including area code)
Indicate by check mark whether the issuer (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No|_|
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act. Yes |_| No |X|
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 59,579,998 shares of Common
Stock, $.001 per share, as of May 10, 2007.
Transitional Small Business Disclosure Format (check one): Yes |_| No |X|
GALES INDUSTRIES INCORPORATED
INDEX
Page No.
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements..............................2
Condensed Consolidated Balance Sheet as of March 31, 2007 (unaudited)
and December 31, 2006....................................................2
Consolidated Statement of Operations for the three month period
ended March 31, 2007 (unaudited) and 2006 (unaudited) ...................3
Condensed Consolidated Statement of Cash Flow for the three month
period ended March 31, 2007 (unaudited) and 2006 (unaudited) ............4
Notes to Condensed Consolidated Financial Statements.....................5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations...............................................10
Item 3. Controls and Procedures.................................................25
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.......................................................26
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.............26
Item 6. Exhibits and Reports on Form 8-K........................................27
SIGNATURES........................................................................27
PART I. FINANCIAL INFORMATION
GALES INDUSTRIES INCORPORATED
Condensed Consolidated Balance Sheet
March 31, 2007 December 31,2006
(unaudited)
ASSETS
Current Assets
Cash and Cash Equivalents $ -- $ --
Accounts Receivable, Net of Allowance for Doubtful
Accounts of $204,566 and $176,458 2,672,799 3,508,957
Inventory 15,866,131 15,257,641
Prepaid Expenses and Other Current Assets 455,958 232,749
Deposits 776,673 180,456
------------ ------------
Total Current Assets 19,771,561 19,179,803
Property, Plant, and Equipment, net 3,399,089 3,565,316
Deferred Financing Costs 338,294 369,048
Other Assets 65,122 63,522
Goodwill 1,265,963 1,265,963
Deposits 495,632 448,530
------------ ------------
TOTAL ASSETS $ 25,335,661 $ 24,892,182
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts Payable and Accrued Expenses $ 7,544,130 $ 7,648,426
Notes Payable - Revolver 5,352,845 5,027,463
Notes Payable - Current Portion 127,776 127,776
Notes Payable - Sellers - Current Portion 192,400 192,400
Capital Lease Obligations - Current Portion 413,463 407,228
Due to Sellers 53,694 53,694
Dividends Payable 120,003 120,003
Deferred Gain on Sale - Current Portion 38,033 38,033
Income Taxes Payable 769,396 653,426
------------ ------------
Total current liabilities 14,611,740 14,268,449
Long term liabilities
Notes Payable - Net of Current Portion 613,514 645,458
Notes Payable - Sellers - Net of Current Portion 577,200 1,290,562
Capital Lease Obligations - Net of Current Portion 524,053 552,589
Deferred Tax Liability 461,731 512,937
Deferred Gain on Sale - Net of Current Portion 703,609 713,118
Deferred Rent 86,929 39,371
------------ ------------
Total liabilities 17,578,776 18,022,484
------------ ------------
Commitments and contingencies
Stockholders' Equity
Series A Convertible Preferred - $.001 Par Value, 8,003,716 Shares Authorized -- --
Common Stock - $.001 Par, 120,055,746 Shares Authorized
59,579,998 and 57,269,301 Shares Issued and Outstanding
as of March 31, 2007 and December 31, 2006 respectively 59,580 57,269
Additional Paid-In Capital 8,855,065 7,898,702
Accumulated Deficit (1,157,760) (1,086,273)
------------ ------------
Total Stockholders' Equity 7,756,885 6,869,698
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 25,335,661 $ 24,892,182
============ ============
See notes to condensed consolidated financial statements
2
GALES INDUSTRIES INCORPORATED
Condensed Consolidated Statement of Operations
For the three month period ended March 31,
(unaudited)
2007 2006
---- ----
Net sales $ 7,488,130 $ 8,898,272
Cost of Sales 6,239,484 7,385,566
------------ ------------
Gross profit 1,248,646 1,512,706
Operating costs and expenses:
Selling and marketing 95,342 155,702
General and administrative 1,031,450 849,383
------------ ------------
Income from operations 121,854 507,621
Interest and financing costs 130,954 325,050
Gain on sale of life insurance policy -- (53,047)
Gain on Sale of Real Estate (9,509) --
Other Income (1,446) --
Other Expenses 8,578 --
------------ ------------
(Loss) income before income taxes (6,723) 235,618
Provision for income taxes 64,764 99,253
------------ ------------
Net (Loss) Income (71,487) 136,365
Less: Dividend attributable to preferred stockholders -- 180,000
------------ ------------
Net loss attributable to common stockholders $ (71,487) $ (43,635)
============ ============
Loss per share (basic and diluted) $ (0.00) $ (0.00)
============ ============
Weighted average shares outstanding (basic and diluted) 58,833,681 14,723,421
============ ============
See notes to condensed consolidated financial statements
3
GALES INDUSTRIES INCORPORATED
Condensed Consolidated Statement of Cash Flows
For the three month period ended March 31,
(Unaudited)
2007 2006
---- ----
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (Loss) Income $ (71,487) $ 136,365
Adjustments to Reconcile Net Income (Loss) to Net
Cash Used in Operating Activities:
Depreciation and amortization of property and equipment 166,227 138,111
Bad Debt Expense 28,108 --
Non-Cash Compensation Expense 207,598 25,905
Warrants issued for services 31,303 --
Accrued Interest on Notes Payable-Sellers 16,604 --
Amortization of deferred financing costs 30,754 35,148
Gain on Sale of Real Estate (9,509) --
Deferred Taxes (51,206) (13,573)
Changes in Assets and Liabilities
(Increase) Decrease in Assets:
Accounts receivable 808,050 (1,181,596)
Inventory (608,490) (926,672)
Prepaid expenses and Other Current Assets (223,209) (112,895)
Deposits (596,217) (11,329)
Cash surrender value - officer's life insurance -- 28,460
Other assets (1,600) 84
Increase (Decrease) in Liabilities:
Accounts payable and accrued expenses (66,389) 1,877,767
Income Taxes Payable 115,970 --
Deferred Rent 47,558 --
----------- -----------
NET CASH USED IN OPERATING ACTIVITIES (175,935) (4,225)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Cash Paid for Deposit on Leasehold Improvements (47,102) --
Purchase of property and equipment -- (99,645)
----------- -----------
NET CASH USED IN INVESTING ACTIVITIES (47,102) (99,645)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payment of Principal - Capital Lease Obligations (22,301) (88,944)
Repayment of notes payable to Officers and Sellers (48,100) (148)
Proceeds (repayments) from notes payable, net (31,944) 12,358
Proceeds from Notes Payable-Revolver 325,382 --
----------- -----------
NET CASH PROVIDED BY (USED IN) BY FINANCING ACTIVITIES 223,037 (76,734)
----------- -----------
Net decrease in cash and cash equivalents -- (180,604)
Cash and cash equivalents at the beginning of period -- 1,058,416
----------- -----------
Cash and cash equivalents at the end of period $ -- $ 877,812
=========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest $ 126,616 $ 170,995
=========== ===========
Supplemental disclosure of non-cash investing
financing activity:
Note Payable-Seller and accrued interest
converted to common stock $ 719,773 --
=========== ===========
See notes to condensed consolidated financial statements
4
Note 1. FORMATION AND BASIS OF PRESENTATION
Merger and Acquisition
Ashlin Development Corp. (the "Company" or "Ashlin"), a Florida
corporation and its subsidiary Gales Industries Merger Sub, Inc. ("Merger
Sub"), entered into a Merger Agreement (the "Merger Agreement") on
November 14, 2005 with Gales Industries Incorporated, a privately-held
Delaware corporation ("Original Gales"). On November 30, 2005 (the
"Closing Date") Original Gales merged (the "Merger") into Merger Sub.
Pursuant to the Merger Agreement, the Company issued 10,673,107 shares of
Common Stock (representing 73.6% of Ashlin's outstanding shares) and 900
shares of Series A Convertible Preferred Stock which was initially
convertible into 40,909,500 shares of Common Stock of the Company for all
the issued and outstanding shares of Original Gales the "Successor". As a
result of the transaction, the former stockholders of Original Gales
became the controlling stockholders of Ashlin. Additionally, since Ashlin
had no substantial assets prior to the merger, the transaction was treated
for accounting purposes as a reverse acquisition of a public shell.
Accordingly, for financial statement presentation purposes, Original Gales
is the surviving entity.
On February 15, 2006, Ashlin changed its name to Gales Industries
Incorporated and its state of domicile from Florida to Delaware.
Prior to the closing of the Merger, Original Gales, which did not have any
business operations other than in connection with the transactions
contemplated by the Merger Agreement, acquired (the "Acquisition") all of
the outstanding capital stock of Air Industries Machining, Corporation
("AIM"). Because of the change in ownership, management and control that
occurred in connection with the Acquisition, in accordance with Statement
of Financial Accounting Standards ("SFAS") 141, Business Combinations, the
transaction was accounted for as a purchase. Accordingly, the purchase
price was allocated to assets acquired and liabilities assumed based on
SFAS No. 141. Simultaneously with the Acquisition, AIM entered into a bank
facility (the "Loan Facility") and used proceeds from the Loan Facility to
acquire real estate (the "Real Estate Acquisition").
Prior to the Acquisition, Original Gales raised bridge financing. In
connection with the Acquisition, Original Gales procured a private
placement of Series A Preferred Stock, the proceeds of which were used to
acquire AIM. Immediately prior to the Merger, Original Gales had
outstanding certain bridge notes convertible into shares of Original
Gales' common stock and certain bridge warrants to purchase shares of
Original Gales' common stock.
Original Gales was formed in October 2004 and, since prior to the
acquisition it did not have any business operations or activity other then
the transactions contemplated with the merger and succeeded substantially
all of the business operations of AIM, AIM is the "Predecessor" to
Original Gales.
Certain information and footnote disclosures normally included in annual
financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to such
rules and regulations. The Company believes that the disclosures are
adequate to make the financial information presented not misleading. These
condensed consolidated financial statements should be read in conjunction
with the audited consolidated financial statements and the
5
notes thereto included in the Company's Annual Report on Form 10-KSB for
the year ended December 31, 2006, filed with the Securities and Exchange
Commission on April 2, 2007. All adjustments were of a normal recurring
nature unless otherwise disclosed. In the opinion of management, all
adjustments necessary for a fair statement of the results of operations
for the interim period have been included. The results of operations for
such interim periods are not necessarily indicative of the results for the
full year.
Use of Estimates
In preparing the financial statements, management is required to make
estimates and assumptions that affect the reported amounts in the
financial statements and accompanying notes. The more significant
management estimates are the useful lives of property and equipment,
provisions for inventory obsolescence, accrued expenses and various
contingencies. Actual results could differ from those estimates. Changes
in facts and circumstances may result in revised estimates, which are
recorded in the period in which they become known.
Share-Based Compensation
In December 2004, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") 123(R) "Share Based
Payments" which is a revision of SFAS No. 123 "Accounting for Stock-Based
Compensation" and supersedes Accounting Principles Board Opinion No. 25.
SFAS No. 123(R) requires all share-based payments to employees, including
grants of employee stock options, to be recognized in the statement of
operations based on their fair values at the date of grant. The Company
recorded in the accompanying statement of operations an expense of
$207,598 and $25,905 for the three months period ended March 31, 2007 and
2006, respectively, in accordance with the measurement requirements under
SFAS No. 123(R) (See Note 4). The Company adopted SFAS No. 123(R),
effective in 2005.
Taxes
Effective January 1, 2007, the Company adopted the provisions of the
Financial Accounting Standards Board ("FASB") Interpretation No. 48,
"Accounting for Uncertainty in Income Taxes - an interpretation of FASB
Statement No. 109" ("FIN 48"). There were no unrecognized tax benefits as
of January 1, 2007 and as of March 31, 2007. FIN 48 prescribes a
recognition threshold and a measurement attribute for the financial
statement recognition and measurement of tax positions taken or expected
to be taken in a tax return. For those benefits to be recognized, a tax
position must be more-likely-than-not to be sustained upon examination by
taxing authorities. Management is currently unaware of any issues under
review that could result in significant payments, accruals or material
deviations from its position. The adoption of the provisions of FIN 48 did
not have a material impact on the Company's financial position, results of
operations and cash flows.
6
Recently Issued Accounting Standards
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Liabilities" ("SFAS No. 159"). SFAS No. 159 provides
companies with an option to report selected financial assets and
liabilities at fair value, and establishes presentation and disclosure
requirements designed to facilitate comparisons between companies that
choose different measurement attributes for similar types of assets and
liabilities. The new guidance is effective for fiscal years beginning
after November 15, 2007. The Company is currently evaluating the potential
impact of the adoption of SFAS No. 159 on its financial position and
results of operations.
Note 2. CASH SURRENDER VALUE - LIFE INSURANCE
During the quarter ended March 31, 2006, the Company sold one of its
key-man life insurance policies. Proceeds from the sale of the insurance
policy were $86,000 which was offset by the cash surrender value of
$32,953. The resulting gain of $53,047 was recognized as Other
Non-Operating Income in the accompanying Statement of Operations for the
three month period ended March 31, 2006.
Note 3. Conversion of Notes Payable
On January 26, 2007, the two senior management members exercised their
right to convert their $665,262 notes plus accrued interest of $54,511
into an aggregate of 1,799,432 shares of common stock at a conversion
price of $0.40 per share.
Note 4. SHARE-BASED COMPENSATION ARRANGEMENTS
During 2005, the Company's Board of Directors approved a stock option plan
and reserved 10,000,000 shares of its Common Stock for issuance under the
plan. The stock option plan permits the Company to grant non-qualified and
incentive stock options to employees, directors, and consultants. Awards
granted under the Company's plans vest over three, four, five and seven
years.
The Company accounts for its stock option plans under the measurement
provisions of Statement of Financial Accounting Standards No. 123(R)
(revised 2004), Share-Based Payment ("SFAS 123R"). The fair value of each
option grant is estimated on the date of grant using the Black-Scholes
option pricing model. During the three months ended March 31, 2007 and
2006, 2,280,000 and 0 stock options were granted, respectively.
Certain of the Company's stock options contain features which include
variability in grant prices. A portion of the currently issued stock
options will be exercisable based on average trading prices of the
Company's Common Stock at the end of a given future period. Due to this
variable feature, these stock options are not deemed to be granted for
purposes of applying SFAS 123(R) and accordingly, their fair value will be
calculated and expensed in future periods.
At March 31, 2007 and 2006, 2,463,333 and 790,000 options are vested and
exercisable, respectively. The weighted average exercise price of
exercisable options at March 31, 2007 was $0.43 per share.
7
During the quarter ended March 31, 2007, for services rendered, the Company
accrued the expense related to an aggregate of 20,833 warrants, exercisable
during a five year term, to purchase 20,833 shares of the company's Common
Stock. Such warrants have a "cashless exercise" feature and have varying
exercise prices equal to 120% of the average closing price of the Company's
Common Stock during the month immediately preceding the date of issuance. The
warrants were valued using the Black-Scholes model and the Company recorded an
expense of $5,514 in its consolidated statement of operations for the quarter
ended March 31, 2007. The Company's agreement with this consultant was
terminated during the first week of September 2006.
In addition warrants to acquire 125,000 shares with a grant date of March 16,
2007, were issued to another consulting firm. These warrants are exercisable at
a per share price equal to the average closing price of Company's common stock
for the 20 days preceding the date of grant. These warrants have a cashless
exercise feature and vested on the grant date. The warrants were valued using
the Black-Scholes model and the Company recorded an expense of $25,789 in its
consolidated statement of operations for the quarter ended March 31, 2007.
Note 5. Change in Chairman in of the Board
The Company and its former Executive Chairman entered into a Separation
Agreement and General Release (the "Separation Agreement") effective March 16,
2007, whereby the Chairman resigned from his positions with the Company.
Pursuant to the Separation Agreement, the Employment Agreement between the
Chairman and the Company terminated effective March 16, 2007. In lieu of the
compensation payable to the Chairman pursuant to his Employment Agreement, from
March 16, 2007, to November 30, 2010, the Chairman will be paid $100,000 per
annum; from December 1, 2010 to May 31, 2011, he will be paid $50,000. In
addition, if the Company achieves certain agreed-upon levels of performance he
may receive up to an additional $50,000. These amounts will be expensed in the
period in which services are rendered. Additionally, upon the execution of his
employment agreement the Company granted to the former Chairman options to
purchase 1,250,000 shares of Common Stock, subject to an agreed upon vesting
schedule and exercisable over a ten-year period commencing on the date of grant.
Pursuant to the Separation Agreement, all unvested options then held by the
Executive Chairman, specifically, options to purchase 750,000 shares vested as
of March 16, 2007, and the right to exercise all of his options will terminate
as of March 16, 2008. The exercise price of the 750,000 options that vested as
of March 16, 2007, is $0.673 per shares and based on the Black-Scholes option
pricing model there was an expense of $93,386. This agreement has been further
clarified.
On May 11, 2007, the Company and its former Executive Chairman, entered into a
Letter Agreement, confirming that, due to an oversight between the parties, the
Separation Agreement and Release, dated March 15, 2007, by and between the
Company and this individual (the "Separation Agreement"), failed to indicate
that notwithstanding that the former Chairman was resigning from his positions
with the Company, he would make himself available (i) from time to time for
consultations with members of the Board and senior management of the Company
regarding the business and affairs of the Company, potential acquisitions and
strategic alliances, expansion and other business opportunities and (ii) once
each calendar quarter for meetings to be held in Manhattan, New York, with one
or more members of the Board of the Company to review the Company's strategic
plan.
In March 2007, the Company entered into an Agreement to compensate its new
Chairman for services to be rendered as a director of the Company. Pursuant to
such Agreement the new Chairman will receive a cash payment of $15,000 and will
be compensated at a rate of $175,000 per annum until December 31, 2007, or if
prior to December 31, 2007, until such date as he shall cease to serve as
Chairman. In addition to his cash compensation, this individual was issued
200,000 shares of common stock of the Company, pursuant to a Restricted Stock
Agreement, of which 100,000 vested on the date of grant and the second 100,000
shall vest on December 31, 2007. The Company incurred an expense of $26,000 as a
result of the Restricted Stock Agreement.
8
Note 6. Subsequent Events
On April 16, 2007, we acquired all of the issued and outstanding capital
stock of Sigma Metals, Inc. ("Sigma"), pursuant to that certain Stock Purchase
Agreement, dated as of January 2, 2007, by and among the Company, as purchaser,
and each of the three shareholders of Sigma, as sellers (the "Sellers"), in
exchange for $3,988,501 in cash, three promissory notes, one in favor of each
Seller, in total principal amount of $1,084,173, and 6,604,102 shares of our
Common Stock (at $0.2877 per share equaling $1,900,000).
Sigma Metals is a specialty distributor of strategic metals, primarily
aluminum, stainless steels of various grades, titanium and other exotic end user
specified metals. Sigma's products are sold to both aerospace/defense
contractors as well as commercial accounts throughout the U.S. and numerous
international markets. Customers include the world's largest aircraft
manufacturers, subcontractors, original equipment manufacturers and various
government agencies.
To finance the acquisition of Sigma and provide us with additional working
capital, portions of which may be used in connection with future acquisitions,
we completed a private placement (the "Offering") to accredited investors of our
Series B Convertible Preferred Stock, par value $0.001 per share ("Series B
Preferred Stock") in which we raised gross proceeds of $8,023,000. A first
closing, in which we received gross proceeds of $4,955,000 occurred
simultaneously with the acquisition of Sigma and was entirely devoted to the
acquisition. A second closing occurred on May 3, 2007, in which we received
gross proceeds of $3,068,000 which will be used as working capital and in
connection with future acquisitions.
Taglich Brothers, Inc. acted as Placement Agent in the Offering
("Placement Agent") and received: (i) a sales commission equal to 8% of the
gross proceeds of the Offering, (ii) $25,000 as reimbursement of its actual and
reasonable out-of-pocket expenses incurred in connection with Offering,
including fees and expenses of its counsel, and (iii) warrants (the "Placement
Agent Warrants"), exercisable during a five-year term, to purchase the number of
shares of Common Stock equal to 10% of the number of shares of Common Stock into
which the Preferred Stock sold in the Offering may be converted. The Placement
Agent Warrants have a "cashless exercise" feature and are exercisable at the
price per share equal to the per share conversion price-equivalent with respect
to the Preferred Stock.
On April 19, 2007, in connection with the acquisition of Sigma Metals, the
Company entered into a Third Amendment to the Revolving Credit, Term Loan,
Equipment Line of Credit and Security Agreement. The amendment modified the
terms of the Loan Facility with PNC to allow for Sigma to become a borrower
under the Loan Facility. As a result of Sigma becoming a borrower under the Loan
Facility, Sigma pledged all of its assets and properties to PNC to secure its
obligations under the Loan Facility. In addition, the termination date of the
Loan Facility was extended to April 30, 2010 and the maximum revolving advance
amount was increased by $2,000,000, from $9,000,000 to $11,000,000.
9
Item 2. Management's Discussion and Analysis or Plan of Operation
General
Prior to our recent acquisition of Sigma Metals, Inc., our business
consisted of the manufacture of aircraft structural parts and assemblies
principally for prime defense contractors in the defense/aerospace industry by
our wholly owned subsidiary, Air Industries Machining, Corp. ("AIM").
Approximately 85% of AIM's revenues are derived from sales of parts and
assemblies directed toward military applications, although direct sales to the
military (U.S. and NATO) constitute less than 8.5% of AIM's revenues. The
remaining 15% of revenues represent sales in the airframe manufacturing sector
to major aviation manufacturers.
AIM has evolved from being an individual parts manufacturer to being a
manufacturer of subassemblies (i.e. being an assembly constructor) and being an
engineering integrator. AIM currently produces over 2,400 individual products
(SKU's) that are assembled by a skilled labor force into electromechanical
devices, mixer assemblies, rotor-hub components, rocket launching systems,
arresting gear, vibration absorbing assemblies, landing gear components and many
other subassembly packages.
Sales of parts and services to one customer accounted for approximately
65.5% of AIM's revenue in the first quarter of 2007, and are subject to General
Ordering Agreements which were recently renegotiated and extended through 2013.
Results of Operations
The Management's Discussion and Analysis below discusses our unaudited
results of operations for the quarter ending March 31, 2007 and, since we
acquired Sigma Metals after the quarter was completed, reflects only the
operations of AIM. As a basis for comparison, we have set forth below the our
unaudited results of operations for the quarter ended March 31, 2006.
The, following discussion and analysis should be read in conjunction with
the condensed consolidated financial statements and notes, included with this
report.
10
- --------------------------------------------------------------------------------
Three Months Ended Three Months Ended
March 31, 2007 March 31, 2006
(actual) (actual)
- --------------------------------------------------------------------------------
Net Sales $ 7,488,130 $ 8,898,272
Cost of Sales 6,239,484 7,385,566
----------- -----------
Gross Profit 1,248,646 1,512,706
Selling and Marketing Expenses 95,342 155,702
G&A Expense 1,031,450 849,383
Interest Expense 130,954 325,050
Gain on sale of life insurance policy -- (53,047)
Gain on sale of real estate (9,509) --
Other Income (1,446)
Other Expenses 8,578 --
(Loss) Income before Income Taxes (6,723) 235,618
Provision for Income Taxes 64,764 99,253
Net (Loss) Income (71,487) 136,365
Less Dividend Attributable to
Preferred Stock -- 180,000
Net Loss Attributable
to Common Stock $ (71,487) $ (43,635)
- --------------------------------------------------------------------------------
Results of Operations
Three months ended March 31, 2007 compared with three months ended March 31,
2006
Net Sales. Net sales were $7,488,130 for the three months ended March 31,
2007 ("First Quarter 2007"), a decrease of $1,410,142 (15.8%) from net sales of
$8,898,272 for the three months ended March 31, 2006 ("First Quarter 2006"). The
decrease in net sales was primarily attributable to decreased shipments of parts
and related defense components to one customer which caused the portion of our
revenues derived from such customer to decrease from approximately 69% in the
First Quarter 2006 to approximately 65.5% in the First Quarter 2007.
11
Gross Profit. In the First Quarter 2007, gross profit was $1,248,646 or
16.7% of net sales, compared to gross profit of $1,512,706 or 17.0% of net sales
in First Quarter 2006. The decrease in gross profit primarily reflects the
decrease in net sales. The decrease in gross profit as a percentage of net sales
represents a slight decrease in the sales of higher margin products.
Selling and Marketing Expenses. Selling and marketing expenses were
$95,342 in First Quarter 2007, a decrease of $60,360 or 38.8% from selling and
marketing expenses of $155,702 in First Quarter 2006. The decrease in selling
and marketing expenses were primarily attributable to lower sales and a change
in the mix of products shipped, which translated into reduced cost of shipping
supplies and a concerted effort to control the costs of meetings and
conferences.
General and Administrative Expenses. General and administrative expenses
were $1,031,450 in First Quarter 2007, an increase of $182,067 or 21.4% from
general and administrative expenses of $849,383 in First Quarter 2006. The
increase primarily reflects the addition of professional staff to provide
adequate financial reporting and reporting capabilities.
Interest and Financing Costs. Interest and financing costs were $130,954
in First Quarter 2007, a decrease of $194,096 or 59.7% from interest and
financing costs of $325,050 in First Quarter 2006. The decrease in interest and
financing costs resulted from the decrease in the Company's debt outstanding as
a result of its sale leaseback of its real estate.
Gain on the Sale of Life Insurance Policy. In First Quarter 2006 there was
a one-time gain on the sale of a life insurance policy of $53,047. There was no
such gain in the First Quarter of 2007.
Gain on sale of real estate. The company was required to defer recognition
of a portion of the gain on the sale of its real estate in the fourth quarter of
2006. This gain is being recognized ratably over the twenty year term of its
lease for the real estate. Accordingly, the Company recognized $9,509 during the
First Quarter of 2007.
Other Expenses. Other expenses in the First Quarter 2007 of $8,578 are
primarily franchise taxes There were no "other expenses" incurred during the
First Quarter of 2006.
Income (Loss) before Income Taxes. The Loss before the impact of income
taxes was $6,723 in First Quarter 2007 reflecting lower quarterly sales compared
to income before the provision for income taxes of $235,618 in First Quarter
2006. There was an income tax expense of $64,764 for the First Quarter 2007 as
compared to an income tax expense of $99,253 for First Quarter 2006
Net Income. Net income decreased from $136,365 in First Quarter 2006 to a
net loss of $71,487 in First Quarter 2007. The decrease in net income was
primarily attributable to decreased shipments of parts and related defense
components to one customer which caused the portion of revenues derived from
such customer to decrease. Additionally the decrease was due to the provision
for income taxes in the amount of $64,764 reflecting book to tax timing
differences.
Net Loss Attributable to Common Stock. The dividend payable on the
Company's Series A preferred stock in the First Quarter 2006 exceeded the
Company's net income during such period, resulting in a net loss attributable to
common stock of $43,635. Our Series A preferred stock was automatically
converted into common stock in August 2006, so there was no comparable charge in
the First Quarter 2007.
12
Impact of Inflation
Inflation has not had a material effect on our results of operations.
Liquidity and Capital Resources
At March 31, 2007 and December 31 2006, as a result of our loan agreement
with PNC Bank, which requires that all cash balances be swept on a daily basis,
we had no cash or cash equivalents. At March 31, 2007, we had working capital of
$5,159,821 as compared to working capital of $4,911,354 as of December 31, 2006.
Subject to our need for cash to complete the acquisition of Welding Metallurgy,
we believe that our cash requirements for operations in the next twelve months
will be met by revenues from operations, cash reserves, and amounts available
under the Loan Facility. We only recently completed the acquisition of Sigma
Metals and although we believe that Sigma Metals will generate cash from
operations during the balance of 2007, it is possible that it will be a net user
of cash in the immediate future as it coordinates its operations with our
existing business.
We used $175,935 in operations during the quarter ended March 31, 2007.
The use of cash in operations reflects an increase in our inventory of $608,490,
an increase in our deposits with vendors of $596,217, an increase in prepaid
expenses of $223,209, and a decrease in our accounts payable and accrued
expenses of $66,389, partially offset by a reduction in our accounts receivable
of $808,050. The increase in inventory resulted, in part, from work flow
disruptions at our principal customer which prevented us from shipping all of
the inventory originally anticipated. The increase in deposits with vendors and
decrease in accounts payable is due to advanced payment requirements imposed by
certain suppliers. As a result of efforts to reduce amounts due these suppliers,
we anticipate that they may not require prepayments in the immediate future.
Prior to the acquisition by us, AIM financed its operations and
investments principally through revenues from operations. As a private company,
AIM did not have many of the expenses which we have as a public company. Because
AIM currently represent all of our operations, AIM will have to bear
significantly increased cash requirements relating to the preparation of
financial statements, compliance with requirements under the Securities Exchange
Act of 1934, the registration of shares under the Securities Act of 1933, and
other requirements applicable to public companies. We expect such cash
requirements to be approximately $1,000,000 in 2007, since we are obligated to
comply with Section 404 of Sarbanes-Oxley.
In connection with the acquisition of AIM, we incurred notes payable
obligations to the sellers in the aggregate principal amount of $1,627,262, of
which $665,262 were in the form of convertible promissory notes which were, on
January 26, 2007, converted by the holders into 1,799,432 shares of common stock
at a conversion price of $0.40 per share. The principal amount of the remaining
note is $769,600 and is repayable by us in equal quarterly installments of
$48,100 principal plus interest.
The terms of the PNC Loan Facility are set forth in our Consolidated
Financial Statements included in our Annual Report on Form 10-KSB for the year
ended December 31, 2006 . Under the PNC Loan Facility, as of March 31, 2007, we
had revolving loan balances of $5,352,845 and a term loan balance of $330,090
and an equipment loan balance of $411,200. In addition, as of March 31, 2007 we
had capital lease obligations to other parties totaling $937,516.
As of March 31, 2007, one customer accounted for approximately 35.3% of
our accounts receivable. In addition, this customer accounted for approximately
65.5% of net sales for the quarter ended March 31, 2007. In the event such
customer is unable or unwilling to pay amounts due or in the event our
relationship with such customer is severed or negatively affected, our results
of operations will be materially adversely affected and we may not have the
resources to meet our capital obligations.
13
On April 16, 2007, we acquired all of the issued and outstanding capital
stock of Sigma Metals pursuant to a Stock Purchase Agreement dated as of January
2, 2007, by and among the Company, as purchaser, and each of the three
shareholders of Sigma Metals, as sellers (the "Sellers"), in exchange for
$3,988,501 in cash, three promissory notes, one in favor of each Seller, in
total principal amount of $1,084,173, and 6,604,102 shares of our Common Stock
(at $0.2877 per share equaling $1,900,000).
Sigma Metals is a specialty distributor of strategic metals, primarily
aluminum, stainless steels of various grades, titanium and other exotic end user
specified metals. Sigma's products are sold to both aerospace/defense
contractors as well as commercial accounts throughout the U.S. and numerous
international markets. Customers include the world's largest aircraft
manufacturers, subcontractors, original equipment manufacturers and various
government agencies.
14
To finance the acquisition of Sigma and provide us with additional working
capital, portions of which may be used in connection with future acquisitions,
we completed a private placement (the "Offering") to accredited investors of our
Series B Convertible Preferred Stock, par value $0.001 per share ("Series B
Preferred Stock") in which we raised gross proceeds of $8,023,000. A first
closing, in which we received gross proceeds of $4,955,000 occurred
simultaneously with the acquisition of Sigma and was entirely devoted to the
acquisition. A second closing occurred on May 3,2007, in which we received gross
proceeds of $3,068,000, which will be used as working capital or in connection
with future acquisitions. The holders of the Series B Preferred Stock are
entitled to a cumulative annual dividend of 7% per annum which under certain
circumstances, is payable in shares of the Company's stock. The shares of Series
B Preferred Stock issued in the offering are initially convertible into
29,005,785 shares of the Company's common stock.
Taglich Brothers, Inc. acted as Placement Agent in the Offering
("Placement Agent") and received: (i) a sales commission equal to 8% of the
gross proceeds of the Offering, (ii) $25,000 as reimbursement of its actual and
reasonable out-of-pocket expenses incurred in connection with Offering,
including fees and expenses of its counsel, and (iii) warrants (the "Placement
Agent Warrants"), exercisable during a five-year term, to purchase the number of
shares of Common Stock equal to 10% of the number of shares of Common Stock into
which the Preferred Stock sold in the Offering may be converted. The Placement
Agent Warrants have a "cashless exercise" feature and are exercisable at the
price per share equal to the per share conversion price-equivalent with respect
to the Preferred Stock.
In connection with the acquisition of Sigma, we also amended and modified
the terms of the Loan Facility with PNC to allow for Sigma to become a borrower
under the Loan Facility. As a result of Sigma becoming a borrower under the Loan
Facility, Sigma pledged all of its assets and properties to PNC to secure its
obligations under the Loan Facility. In addition to the foregoing the
termination date of the Loan Facility was extended to April 30, 2010 and the
maximum revolving advance amount was increased by $2,000,000, from $9,000,000 to
$11,000,000.
On March 9, 2007, we entered into a Stock Purchase Agreement (the "Welding
Agreement") to acquire Welding Metallurgy, Inc. for aggregate consideration of
$6,050,000, subject to adjustment for working capital, payable in a combination
of cash, a secured promissory note and shares of the Company's common stock. The
Company currently anticipates closing this acquisition in mid-June, 2007,
subject to continued due diligence by the Company and various conditions,
including the ability of the Company to obtain the consent of its lender and
such additional debt or equity financing as may be necessary to close the
transaction. There can be no assurance that the Company will be able to close
this acquisition on the anticipated closing dates, if at all.
15
Forward Looking Statements
The Company desires to take advantage of the "safe harbor" provisions of
the Private Securities Litigation Reform Act of 1995. This report contains a
number of forward-looking statements that reflect management's current views and
expectations with respect to our business, strategies, future results and events
and financial performance. All statements made in this Report other than
statements of historical fact, including statements that address operating
performance, events or developments that management expects or anticipates will
or may occur in the future, including statements related to distributor
channels, volume growth, revenues, profitability, adequacy of funds from
operations, statements expressing general optimism about future operating
results and non-historical information, are forward looking statements. In
particular, the words "believe," "expect," "intend," " anticipate," "estimate,"
"may," "will," variations of such words, and similar expressions identify
forward-looking statements, but are not the exclusive means of identifying such
statements and their absence does not mean that the statement is not
forward-looking. These forward-looking statements are subject to certain risks
and uncertainties, including those discussed below. Our actual results,
performance or achievements could differ materially from historical results as
well as those expressed in, anticipated or implied by these forward-looking
statements. We do not undertake any obligation to revise these forward-looking
statements to reflect any future events or circumstances.
Readers should not place undue reliance on these forward-looking
statements, which are based on management's current expectations and projections
about future events, are not guarantees of future performance, are subject to
risks, uncertainties and assumptions (including those described below) and apply
only as of the date of this report. Our actual results, performance or
achievements could differ materially from the results expressed in, or implied
by, these forward-looking statements. Factors that could cause or contribute to
such differences include, but are not limited to, those discussed below in "Risk
Factors" as well as those discussed elsewhere in this report, and the risks
discussed in our press releases and other communications to shareholders issued
by us from time to time which attempt to advise interested parties of the risks
and factors that may affect our business. We undertake no obligation to publicly
update or revise any forward-looking statements, whether as a result of new
information, future events or otherwise.
Risk Factors
If any of the events described below occurs, our operating results would
be dramatically adversely affected, which in turn could cause the price of our
Common Stock to decline, perhaps significantly. Further, we may not be able to
continue our operations.
Risks of the Acquisition
There can be no assurance that any benefits to the businesses of AIM,
Sigma Metals and such other entities we may acquire, will be achieved by their
acquisition by a public company, or that their results of operations will not be
adversely impacted by the transactions. The process of combining the
organizations of diverse private companies into a public company could cause
fundamental changes in their businesses, which could have an adverse effect on
the results of their operations.
16
The past results of AIM's and Sigma's operations are not necessarily
indicative of the future results of our operations. In addition, AIM's and
Sigma's results of operations will be affected by the significant increase in
expenses relating to financial statements preparation and other requirements
applicable to publicly traded companies.
The inability to successfully manage the growth of our business may have a
material adverse effect on our business, results or operations and financial
condition.
We expect to experience growth in the number of employees and the scope of
our operations as a result of internal growth and acquisitions. Such activities
could result in increased responsibilities for management.
Our future success will be highly dependent upon our ability to manage
successfully the expansion of operations. Our ability to manage and support our
growth effectively will be substantially dependent on our ability to implement
adequate improvements to financial, inventory, management controls, reporting,
union relationships, order entry systems and other procedures, and hire
sufficient numbers of financial, accounting, administrative, and management
personnel. There can be no assurance that we will be able to identify, attract
and retain experienced accounting and financial personnel.
Our future success depends on our ability to address potential market
opportunities and to manage expenses to match our ability to finance operations.
The need to control our expenses will place a significant strain on our
management and operational resources. If we are unable to control our expenses
effectively, our business, results of operations and financial condition may be
adversely affected.
The unsuccessful integration of a business or business segment we acquire could
have a material adverse effect on our results.
As part of our business strategy, we expect to acquire assets and
businesses relating to or complementary to our operations. These acquisitions
will involve risks commonly encountered in acquisitions. These risks include,
among other things, exposure to unknown liabilities of the acquired companies,
additional acquisition costs and unanticipated expenses. Our quarterly and
annual operating results will fluctuate due to the costs and expenses of
acquiring and integrating new businesses. We may also experience difficulties in
assimilating the operations and personnel of acquired businesses. Our ongoing
business may be disrupted and our management's time and attention diverted from
existing operations. Our acquisition strategy will likely require additional
debt or equity financing, resulting in additional leverage or dilution of
ownership. We cannot assure you that any future acquisition will be consummated,
or that if consummated, that we will be able to integrate such acquisition
successfully.
17
Any reduction in government spending on defense could materially adversely
impact our revenues, results of operations and financial condition.
There are risks associated with programs that are subject to appropriation
by Congress, which could be potential targets for reductions in funding to pay
for other programs. Future reductions in United States Government spending on
defense or future changes in the kind of defense products required by United
States Government agencies could limit demand for our products, which would have
a materially adverse effect on our operating results and financial condition.
In addition, potential shifts in responsibilities and functions within the
defense and intelligence communities could result in a reduction of orders for
defense products by segments of the defense industry that have historically been
our major customers. As a result, demand for our products could decline,
resulting in a decrease in revenues and materially adversely affecting our
operating results and financial condition.
We depend on revenues from a few significant relationships, in particular with
Sikorsky Aircraft, and any loss, cancellation, reduction, or interruption in
these relationships could harm our business.
In general, AIM has derived a material portion of its revenue from one or
a limited number of customers. We expect that in future periods we may enter
into contracts with customers which represent a significant concentration of our
revenues. If such contracts were terminated, our revenues and net income could
significantly decline. Our success will depend on our continued ability to
develop and manage relationships with significant customers. Sikorsky accounted
for approximately 65.5% of our sales during the quarter ended March 31, 2007.
Any adverse change in our relationship with such customer could have a material
adverse effect on our business. Although we are attempting to expand our
customer base, we expect that our customer concentration will not change
significantly in the near future. The markets in which we sell our products are
dominated by a relatively small number of customers who have contracts with
United States governmental agencies, thereby limiting the number of potential
customers. We cannot be sure that we will be able to retain our largest
customers or that we will be able to attract additional customers, or that our
customers will continue to buy our products in the same amounts as in prior
years. The loss of one or more of our largest customers, any reduction or
interruption in sales to these customers, our inability to successfully develop
relationships with additional customers or future price concessions that we may
have to make, could significantly harm our business.
18
Continued competition in our markets may lead to a reduction in our revenues and
market share.
The defense and aerospace component manufacturing market is highly
competitive and we expect that competition will continue to increase. Current
competitors have significantly greater technical, manufacturing, financial and
marketing resources than we do. We expect that more companies will enter the
defense and aerospace component manufacturing market. We may not be able to
compete successfully against either current or future competitors. Increased
competition could result in reduced revenue, lower margins or loss of market
share, any of which could significantly harm our business.
Our future revenues are inherently unpredictable, our operating results are
likely to fluctuate from period to period and if we fail to meet the
expectations of securities analysts or investors, our stock price could decline
significantly.
Our quarterly and annual operating results are likely to fluctuate
significantly due to a variety of factors, some of which are outside our
control. Accordingly, we believe that period-to-period comparisons of our
results of operations are not meaningful and should not be relied upon as
indications of performance. Some of the factors that could cause quarterly or
annual operating results to fluctuate include conditions inherent in government
contracting and our business such as the timing of cost and expense recognition
for contracts, the United States Government contracting and budget cycles,
introduction of new government regulations and standards, contract closeouts,
variations in manufacturing efficiencies, our ability to obtain components and
subassemblies from contract manufacturers and suppliers, general economic
conditions and economic conditions specific to the defense market. Because we
base our operating expenses on anticipated revenue trends and a high percentage
of our expenses are fixed in the short term, any delay in generating or
recognizing forecasted revenues could significantly harm our business.
Fluctuations in quarterly results, competition or announcements of extraordinary
events such as acquisitions or litigation may cause earnings to fall below the
expectations of securities analysts and investors. In this event, the trading
price of our Common Stock could significantly decline. In addition, there can be
no assurance that an active trading market will develop or be sustained for our
Common Stock. These fluctuations, as well as general economic and market
conditions, may adversely affect the future market price of our Common Stock, as
well as our overall operating results.
We may lose sales if our suppliers fail to meet our needs.
Although we procure most of our parts and components from multiple sources
or believe that these components are readily available from numerous sources,
certain components are available only from sole sources or from a limited number
or sources. While we believe that substitute components or assemblies could be
obtained, use of substitutes would require development of new suppliers or would
require us to re-engineer our products, or both, which could delay shipment of
our products and could have a materially adverse effect on our operating results
and financial condition.
Attracting and retaining key personnel is an essential element of our future
success.
Our future success depends to a significant extent upon the continued
service of our executive officers and other key management and technical
personnel and on our ability to continue to attract, retain and motivate
executive and other key employees, including those in managerial, technical,
marketing and information technology support positions. Attracting and retaining
skilled workers and qualified sales representatives is also critical to us.
Experienced management and technical, marketing and support personnel in the
defense and aerospace industries are in demand and competition for their talents
is intense. The loss of the services of one or more of our key employees or our
failure to attract, retain and motivate qualified personnel could have a
material adverse effect on our business, financial condition and results of
operations.
19
Terrorist acts and acts of war may seriously harm our business, results of
operations and financial condition.
United States and global responses to the Middle East conflict, terrorism,
perceived nuclear, biological and chemical threats and other global crises
increase uncertainties with respect to U.S. and other business and financial
markets. Several factors associated, directly or indirectly, with the Middle
East conflict, terrorism, perceived nuclear, biological and chemical threats,
and other global crises and responses thereto, may adversely affect the Company.
While some of our products may experience greater demand as a result of
increased U.S. Government defense spending, various responses could realign U.S.
Government programs and affect the composition, funding or timing of our
government programs and those of our customers. U.S. Government spending could
shift to defense programs in which we and our customers do not participate.
Given the current Middle East and global situation, U.S. defense spending is
generally expected to remain high over the next several years. Increased defense
spending does not necessarily correlate to increased business, because not all
the programs in which we participate or have current capabilities may be
earmarked for increased funding.
Terrorist acts of war (wherever located around the world) may cause damage
or disruption to us, our employees, facilities, partners, suppliers,
distributors and resellers, and customers, which could significantly impact our
revenues, expenses and financial condition. The potential for future terrorist
attacks, the national and international responses to terrorist attacks, and
other acts of war or hostility have created many economic and political
uncertainties, which could adversely affect our business and results of
operations in ways that cannot presently be predicted. In addition, as a company
with headquarters and significant operations located in the United States, we
may be impacted by actions against the United States.
20
Our indebtedness may affect operations.
As described under "Management's Discussion and Analysis or Plan of
Operations - Financial Liquidity and Capital Resources", we have significant
indebtedness. We are significantly leveraged and our indebtedness is substantial
in relation to our stockholders' equity. Our ability to make principal and
interest payments will depend on future performance, which is subject to many
factors, some of which are outside our control. In addition, our Loan Facility
is secured by substantially all of our assets. In the case of a continuing
default under our Loan Facility, the lender will have the right to foreclose on
each of AIM's and Sigma's assets, which would have a material adverse effect on
the Company. Payment of principal and interest on the Loan Facility may limit
our ability to pay cash dividends to shareholders and the documents governing
the Loan Facility prohibit the payment of cash dividends in certain situations.
Our leverage may also adversely affect our ability to finance future operations
and capital needs, may limit our ability to pursue business opportunities and
may make our results of operations more susceptible to adverse economic
conditions.
We may issue shares of our capital stock or debt securities to complete an
acquisition, which would reduce the equity interest of our stockholders.
We will, in all likelihood, issue additional shares of our common stock or
preferred stock, or a combination of common and preferred stock, to complete
acquisitions. The issuance of additional shares of our Common Stock or any
number of shares of our preferred stock may significantly reduce the equity
interest of our current stockholders, may subordinate the rights of holders of
our Common Stock if preferred stock is issued with rights senior to the Common
Stock and may adversely affect prevailing market prices for our Common Stock.
Similarly, if we issue debt securities, it could result in default and
foreclosure on our assets if our operating revenues after an acquisition were
insufficient to pay our debt obligations, acceleration of our obligations to
repay the indebtedness even if we have made all principal and interest payments
when due if the debt security contains covenants that require the maintenance of
certain financial ratios or reserves and any such covenant is breached without a
waiver or renegotiation of that covenant and our inability to obtain additional
financing, if necessary, if the debt security contains covenants restricting our
ability to obtain additional financing while such security is outstanding.
Because of our limited resources and the significant competition for
acquisitions, we may not be able to consummate an acquisition with growth
potential, if at all.
We expect to encounter intense competition from other entities having a
business objective similar to ours, including venture capital funds, leveraged
buyout funds and operating businesses competing for acquisitions. Many of these
entities are well established and have extensive experience in identifying and
effecting business combinations directly or through affiliates. Many of these
competitors possess greater technical, human and other resources than we do and
our financial resources will be relatively limited when contrasted with those of
many of these competitors. While we believe that there are numerous potential
target businesses that we could acquire, our ability to compete in acquiring
certain target businesses will be limited by our available financial resources.
This inherent competitive limitation gives others an advantage in pursuing the
acquisition of certain target businesses.
21
We may be unable to obtain additional financing, if required, to complete an
acquisition or to fund the operations and growth of any business acquired, which
could compel us to abandon a particular prospective acquisition.
If we require additional financing to complete an acquisition, we cannot
assure you that such financing would be available on acceptable terms, if at
all. To the extent that additional financing proves to be unavailable when
needed to consummate a particular acquisition, we would be compelled to
restructure the transaction or abandon that particular acquisition. In addition,
if we consummate an acquisition, we may require additional financing to fund the
operations or growth of the business acquired. The failure to secure additional
financing could have a material adverse effect on the continued development or
growth of our business.
There is only a limited public market for our securities.
The trading market for our Common Stock is limited and conducted on the
OTC Bulletin Board. Our Common Stock is very thinly traded. There can be no
assurance that we will ever achieve a listing of our securities on Nasdaq or a
stock exchange or that a more active trading market will ever develop, or, if
developed, that it will be sustained.
If our common stock becomes subject to the SEC's penny stock rules,
broker-dealers may experience difficulty in completing customer transactions and
trading activity in our securities may be adversely affected.
If at any time we have net tangible assets of $5,000,000 or less and our
common stock has a market price per share of less than $5.00, transactions in
our Common Stock may be subject to the "penny stock" rules promulgated under the
Securities Exchange Act of 1934. If our Common Stock falls within the definition
of penny stock and is subject to rules that impose additional sales practice
requirements on broker-dealers who sell such securities to persons other than
established customers and accredited investors (generally those with assets in
excess of $1,000,000, or annual incomes exceeding $200,000 or $300,000, together
with their spouse).
22
For transactions covered by these rules, the broker-dealer must make a
special suitability determination for the purchase of such securities and have
received the purchaser's prior written consent to the transaction. Additionally,
for any transaction, other than exempt transactions, involving a penny stock,
the rules require the delivery, prior to the transaction, of a risk disclosure
document mandated by the SEC relating to the penny stock market. The
broker-dealer also must disclose the commissions payable to both the
broker-dealer and the registered representative, current quotations for the
securities and, if the broker-dealer is the sole market-maker, the broker-dealer
must disclose this fact and the broker-dealer's presumed control over the
market. Finally, monthly statements must be sent disclosing recent price
information for the penny stock held in the account and information on the
limited market in penny stocks. Consequently, the "penny stock" rules may
restrict the ability of broker-dealers to sell the Company's Common Stock and
may affect the ability of investors to sell our Common Stock in the secondary
market. Such rules may also cause fewer broker-dealers to be willing to make a
market in our Common Stock, and it may affect the level of news coverage we
receive.
Potential Adverse Effect on Market Price of Securities from Future Sales of
Common Stock
Future sales of Common Stock pursuant to a registration statement or Rule
144 under the Securities Act, or the perception that such sales could occur,
could have an adverse effect on the market price of the Common Stock. We filed a
Registration Statement on form SB-2 covering the resale by selling security
holders of more than 60,000,000 shares of Common Stock that was declared
effective in August 2006. In addition, we registered, on Form S-8 under the
Securities Act an additional 10,000,000 shares of Common Stock, which are the
shares available for issuance under our 2005 Stock Incentive Plan, of which, as
of March 31, 2007, we have granted stock options to purchase 5,975,000 shares of
our Common Stock. In connection with the acquisition of Sigma Metals we issued
our Series B Preferred Stock which is convertible into 29,005,785 shares of our
common stock which we are obligated to register for resale under the Securities
Act. In addition, shares of our Common Stock held for one year or more will be
eligible for public resale pursuant to Rule 144. The number of our shares
available for sale pursuant to registration statements or Rule 144 is enormous
relative to the trading volume of our shares. Any attempt to sell a substantial
number if our shares will severely depress the market price of our common stock.
In addition, we may use our capital stock in the future to finance acquisitions
and to compensate employees and management, which will further dilute the
interests of our existing shareholders and could eventually significantly
depress the trading price of our Common Stock.
Effect of Stock Options
Our 2005 Stock Incentive Plan allows for the issuance of up to 10,000,000
shares of Common Stock, either as stock grants or options, to employees,
officers, directors, advisors and consultants of the Company. As of March 31,
2007, 6,380,000 options to purchase shares of common stock were outstanding
under our 2005 Stock Incentive Plan. The committee administering such plans will
have sole authority and discretion to grant options under such plans. We may
grant options which become immediately exercisable in the event of a change in
control of the Company and in the event of certain mergers and reorganizations
of the Company. The existence of such options could limit the price that certain
investors might be willing to pay in the future for shares of our Common Stock
and may have the effect of delaying or preventing a change in control of the
Company. The issuance of additional shares upon the exercise of such options
could also decrease the amount of earnings and assets available for distribution
to the holders of the Common Stock and could result in the dilution of voting
power of the Common Stock.
23
Prior to November 30, 2005, AIM, and prior to April 16, 2007, Sigma, was not
subject to Sarbanes-Oxley regulations and, therefore, may have lacked the
financial controls and procedures of public companies.
Neither AIM nor Sigma Metals, and in all likelihood, such other entities
we may acquire in the immediate future, had the internal or financial control
infrastructure necessary to meet the standards of a public company, including
the standards required by the Sarbanes Oxley Act of 2002 ("Sarbanes Oxley").
Because AIM and Sigma Metals were not subject to Sarbanes Oxley, their internal
and financial controls reflected their status as non-public companies and they
did not have the internal infrastructure necessary to complete an attestation
about its financial controls that would be required under Section 404 of
Sarbanes Oxley. We are now required to comply with portions of Sarbanes Oxley.
There can be no assurance that we will be able to comply with all of the
requirements of Sarbanes Oxley on a timely basis and currently estimate that the
costs of complying with Sarbanes Oxley and other requirements associated with
being a public company were approximately $750,000 during calendar year 2006,
and will likely increase as we adopt procedures necessary to comply with Section
404 of Sarbanes Oxley.
24
Item 3. Controls and Procedures
As of the end of the period covered by this report, our management,
including our principal executive officer and our principal financial officer,
have conducted an evaluation of the effectiveness of our disclosure controls and
procedures (as defined in Rule 13a-15 under the Securities Exchange Act of
1934). Based upon that evaluation, our principal executive officer and our chief
financial officer have concluded that our disclosure controls and procedures are
effective in timely alerting them of material information relating to us that is
required to be disclosed by us in the reports we file or submit under the
Exchange Act.
Because AIM was subject to stringent performance criteria imposed by its
customers and as a consequence of its government contracts, in our management's
estimation, its disclosure controls and procedures were superior to those of
most privately held companies of comparable size. We only recently completed our
acquisition of Sigma Metals and are continuing our evaluation of its financial
systems commenced during the due diligence period prior to acquisition. The
controls and procedures of AIM and Sigma Metals were not designed to facilitate
the external inancial reporting required of a publicly held company. Although no
material weaknesses were foundin our disclosure controls and procedures as of
March 31, 2007 to ensure the reliability of future financial reports, our
management has determined to complete the implementation of a total financial
and operating control system that AIM installed during 2005, and to review the
financial systems of Sigma Metals thoroughly to determine what modifications to
its systems are required to enable us to fulfill our reporting obligations. In
addition, management has determined to hire support personnel experienced with
the reporting requirements imposed upon public companies to facilitate the
timely preparation of accurate financial reports. Except for these planned
changes and those resulting from the acquisition of Sigma Metals, there have
been no significant changes made in our internal controls or in other factors
that could significantly affect our internal controls subsequent to March 31,
2007 or during the quarter ended March 31, 2007.
25
PART II
OTHER INFORMATION
Item 1. Legal Proceedings
The Company was involved in litigation with J.C. Herbert Bryant, III, a
former officer, director and shareholder of the Company, and KMS-Thin Tab 100,
Inc., which was settled in September 2002. As part of the settlement, the
Company entered into a distribution agreement with KMS permitting it to purchase
certain products from the Company and to exclusively distribute those products
in Florida from Orlando south. In October 2003, the Company terminated the
distribution agreement with KMS. On December 1, 2003, the Company filed suit
against KMS in the Palm Beach County Circuit Court for breach of contract,
trademark infringement and for a declaration of rights that the distribution
agreement is terminated. KMS answered the complaint and filed its own
counterclaim for fraud in the inducement, trademark infringement, dilution and
fraudulent misrepresentation; the fraud-based counterclaims were dismissed with
prejudice by the Court on summary judgment. KMS subsequently amended its
counterclaim to allege a breach of contract under the distribution agreement. In
January 2005, the State Court in Florida ruled that neither party should prevail
and rejected a request for attorney's fees by KMS of approximately $60,000. KMS
subsequently filed a notice of appeal. Subsequent to the Company's emergence
from Bankruptcy, KMS requested that the Bankruptcy Court reopen our bankruptcy
case and award it the attorney's fees previously rejected by the Florida State
Court. The Bankruptcy Court granted the motion in so far as it allowed KMS to
prosecute in the Fourth District Court of Appeal in Florida its appeal of the
State Court decision. Subsequently, KMS filed its appeal and brief with the
Fourth District seeking attorney's fees. On April 25, 2007, the Fourth District
Court of Appeals issued a per curiam opinion affirming the lower court's
determination that neither party should be awarded attorney's fees.
Item 4. Unregistered Sales of Equity Securities and Use of Proceeds.
In connection with the acquisition of AIM, we issued notes payable
in the aggregate principal amount of $1,627,262, of which $665,262 were in the
form of convertible promissory notes. Effective January 26, 2007, these notes
were converted by the holders into 1,799,432 shares of common stock at a
conversion price of $0.40 per share. There were no cash proceeds to us as a
result of these conversions.
Inasmuch as the convertible promissory notes were held by
individuals who are officers and directors of the Company, we believe the
conversion of the notes was exempt from the registration requirements of the
Securities Act pursuant to Section 4(2) thereof.
26
Item 6. Exhibits
The following exhibits are filed as part of this report:
Exhibit No. Description of Exhibit
10.1 Separation Agreement and General Release between the Company and
Michael A. Gales dated March 15, 2007 (Incorporated by reference to
Report of Form 8-K dated march 15, 2007.
10.2 Letter of Clarification between the Company and Michael A. Gales
dated May 11, 2007
31.1 -- Certification of Chief Executive Officer pursuant to Rule 13a-14(a)
under the Securities Exchange Act of 1934.
31.2 -- Certification of Chief Financial Officer pursuant to Rule 13a-14(a)
under the Securities Exchange Act of 1934.
32.1 -- Certification of Chief Executive Officer pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350).
32.2 -- Certification of Chief Financial Officer pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350).
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the
Registrant has caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
Dated: May 15, 2007
GALES INDUSTRIES INCORPORATED
By: /s/ Peter D. Rettaliata
--------------------------------------
Peter D. Rettaliata
President and Chief Executive Officer
/s/ Louis A. Giusto
--------------------------------------
Louis A. Giusto
Vice Chairman, Chief Financial Officer
and Treasurer (Principal Financial and
Accounting Officer)
27
EXHIBIT INDEX
Exhibit No. Description of Exhibit
10.2 Letter of Clarification between the Company and Michael A. Gales
dated May 11, 2007
31.1 -- Certification of Chief Executive Officer pursuant to Rule 13a-14(a)
under the Securities Exchange Act of 1934.
31.2 -- Certification of Chief Financial Officer pursuant to Rule 13a-14(a)
under the Securities Exchange Act of 1934.
32.1 -- Certification of Chief Executive Officer pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350).
32.2 -- Certification of Chief Financial Officer pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350).
LETTER OF CLARIFICATION
The undersigned are parties to a Separation Agreement and Release (the
"Separation Agreement") entered into on March 15, 2007, and are exchanging this
letter agreement to clarify their mutual expectations as set forth herein.
Capitalized terms used but not defined herein have the meanings ascribed thereto
in the Separation Agreement.
1. Clarification. The Separation Agreement provides for the termination of
Executive's employment by the Company and his resignation from its Board of
Directors in return for consideration provided therein. By their signatures
below the parties confirm that due to a scrivener's error there were omitted
from the Separation Agreement provisions to the effect that: notwithstanding the
terms and conditions of the Separation Agreement, during the period commencing
on the Execution Date and ending May 31, 2011, Executive (i) shall make himself
available from time to time for consultations with members of the Board and
senior management of the Company regarding the business and affairs of the
Company, potential acquisitions and strategic alliances, expansion and other
business opportunities, (ii) shall make himself available once each calendar
quarter for meetings to be held in Manhattan, New York, with one or more members
of the Board of the Company to review the Company's strategic plan, (iii) at the
request of the Company and for such additional compensation in the nature of a
finder's fee as may be agreed, shall introduce the Company to institutional
sources of capital and institutions interested in acquiring shares of the
Company and (iv) at the request of the Company and for such additional
compensation in the nature of a headhunter's fee as may be agreed, introduce to
the Company executives who may be suitable for positions as members of
management of the Company. It is understood that the consultations required of
Executive shall be provided primarily by telephone at times convenient to
Executive and the Company acknowledges that its requests for consultations
cannot interfere with Executive's other obligations. It is further understood
that unless the Consultant otherwise consents, the Company shall not provide the
Consultant confidential information regarding the business and affairs of the
Company that would prohibit the Consultant from trading in the Company's
securities.
2. Notices. All notices provided for in this Letter Agreement shall be in
writing signed by the party giving such notice, and delivered personally or sent
by overnight courier or messenger against receipt thereof or sent by registered
or certified mail, return receipt requested, or by facsimile transmission, if
confirmed by mail as provided in this Section 2. Notices shall be deemed to have
been received on the date of personal delivery or facsimile or, if sent by
certified or registered mail, return receipt requested, shall be deemed to be
delivered on the third business day after the date of mailing. Notices shall be
sent to the following addresses:
To the Company:
GALES INDUSTRIES INCORPORATED.
1470 North Clinton Avenue
Bay Shore, NY 11706
Facsimile: (631) 968 5377
Attention: Louis Giusto
With a copy to:
Eaton & Van Winkle LLP
3 Park Avenue, 16th Floor
New York, NY 10016-2078
Facsimile: 212-779-9928
Vincent J. McGill, Esq.
To Mr. Gales:
Michael A. Gales
333 East 66th Street
New York, New York 10022
With a copy to:
Sayid and Associates LLP
408 West 57th Street, Suite 8 E
New York, New York 10019
Attention: M. David Sayid
or to such other address as any party shall designate in the manner
provided in this Section 2.
3. Miscellaneous. This Letter Agreement constitutes the entire agreement
between the parties relating to the subject matter hereof and supercedes any and
all prior or contemporaneous oral and prior written agreements and
understandings. Notwithstanding the foregoing, in the event of any conflict
between the terms of this Letter Agreement and the terms of the Separation
Agreement, the terms of the Separation Agreement shall govern. Further, any
breach of the terms of this Agreement shall not vitiate the releases provided in
the Separation Agreement nor entitle either party to withhold any of the
consideration provided for therein. This Letter Agreement may not be modified or
amended nor may any right be waived except by a writing which expressly refers
to this Agreement, states that it is a modification, amendment or waiver and is
signed by all parties with respect to a modification or amendment or the party
granting the waiver with respect to a waiver. No course of conduct or dealing
and no trade custom or usage shall modify any provisions of this Letter
Agreement.
4. Governing Law. This Letter Agreement shall be governed by and construed
in accordance with the laws of the State of New York applicable to contracts
made and to be performed entirely within such state. Each party hereby consents
to the exclusive jurisdiction of the Federal and state courts situated in New
York County, New York in connection with any action arising out of or based upon
this Agreement and the transactions contemplated by this Agreement.
5. Successors and Assigns. This Agreement shall be binding upon and inure
to the benefit of the parties hereto, and their respective personal
representatives, successors and permitted assigns. In the event that any
provision of this Agreement becomes or is declared by a court of competent
jurisdiction to be illegal, unenforceable or void, this Agreement shall continue
in full force and effect without said provision, provided that as so interpreted
each of the parties continue to receive the benefit of the bargain contemplated
hereby.
6. Future Assurances. Each party shall, without payment of any additional
consideration by any other party, at any time on or after the date hereof take
such further action and execute such other and further documents and instruments
as the other party may request in order to provide the other party with the
benefits of this Letter Agreement.
7. Captions; Gender. The captions and headings contained herein are solely
for convenience and reference and do not constitute a part of this Agreement.
All references to any gender shall be deemed to include the masculine, feminine
or neuter gender, the singular shall include the plural and the plural shall
include the singular.
8. Status. Simultaneously herewith counsel to the Company is delivering to
you a letter with respect to your status as an affiliate of the Company which
letter is incorporated herein by reference.
9. Counterparts. This Agreement may be executed in any number of
counterparts, each of which shall be deemed an original but all of which
together shall constitute one and the same document.
IN WITNESS WHEREOF, the parties have executed this Letter of Clarification
as of May 11, 2007.
Gales Industries Incorporated
By: /s/ Michael Gales By: /s/ Peter Rettaliata
--------------------------- ---------------------------
Michael Gales Peter Rettaliata
President
EXHIBIT 31.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO
SECTION 302(a) OF THE SARBANES-OXLEY ACT OF 2002
I, Peter D. Rettaliata, President and Chief Executive Officer of Gales
Industries Incorporated (the "Company"), certify that:
1. I have reviewed this quarterly report on Form 10-QSB of the Company;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
a. Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision, to
ensure that material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those entities,
particularly during the period in which this report is being prepared;
b. [intentionally omitted per SEC Release 33-8238];
c. Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this report based on such evaluation; and
d. Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's most
recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an
annual report) that has materially affected, or is reasonably likely to
materially effect, the registrant's internal control over financial reporting;
and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of registrant's
board of directors (or persons performing the equivalent functions):
a. All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to record,
process, summarize and report financial information; and
b. Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal control
over financial reporting.
Date: May 15, 2007 /s/ Peter D. Rettaliata
---------------------------------
Name: Peter D. Rettaliata
Title: President and Chief
Executive Officer
2
EXHIBIT 31.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO
SECTION 302(a) OF THE SARBANES-OXLEY ACT OF 2002
I, Louis A. Giusto, Chief Financial Officer of Gales Industries
Incorporated (the "Company"), certify that:
1. I have reviewed this quarterly report on Form 10-QSB of the Company;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our supervision, to
ensure that material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those entities,
particularly during the period in which this report is being prepared;
(b) [intentionally omitted as per SEC Release 33-8238];
(c) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end of the
period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's most
recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an
annual report) that has materially affected, or is reasonably likely to
materially effect, the registrant's internal control over financial reporting;
and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of registrant's
board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to record,
process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal control
over financial reporting.
Date: May 15, 2007 /s/ Louis A. Giusto
-------------------------------
Name: Louis A. Giusto
Title: Chief Financial Officer
2
EXHIBIT 32.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
The undersigned, the President and Chief Executive Officer of Gales Industries
Incorporated (the "Company"), does hereby certify under the standards set forth
and solely for the purposes of 18 U.S.C. 1350, as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002, that the Quarterly Report on Form 10-QSB
of the Company for the quarter ended March 31, 2006 fully complies with the
requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934
and information contained in that Form 10-QSB fairly presents, in all material
respects, the financial condition and results of operations of the Company.
Dated: May 15, 2007 /s/ Peter D. Rettaliata
-----------------------------
Peter D. Rettaliata
President and Chief Executive
Officer
A signed original of this written statement required by Section 906 has been
provided to the Company and will be retained by the Company and furnished to the
Securities and Exchange Commission or its staff upon request.
EXHIBIT 32.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
The undersigned, the Chief Financial Officer of Gales Industries Incorporated
(the "Company"), does hereby certify under the standards set forth and solely
for the purposes of 18 U.S.C. 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that the Quarterly Report on Form 10-QSB of the
Company for the quarter ended March 31, 2006 fully complies with the
requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934
and information contained in that Form 10-QSB fairly presents, in all material
respects, the financial condition and results of operations of the Company.
Dated: May 15, 2007 /s/ Louis A. Giusto
------------------------------
Louis A. Giusto
Chief Financial Officer
A signed original of this written statement required by Section 906 has been
provided to the Company and will be retained by the Company and furnished to the
Securities and Exchange Commission or its staff upon request.