10-Q 1 doc1.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q /x/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Period Ended September 30, 2001 or / / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 0-18160 OMNI NUTRACEUTICALS, INC. (Exact name of registrant as specified in its charter) UTAH 87-0468225 (State of incorporation) (I.R.S. Employer Identification No.) 5310 Beethoven Street Los Angeles, California 90066 (Address of principal executive offices) Registrant's telephone number: (310) 306-3636 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes /x/ No / / This Form 10-Q has not been reviewed by our auditors, Singer Lewak Greenbaum and Goldstein, due to our inability to pay their fees in advance. The number of shares of the registrant's Common Stock, par value $.01 per share, outstanding as of September 10, 2001 was 36,252,951. Omni Nutraceuticals, Inc. Index to Form 10-Q

PART 1. FINANCIAL INFORMATION Page Item 1. Financial Statements: Consolidated Balance Sheets as of ~~June~~September 30, 2001 (unaudited) and December 31, 2000 3 Consolidated Statements of Operations for the Three and Six Months Ended ~~June~~September 30, 2001 and 2000 (unaudited) 4 Consolidated Statements of Cash Flows for the Six Months Ended ~~June~~September 30, 2001 and 2000 (unaudited) 5 Notes to Condensed Consolidated Financial Statements 67 Item 2. Management's Discussion and Analysis of Financial Condition and 8 Results of Operations 910 PART II. OTHER INFORMATION Item 1. Legal Proceedings 1213 Item 2. Changes in Securities and Use of Proceeds 1213 Item 3. Defaults Upon Senior Securities 1213 Item 4. Submission of Matters to a Vote of Security Holders 1214 Item 5. Other Information 1214 Item 6. Exhibits and Reports on Form 8-K 1314 SIGNATURES. 1314

THIS QUARTERLY REPORT ON FORM 10-Q INCLUDES "FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933, AS AMENDED (THE "SECURITIES ACT") AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED (THE "EXCHANGE ACT"). ALL STATEMENTS OTHER THAN STATEMENTS OF HISTORICAL FACTS INCLUDED IN THIS QUARTERLY REPORT, INCLUDING, WITHOUT LIMITATION, THOSE REGARDING THE COMPANY'S FINANCIAL POSITION, BUSINESS, MARKETING AND PRODUCT INTRODUCTION AND DEVELOPMENT PLANS AND OBJECTIVES OF MANAGEMENT FOR FUTURE OPERATIONS, ARE FORWARD-LOOKING STATEMENTS. ALTHOUGH THE COMPANY BELIEVES THAT THE EXPECTATIONS REFLECTED IN SUCH FORWARD-LOOKING STATEMENTS ARE REASONABLE, IT CAN GIVE NO ASSURANCE THAT SUCH EXPECTATIONS WILL PROVE TO HAVE BEEN CORRECT. IMPORTANT FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THE COMPANY'S EXPECTATIONS ("CAUTIONARY STATEMENTS") ARE DISCLOSED UNDER "RISKS RELATED TO THE BUSINESS OF OMNI NUTRACEUTICALS" AND ELSEWHERE IN THE COMPANY'S ANNUAL REPORT ON FORM 10-K AND IN "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS" AND ELSEWHERE IN THE ANNUAL REPORT. ALL SUBSEQUENT WRITTEN AND ORAL FORWARD-LOOKING STATEMENTS ATTRIBUTABLE TO THE COMPANY OR PERSONS ACTING ON BEHALF OF THE COMPANY, ARE EXPRESSLY QUALIFIED IN THEIR ENTIRETY BY THE CAUTIONARY STATEMENTS. PART 1. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS:

~~JUNE~~OMNI NUTRACEUTICALS INC. CONSOLIDATED BALANCE SHEETS SEPTEMBER 30, DECEMBER 31, 2001 2000 (unaudited) ------------- -------------- ~~(unaudited)~~ ASSETS CURRENT ASSETS Cash. $ ~~23,000~~-- $ 199,000 Accounts receivable, net of reserves and allowances of $2,~~800~~100,000 and $3,829,000, respectively 12,~~859~~505,000 2,566,000 Inventories, net of reserves of $~~920~~900,000 and $796,000, respectively 1,~~937~~745,000 2,871,000 Prepaid expenses and other ~~439~~537,000 519,000 Total Current Assets 4,787,000 6,155,000 ------------- -------------- ~~Total Current Assets 4,258,000 6,155,000~~ Property and equipment, net 1,~~126~~060,000 1,253,000 Trademarks, net of accumulated amortization of $2,~~077~~303,000 and $1,627,000, respectively 11,~~447~~221,000 11,897,000 Other assets, net of accumulated amortization of $~~914~~996,000 and $748,000, respectively ~~700~~604,000 872,000 Investment in ~~Vitacost~~vitacost.com, Inc. 73,~~000~~400,000 -- Assets held for sale -- 7,128,000 ~~------------ -------------~~ Total Assets. $ 2421,~~531~~072,000 $ 27,305,000 ~~============ =============~~ LIABILITIES AND SHAREHOLDERS' INVESTMENT CURRENT LIABILITIES Cash overdraft $ 122,000 $ -- Line of credit $ 6,~~343~~203,000 $ 5,511,000 Current portion of term loan --10,488,000 2,917,000 Current portion of notes payable 4724,000 23,000 Accounts payable 4,~~324~~801,000 6,003,000 Accrued liabilities 3,~~110~~052,000 2,392,000 Customer deposits --450,000 450,000 Total current liabilities 25,140,000 17,296,000 ------------- ----------~~----~~ ~~Total current liabilities 13,824,000 17,296,000~~ Term loan, net of current portion ~~10,326,000~~-- 7,361,000 Notes payable, net of current portion 6683,000 79,000 SHAREHOLDERS' INVESTMENT Preferred stock 3,000 3,000 Common Stock 362,000 341,000 Additional paid-in capital 43,~~920~~924,000 43,633,000 Treasury stock (50,000) (50,000) Retained deficit (4348,~~920~~390,000) (41,358,000) ~~------------ ------------~~ TOTAL SHAREHOLDERS' INVESTMENT ~~315~~(4,151,000) 2,569,000 ~~------------ ------------~~ TOTAL LIABILITIES AND SHAREHOLDERS' INVESTMENT $ 2421,~~531~~072,000 $ 27,305,000 ~~============ ==============~~

See Notes to Condensed Consolidated Financial Statements OMNI NUTRACEUTICALS INC. CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)

FOR THE THREE MONTHS FOR THE ~~SIX~~NINE MONTHS ENDED ~~JUNE~~SEPTEMBER 30, ENDED ~~JUNE~~SEPTEMBER 30, 2001 2000 2001 2000 Net sales $ 45,~~561~~280,000 $ 105,~~846~~136,000 $10 15,~~312~~593,000 $18 24,~~912~~048,000 Cost of sales 2,~~340~~807,000 63,~~663~~894,000 58,~~648~~456,000 1115,~~511~~405,000 Gross Profit 2,473,000 1,242,000 7,137,000 8,643,000 -------------~~---~~ ------------~~-----~~ ------------- ------------ ~~Gross Profit 2,221,000 4,183,000 4,664,000 7,401,000~~ Selling, general and administrative expenses 32,~~018~~978,000 4,~~471~~133,000 69,~~329~~307,000 1318,~~687~~089,000 ~~---------------- ---------------- ---------- ----------~~ (Loss) from operations (~~797~~505,000) (~~288~~2,891,000) (12,~~665~~170,000) (69,~~286~~446,000) Other income (expense) Interest Income -- 92,000 -- 2224,000 Interest Expense (~~403~~369,000) (~~636~~494,000) (~~842~~1,211,000) (1,~~198~~423,000) Diminution of Vitacost value (3,600,000) -- (3,600,000) -- Other income (expense) ~~194~~5,000 10(33,000) ~~194~~199,000 11(22,000) ~~----------------- ----------------- ---------- -----------~~ Total other income (expense) (~~209~~3,964,000) (~~617~~525,000) (~~648~~4,612,000) (1,~~165~~421,000) ~~----------------- ----------------- ---------- -----------~~ Loss before provision for income taxes and loss from discontinued operations (14,~~006~~469,000) (~~905~~3,416,000) (26,~~313~~782,000) (710,~~451~~867,000) Provision for income taxes 1,000 -- 4,000 -- Loss before loss from discontinued operations (4,470,000) (3,416,000) --(6,786,000) (10,867,000) -----------~~------~~ -----------~~------~~ ------------ ------------ ~~Loss before loss from discontinued operations (1,006,000) (905,000) (2,316,000) (7,451,000)~~ Discontinued operations: Loss on operations of discontinued e- commerce segment, net of taxes of $0 -- (~~241~~614,000) (246,000) (~~471~~1,085,000) ~~----------------- ----------------- ------------ ------------~~ Net Loss (14,~~006~~470,000) (14,~~146~~030,000) (27,~~562~~032,000) (711,~~922~~952,000) Preferred Stock Dividends -- -- -- 1,950,000 ~~----------------- ----------------- ------------ ------------~~ Net Loss available to common shareholders $ (14,~~006~~470,000) $ (14,~~146~~030,000) $(27,~~562~~032,000) $ (913,~~872~~902,000) ~~================== ================= ============ ============~~ Loss per common share basic and diluted $ (0.0312) $ (0.0412) $ (0.0720) $ (0.3345) Weighted average number of shares outstanding 36,083,061 32,496,120 35,059,220 30,678,036 ==============~~====~~ ============= ==== ======== ==== ===========~~= Weighted average number of shares outstanding 35,280,720 32,028,218 35,043,220 29,758,250~~

See Notes to Condensed Consolidated Financial Statements

OMNI NUTRACEUTICALS INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) FOR THE ~~SIX~~NINE MONTHS ENDED ~~JUNE~~SEPTEMBER 30, 2001 2000 CASH FLOWS FROM OPERATING ACTIVITIES Net income (loss) available to common shareholders $ (27,~~562~~032,000) $ (911,~~872~~952,000) Adjustments to reconcile net income (loss) available to common shareholders to net cash provided by (used in) operating activities: Depreciation and amortization 1,~~005~~587,000 12,~~376~~347,000 Provision for reserves and allowances (1,~~029~~729,000) -- Issuance of warrants and options -- 194,000 Issuance offor shares for services 136,000 1,~~760~~060,000 Diminution of Vitacost value 3,600,000 -- Imputed preferred dividends -- 1,950,000 (Increase) decrease in: Accounts receivable 1,~~736~~790,000 (31,~~496~~404,000) Inventory ~~934~~1,126,000 23,~~768~~704,000 Prepaid and other ~~126~~(62,000) (~~364~~367,000) Increase (decrease) in: Cash overdraft --122,000 ~~725~~(165,000) Accounts payable (1,~~679~~202,000) 1164,~~605,~~000 Accrued liabilities ~~745~~587,000 1,~~220~~150,000 Income taxes payable -- (52,000) ~~------------------- -----------~~ Cash provided by (used in) operating activities (~~588~~1,077,000) (23,~~186~~371,000) ~~------------------- -----------~~ CASH FLOWS FROM INVESTING ACTIVITIES Acquisition of fixed assets (2,000) (~~196~~218,000) Decrease in other assets -- ~~233~~456,000 Collections on notes receivable -- 4450,000 ~~------------------- ----------~~ Cash used in investing activities (2,000) 41688,000 ~~------------------- ----------~~ CASH FLOWS FROM FINANCING ACTIVITIES Proceeds from issuance of common stock -- 2,~~418~~424,000 Proceeds from issuance of preferred stock -- 1,900,000 Proceeds from sale of minority interest -- 1,000,000 Proceeds from issuance of warrants -- 100,000 Borrowings (repayments) under exist. line of credit ~~430~~902,000 (1370,~~457,~~000) Repayments on long term borrowings (1622,000) (12,~~716~~141,000) Costs incurred with financing -- (100,000) ~~------------------- ----------~~ Cash provided by (used in) financing activities ~~414~~880,000 2,~~145~~813,000 ~~------------------- ----------~~ Net increase (decrease) in cash (~~176~~199,000) --130,000 Cash and cash equivalents, beginning of period 199,000 -- ~~------------------- ----------~~ Cash and cash equivalents, end of period $ ~~23,000 $~~ -- ~~====================~~$ ~~============~~130,000

See Notes to Condensed Consolidated Financial Statement The accompanying notes are an integral part of these financial statements 2000 We recorded a preferred dividend of $1,950,000 related to the issuance of preferred stock with a conversion rate below the market price of our common stock. We issued 30,000 shares to two directors and recorded a non-cash charge of $30,000. We recorded a compensation charge of $1,720,000 related to the transfer of personal shares from an officer and major shareholder to a departing board member. We issued 800,000 shares of common stock to a financial consulting firm for services provided in connection with a private placement of 700,000 shares of common stock for $2,100,000. We issued 838,941 shares of common stock to acquire certain assets of HealthShop.com, Inc. The shares had a value of $3,500,000. We issued 170,000 shares of common stock to acquire Smart Basics, Inc. The shares had a value $510,000. 2001 We sold our e-commerce business to Vitacost.com, Inc. for common stock of Vitacost.com valued at $7,000,000. Omni Nutraceuticals, Inc. Notes to Condensed Consolidated Financial Statements Nine Months Ended September 30, 2001 (Unaudited) NOTE 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements reflect the results of operations for Omni Nutraceuticals, Inc., and have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In our opinion, all adjustments (consisting of normal recurring accruals, with the exception of the adjustments described below in the consolidated financial statements) considered necessary for a fair presentation have been included. Our operating results for the three and nine month period are not necessarily indicative of the results that may be expected for the year ending December 31, 2001. For further information, refer to the consolidated financial statements and footnotes thereto included in our Form 10-K for the year ended December 31, 2000. Certain 2000 amounts have been reclassified to conform to 2001 presentation. For the three and nine months period ended September 30, 2001 and 2000, no common stock equivalents were included because they would have been anti-dilutive. NOTE 2. GOING CONCERN ISSUES In connection with the audit for the year ended December 31, 2000, we received a report from our independent certified public accountants that includes an explanatory paragraph describing uncertainty in our ability to continue as a going concern. Our condensed consolidated financial statements included herein contemplate our ability to continue and as such do not include any adjustments that might result from this uncertainty. NOTE 3. INVESTMENT IN VITACOST & DIVESTITURE OF E-COMMERCE OPERATIONS On February 2, 2001, we entered into and simultaneously closed a Purchase Agreement with Vitacost.com, Inc. ("Vitacost"), an on-line marketer of vitamins and nutritional products, whereby Vitacost acquired substantially all of our operating assets of our combined e-commerce operations in exchange for 6,800,000 shares of Vitacost common stock. A valuation of $7,000,000 has been placed on the Vitacost stock by an independent valuation consultant. The results of operations of this business segment have been retroactively reported separately on the accompanying statement of operations as a Loss on operations of discontinued e-commerce segment. The net assets of the e-commerce segment have been reported as "Assets Held for Sale" at December 31, 2000. During the third quarter of 2001, Vitacost has been offering to sell new shares @ $.50 per share. We have reduced the carrying value of our holding of 6,800,000 shares by $3,600,000 to reflect the diminution of value. At February 2, 2001, prior to the sale of our e-commerce segment, we recorded the following as Assets Held for Sale related to the e-commerce operations:

6 Net book value of assets related to: Healthzone.com $ 2,971,000 Vitamin Discount Connection 522,000 Smart Basics 521,000 HealthShop.com . 4,902,000 Accumulated amortization on goodwill (21,~~243~~669,000) Deferred losses of e-commerce operations ~~227~~(247,000) ------------ $ 7,000,000 ~~============~~

NOTE 4. INVENTORIES Inventories are valued at the lower of cost, determined on a first-in, first-out basis, or market. Inventories at September30, 2001 and December 31, 2000 are summarized as follows:

~~December~~September ~~31, 2000 June~~ 30, 2001 ~~------------------~~December ~~-------------~~31, 2000 Raw Materials. $ ~~799~~882,000 $ 1,194,000 Finished Goods 1863,~~138,~~000 1,677,000 ------------------- ------------------ $ 1,~~937~~745,000 $ 2,871,000 ~~================== ==========~~

NOTE 5. CREDIT FACILITY Our current Secured Credit Facility is secured by lien against all of our assets and consists of a $13 million (original amount) term loan ("Term Loan") and up to a $7 million revolving loan ("Revolving Loan"). The remaining balance of the Term Loan of $10,326,000 at September 30, 2001, is payable currently because of certain defaults. Mandatory prepayments are required in the event we receive any net proceeds from insurance claims, assets sales and/or debt sales. Under certain circumstances we are required to make mandatory prepayments from equity sales. Our credit facility agreement contains certain financial and other covenants or restrictions, including the maintenance of certain financial ratios, limitations on capital expenditures, restrictions on acquisitions, limitations on the incurrence of indebtedness and restrictions on any dividends that we may pay. On June 15, 2001, we entered into Amendment No. 6 to Secured Credit Agreement, which, among other things, extended the repayment date of the aggregate outstanding principal balance of the Term Loan to July 30, 2002, and waived certain defaults then in existence. The lender charged us a fee of $750,000 for restructuring the indebtedness, which fee superseded those charged in connection with Amendment No. 4 to Secured Credit Agreement. On July 20, 2001, we entered into Amendment No. 7 to Secured Credit Agreement pursuant to which our lender: (i) waived certain defaults then in existence; (ii) increased the amount of our permitted overadvance on the Revolving Loan by $200,000 to $4,400,000; and (iii) required us to inform the lender of our financial condition on a weekly basis. The lender charged us an additional restructuring fee of $50,000 which will be payable on the Final Maturity Date. The permitted overadvance on the Revolving Loan is reduced as follows: $4,200,000 on September 29, 2001, $4,050,000 on January 1, 2002 and $3,950,000 on June 1, 2002. NOTE 6. CAPITAL TRANSACTIONS During the nine months ended September 30, 2001 we recorded the following capital transactions. 1,572,682 shares of common stock were issued in the second quarter upon conversion of 200 shares of Series A Convertible Preferred Stock. 400,000 shares of common stock were issued pursuant to a price protection clause in the original agreement to purchase HealthShop.com and a related increase in Assets Held for Sale was recorded in the amount of $119,000. 75,000 shares of common stock were issued in connection with an amendment to preferred stock issued in the first quarter of 2000 and a related charge was recorded in the amount of $136,000. 32,000 shares of common stock were issued for promotional services and a related charge was recorded in the amount of $4,000. In previous periods we recorded prepaid promotion fees representing the value of stock options issued to a celebrity spokesperson. In the period we recorded a charge representing the remaining amount of the prepaid fees of $53,000. NOTE 7. LITIGATION On December 8, 2000, the Company was sued in a case entitled Media Networks, Inc. v. Omni Nutraceuticals, Inc., in Los Angeles County, California, for amounts due on an open account, and services rendered pursuant to agreement. On July 25, 2001 the complainant was awarded, through a Stipulated Judgment, a total of approximately $437,000. On August 23, 2001 Media Networks was denied their motion of assignment and appointment of a receiver. NOTE 8. FOOD AND DRUG ADMINISTRATION On October 16, 2001, the Company received a warning letter from the Food and Drug Administration ("FDA") asserting that its new Joint Pain product is a drug. The Company strongly disagrees with the FDA. The Company has secured counsel and begun a dialogue to resolve the matter. The valuation of the Company's intangible assets could be greatly affected by an adverse outcome. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW Omni Nutraceuticals, Inc. is a formulator and supplier of branded natural health, herbal, and nutritional supplement products. The Company's products are sold through mass retail, specialty natural health, nutrition and food retail stores. Omni is a Utah Corporation, and was formerly known as Irwin Naturals/4Health Inc., which was formerly known as 4Health, Inc. Omni is the surviving corporation of a merger (the "Merger") of 4Health, Inc., a Utah corporation with Irwin Naturals, Inc., a California corporation consummated June 30, 1998. Pursuant to the Merger, that was accounted for as a pooling-of-interests, 4Health, Inc. issued 15,750,000 shares of common stock in exchange for all the outstanding shares of Irwin Naturals, Inc. RESULTS OF OPERATIONS OPERATING RESULTS Our consolidated net sales for the three months ended September 30, 2001 were $5,280,000 with an operating loss before provision for income taxes and loss on discontinued operations of $4,469,000. Our net loss and net loss available to common shareholders for the third quarter of 2001 was $4,470,000, or $0.12 per basic and diluted share. Our consolidated net sales for the same period in the prior year were $5,136,000 with an operating loss before provision for income taxes and loss on discontinued operations of $3,416,000. The loss on operations of our discontinued e-commerce segment for the third quarter of 2000 was $614,000. Our net loss and our net loss available to common shareholders in the third quarter of 2000 was $4,030,000 or $.12 per basic and diluted share, respectively. Our total selling, general and administrative expenses for the three months ended September 30, 2001 were $2,978,000 versus $3,613,000 for the same period in 2000. We recorded a diminution of value of our holding of Vitacost of $3,600,000 in the three months ended September 30, 2001. SALES Our net sales for the three months ended September 30, 2001, increased by $144,000, or 2.8%, to $5,280,000 from $5,136,000 for the comparable period in 2000. The increase in sales results from sales of $1,085,000 of our new Joint Pain product partially offset by an overall decline in consumer demand for herbal supplements, which was particularly acute in the mass market. Sales in the third quarter of 2001 also declined because substantially all advertising and promotion was curtailed for existing products due to limited resources. GROSS PROFIT Gross profit for the three months ended September 30, 2001 increased by $1,251,000, or 100.7%, to $2,473,000, from $1,242,000 for the comparable period in 2000. Gross profits as a percentage of sales for the three months ended September 30, 2001 increased to 46.8% from 24.2% in the comparable period in 2000. The increase in the gross margin was primarily due to a return to more normal levels of allowances for returns which were very high in the comparable period in 2000. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES Sales and marketing expenses for the three months ended September 30, 2001 decreased by $465,000 or 37.3% to $782,000 from $1,247,000 for the comparable period in 2000. This decrease was due primarily to lower advertising, media expenses and co-op advertising, which declined $235,000 to $75,000 in the third quarter of 2001 from $310,000 in the comparable period in 2000. Some of the other cost reductions included salaries and wages $76,000 and travel $62,000. Distribution expenses declined $103,000 or 20.4% to $402,000 in the three months ended September 30, 2001 from $505,000 in the comparable period in 2000. Reduction in wages, $75,000 accounted for most of the decline. General and administrative expenses decreased $588,000 or 24.7% to $1,794,000 in the three months ended September 30, 2001 from $2,382,000 in the comparable period in 2000. Cost reductions were achieved in legal and accounting costs $53,000, consulting and professional fees $116,000, bank charges $89,000, telephone expenses $47,000, and payroll costs $201,000. The comparable period in 2000 included a charge of $439,000 for the value of stock issued to pay the fees of fund raising and promotional firms while the current period had no similar costs. Offsetting these and other cost reductions was an increase in accruals of $194,000 in penalties associated with certain registration rights of the preferred stock issued in January and October 2000. OTHER INCOME (EXPENSE) Interest expense for the three months ending September 30, 2001 decreased by $125,000 to $369,000 from $494,000 for the comparable period in 2000. This decrease is the result of lower term loan balances outstanding from period to period and lower interest rates. We recorded a diminution of value of our holding of Vitacost of $3,600,000 in the three months ended September 30, 2001. LIQUIDITY AND CAPITAL RESOURCES As of September 30, 2001, we had a cash overdraft of approximately $122,000, against approximately $797,000 of availability under our revolving credit line. As of December 31, 2000, we had approximately, $199,000 in cash and cash equivalents and approximately $1,489,000 under our revolving credit line available. The decrease in cash and cash equivalents is the result of losses incurred in the nine months ended September 30, 2001. Further as of September 30, 2001 we had a working capital deficit of $20,353,000, and an accumulated deficit of $48,390,000. On June 15, 2001, we entered into Amendment No. 6 to Secured Credit Agreement, which, among other things, extended the repayment date of the aggregate outstanding principal balance of the Term Loan to July 30, 2002, and waived certain defaults then in existence. The lender charged us a fee of $750,000 for restructuring the indebtedness, which fee superseded those charged in connection with Amendment No. 4 to Secured Credit Agreement. On July 20, 2001, we entered into Amendment No. 7 to Secured Credit Agreement pursuant to which our lender: (i) waived certain defaults then in existence; (ii) increased the amount of our permitted overadvance on the Revolving Loan by $200,000 to $4,400,000; and (iii) required us to inform the lender of our financial condition on a weekly basis. The lender charged us an additional restructuring fee of $50,000 which will be payable on the Final Maturity Date. The permitted overadvance on the Revolving Loan is reduced as follows: $4,200,000 on September 29, 2001, $4,050,000 on January 1, 2002 and $3,950,000 on June 1, 2002. The remaining balances on the term loan and revolving loan are currently payable because of ongoing defaults. The lender has not demanded repayment and we are in negotiations with our lender regarding these defaults and possible extensions. We estimate that, based on the current rate of negative cash flow from operations, the cash and availability under the revolving credit line may be sufficient to provide a source of working capital through approximately December 15, 2001. Our estimate does not give effect to payments, which may be made to vendors to reduce outstanding payables. Further, there can be no assurances that the vendors will continue to supply us with goods and services in the event that such payables are not reduced, which may have an adverse effect on our continued operations. In addition, some of our largest customers have in the past taken deductions against trade receivables and although we believe we have identified and reserved for such deductions, such practices may adversely affect our future cash flow. During the nine months ended September 30, 2001, we experienced negative cash flow from operations of approximately $1,077,000. We have primarily funded our operations to date through internally generated capital, bank loans or private equity financing. Our future capital requirements will depend on many factors, including the nature and timing of orders from customers, collection of trade accounts receivable, the expansion of sales and marketing efforts, costs associated with entering into new channels of distribution, and the status of competing products. Management believes that additional investment capital will be required to permit the Company to meet its business objectives in the near term. Such funds may be raised either through debt or equity offerings, or some combination of the two. However, there is no assurance that we will be able to secure such funds on commercially reasonable terms, if at all. If we are not successful in securing additional funds, we may be forced to dispose of certain assets outside of the normal course of business. Our independent certified public accountants have included an explanatory paragraph in their report of Independent Certified Public Accountants included in our Annual Report on Form 10-K for the year ended December 31, 2000, to the effect that our losses from operations for the year ended December 31, 2000, and the working capital deficit and the retained deficit at December 31, 2000 raise substantial doubt about our ability to continue as going concern. We may need to seek relief from the lender from the December 15, 2001 payment and/or future payments and from default. Our failure to receive such relief could have a material adverse effect on our financial condition and our ability to continue to operate. In July 2001, the FASB issued SFAS No. 141, "Business Combinations." This statement addresses financial accounting and reporting for business combinations and supersedes Accounting Principles Bulletin ("APB") Opinion No. 16, "Business Combinations," and SFAS No. 38, "Accounting for Pre-Acquisition Contingencies of Purchased Enterprises." All business combinations in the scope of this statement are to be accounted for using one method, the purchase method. The provisions of this statement apply to all business combinations initiated after June 30, 2001. Use of the pooling-of-interests method for those business combinations is prohibited. This statement also applies to all business combinations accounted for using the purchase method for which the date of acquisition is July 1, 2001 or later. In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets." This statement addresses financial accounting and reporting for acquired goodwill and other intangible assets and supersedes APB Opinion No. 17, "Intangible Assets." It addresses how intangible assets that are acquired individually or with a group of other assets (but not those acquired in a business combination) should be accounted for in financial statements upon their acquisition. This statement also addresses how goodwill and other intangible assets should be accounted for after they have been initially recognized in the financial statements. It is effective for fiscal years beginning after December 15, 2001. Early application is permitted for entities with fiscal years beginning after March 15, 2001, provided that the first interim financial statements have not been issued previously. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS On December 8, 2000, we were sued in a case entitled Media Networks, Inc. v. Omni Nutraceuticals, Inc., in Los Angeles County, California, Superior Court, Case No. BC 241503, for amounts due on an open account, and services rendered pursuant to agreement. On July 25, 2001 the complainant was awarded, through a Stipulated Judgment a total of approximately $437,000. Media Networks has filed a Motion of Assignment and Appointment of a Receiver, which was denied at a hearing on August 23, 2001. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS None ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None ITEM 5. OTHER INFORMATION This Form 10-Q has not been reviewed by our auditors, Singer Lewak Greenbaum and Goldstein, due to our inability to pay their fees in advance. On October 16, 2001, the Company received a warning letter from the Food and Drug Administration ("FDA") asserting that its new Joint Pain product is a drug. The Company strongly disagrees with the FDA. The Company has secured counsel and begun a dialogue to resolve the matter. The valuation of the Company's intangible assets could be greatly affected by an adverse outcome. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K None SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934. The registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.

OMNI NUTRACEUTICALS, INC. By: /s/ KLEE IRWIN ----------------- Klee Irwin ~~-------------------------~~ President & CEO, CFO Dated: ~~August~~November 1419, 2001

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