10-Q/A 1 d51713_10-qa.txt AMENDMENT 2002 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ---------- FORM 10-Q/A (Mark One) |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2002 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 No. 0-21015 CELL TECH INTERNATIONAL INCORPORATED (Exact Name of Registrant as Specified in its Charter) Delaware 22-3345046 (State or other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification No.) 565 Century Court KLAMATH FALLS, OREGON 97601 (Address of Principal Executive Offices) (Zip Code) Registrant's Telephone Number, including Area Code: (541) 882-5406 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 |_|. As of August 15, 2002, the number of shares outstanding of the registrant's sole class of common stock, par value $0.01 per share was 10,640,895. TABLE OF CONTENTS PART I - FINANCIAL INFORMATION ............................................ 1 ITEM 1. FINANCIAL STATEMENTS ........................................... 1 CONSOLIDATED BALANCE SHEETS ......................................... 1 CONSOLIDATED STATEMENTS OF INCOME (LOSS) ............................ 2 CONSOLIDATED STATEMENTS OF CASH FLOWS ............................... 3 Notes to Consolidated Financial Statements .......................... 4 Overview ............................................................ 10 Results of Operations ............................................... 11 Three months ended June 30, 2002 compared with the three months ended June 30, 2001 .......................................... 11 Six months ended June 30, 2002 compared with the six months ended June 30, 2001 ................................................. 13 Liquidity and Capital Resources ..................................... 14 Cash Flows .......................................................... 15 Recent Accounting Pronouncements .................................... 15 Special Note Regarding Forward-Looking Statements ................... 16 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK ..... 17 PART II - OTHER INFORMATION ............................................... 18 ITEM 1. LEGAL PROCEEDINGS .............................................. 18 ITEM 2. CHANGES IN SECURITIES .......................................... 18 ITEM 3. DEFAULTS UPON SENIOR SECURITIES ................................ 18 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ............ 18 ITEM 5. OTHER INFORMATION .............................................. 18 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K ............................... 18 SIGNATURES ............................................................. 19 ii CELL TECH INTERNATIONAL INCORPORATED AND SUBSIDIARIES Part I - Financial Information Item 1. Financial Statements -------------------------------------------------------------------------------- CONSOLIDATED BALANCE SHEETS

See accompanying notes to consolidated financial statements. 1 CELL TECH INTERNATIONAL INCORPORATED AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (LOSS)

See accompanying notes to consolidated financial statements. 2 CELL TECH INTERNATIONAL INCORPORATED AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS

See accompanying notes to consolidated financial statements. 3 Notes to Consolidated Financial Statements NOTE 1 -- SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES Business Cell Tech International Incorporated ("Cell Tech") and The New Algae Company ("NAC"), collectively the "Company," are engaged in the production and marketing of food supplement products made with blue-green algae harvested from Klamath Lake, Oregon. The Company uses a multi-level distributor network throughout the United States and Canada to distribute its products. Presentation of Interim Information The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Rule 10-01 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 the opinion of Company's management, the accompanying unaudited consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, considered necessary for a fair statement of the Company's financial information as of and for the periods presented. The consolidated results of operations of any interim period are not necessarily indicative of the consolidated results of operations to be expected for the fiscal year. For further information, refer to the consolidated financial statements and accompanying footnotes included in the Company's annual report on Form 10-K for the year ended December 31, 2001. Going Concern The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As previously reported, the Company has suffered recurring losses from operations and has negative working capital. In addition, the Company is not in compliance with certain restrictive covenants of its $15 million Line of Credit Agreement with a financial institution. These factors raise substantial doubt about the Company's ability to continue as a going concern. Basis of Consolidation The accompanying consolidated financial statements of the Company include the accounts of Cell Tech and its subsidiary NAC. Intercompany transactions and balances have been eliminated on consolidation. Use of Estimates The preparation of the financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect amounts reported in the financial statements and accompanying notes. Actual results could differ materially from those estimates. 4 NOTE 1 -- SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (Continued) Revenue Recognition The Company recognizes revenue from the sale of its products upon shipment. The Company estimates an allowance for sales returns based on historical experience with product returns. Sales Incentives In November 2001, the Emerging Issues Task Force ("EITF") issued EITF Issue No. 01-09, "Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's Products," which addresses the accounting for consideration given by a vendor to a customer or a reseller of the vendor's products. In April 2001, the EITF reached a consensus on EITF Issue No. 00-25, "Vendor Income Statement Characterization of Consideration Paid to a Reseller of the Vendor's Products," which provides guidance on the income statement classification of consideration from a vendor to a reseller in connection with the reseller's purchase of the vendor's products or to promote sales of the vendor's products. The Company pays commissions to its distributors as compensation for sales and marketing activities as evidenced by downline growth and sales volume and thus classifies these expenses as a cost and not a reduction of revenue. There was no effect on the consolidated financial position, results of operations or cash flows as a result of implementation of this pronouncement. Goodwill and Other Intangible Assets Effective January 1, 2002, the Company adopted Statement of Financial Accounting Standards No. 142 Goodwill and Other Intangible Assets (SFAS 142). Under SFAS 142, Goodwill and indefinite life intangible assets are no longer amortized but will be reviewed annually, or more frequently if impairment indicators arise, for impairment. Other intangible assets with finite lives, consisting of trademarks with a carrying value of $57,302 at January 1, 2002, will continue to be amortized over their estimated useful lives of 10 years. As of the date of the adoption of the new accounting standards, there was no remaining goodwill to be amortized. Impairment or Disposal of Long-Lived Assets On January 1, 2002, the Company adopted Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144, which addresses financial accounting and reporting for the impairment of long-lived assets and for long-lived assets to be disposed of, supercedes SFAS No. 121. The adoption of SFAS No. 144 did not have an effect on the financial position or results of operations. Shipping and Handling Cost The Company adopted EITF 00-10, "Accounting for Shipping and Handling Fees and Costs", since December 15, 2000. All shipping and handling costs for goods shipped by the Company to customers are included in shipping and handling expenses in the statements of income (loss). Shipping and handling costs of goods shipped by the Company to customers for the six months ended June 30, 2002 and 2001 were $833,658 and $943,811, respectively. 5 NOTE 2 -- EARNINGS PER SHARE COMPUTATION The computations of the weighted-average common shares used in the computation of basic and diluted net income (loss) per share is based on 12,467,534 and 10,640,895 shares for the three months ended June 30, 2002 and 2001, respectively. Potential dilutive securities were not included in the EPS calculation since their effect would be antidilutive. Potential dilutive securities consisted of outstanding stock options and common stock purchase warrants. NOTE 3 -- RECENT ACCOUnTING PRONOUNCEMENTS In July 2001, the FASB issued Statement of Financial Accounting Standards No. 143 ("SFAS No. 143"), "Accounting for Asset Retirement Obligations." SFAS No. 143 establishes standards associated with the retirement of tangible long-lived assets and the associated asset retirement costs. This statement is effective for financial statements issued for fiscal years beginning after June 15, 2002. The Company has not yet assessed the impact of this standard on its financial statements, but does not expect the impact to be material. Statement of Financial Accounting Standards No. 145, "Rescission of SFAS Statements No. 4, 44, and 64, Amendment of SFAS Statement No. 13, and Technical Corrections" ("SFAS 145"), updates, clarifies and simplifies existing accounting pronouncements. SFAS 145 rescinds SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt." SFAS 145 amends SFAS No 13, "Accounting for Leases," to eliminate an inconsistency between the required accounting for sales-leaseback transactions and the required accounting for certain lease modifications that have economic effects that are similar to sale-leaseback transactions. The provisions of SFAS 145 related to SFAS No. 4 and SFAS No. 13 are effective for fiscal years beginning and transactions occurring after May 15, 2002, respectively. It is anticipated that the financial impact of SFAS 145 will not have a material effect on the Company. Statement of Financial Accounting Standards No. 146, Statement of Financial Accounting Standards No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS 146"), requires the Company to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. SFAS 146 replaces Emerging Issues Task Force ("EITF") Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)." The provisions of SFAS 146 are to be applied prospectively to exit or disposal activities initiated after December 31, 2002. NOTE 4 -- CONTINGENCIES Microcystis As a result of certain conditions, a toxic strain of algae called Microcystis occasionally blooms in Klamath Lake and contaminates a portion of the Company's harvest of blue-green algae. In 1994, the Company began to test the algae harvested at its facility for possible contamination. The existence of Microcystis has been regularly measured at various levels. In the absence of established regulatory criteria for determining an acceptable level of Microcystin (the actual toxin), the Company sponsored an assessment of risk and set its own standards for determining whether a particular batch of algae is acceptable for human consumption. Algae which does not meet the Company's standards and cannot be used in alternative non-human consumable products is isolated and not used in production. 6 NOTE 4 -- CONTINGENCIES (continued) On October 23, 1997, the Oregon Department of Agriculture issued an Administrative Rule on the sale of blue-green algae, which stated that "the agency has decided to adopt the 1 microgram per gram (1 ppm) level of Microcystin in blue-green algae." This ruling may have an impact on the Company's ability to process and distribute the raw algae harvested and finished goods produced. Such ruling may also decrease the amount of salable inventory on hand and may therefore have an adverse impact on the Company's ability to realize the carrying value of its inventories. Management has recognized that an impairment of its inventory may exist and therefore has recorded its best estimate of the effect by establishing a reserve in the amount of $900,000 at June 30, 2002 and December 31, 2001 for the possible effects of inventories which may become unsaleable under this Rule. The Oregon Department of Agriculture has raised no questions about the Company's products under this Rule to date. Litigation On March 27, 2002, the Nature Conservancy, a nonprofit corporation (the "Plaintiff"), filed an action against us in the Circuit Court of the State of Oregon, for the County of Klamath, alleging among other things, that our wholly owned subsidiary The New Earth Company ("NEC") has failed to pay the annual payment due on a non-interest bearing promissory note (the "Note") executed and delivered to Plaintiff and that NEC's failure to make the payment constitutes a default under certain provisions of the Note and a trust deed (the "Trust Deed") to secure payment under the Note. The Plaintiff is seeking $375,000 in principal due under the Note plus interest from the date of default in addition to certain leasehold rights that the Trust Deed grants to it. The Plaintiff is also seeking injunctive relief to recover rent payments from any sublessees. We have retained legal counsel to represent us in this matter. The Company has previously recorded the net present value of the Note, which has a balance of $313,790 included in current portion of long-term debt in the consolidated balance sheet at June 30, 2002 On January 28, 2002, the Company terminated its lease between NAC and Klamath Cold Storage, Inc. ("KCS"), a corporation owned by two of its principal shareholders, Daryl Kollman and Marta Carpenter (formerly Marta Kollman). On February 19, 2002, Daryl Kollman filed two separate Notice of Claim of Lien upon Chattels (the "Possessory Liens") against the Company and its wholly owned subsidiary, NAC and/or NEC, in the County of Klamath, State of Oregon, claiming a lien upon it and its wholly owned subsidiaries and alleging, among other things, that the Company owes him and Marta Carpenter approximately $497,525 in past due rent and that the Company owes KCS approximately $511,432 in past due rent for its use of certain real property owned by him and Marta Carpenter, our President and Chief Executive Officer, and KCS. Daryl Kollman asserts that the Company is not entitled to remove any of its property from the premises and that the properties will be subject to foreclosure proceedings. In June 2002, Daryl Kollman filed a lawsuit in the Circuit Court for the State Oregon, County of Klamath, to evict the Company from the facilities it occupies that are owned by Daryl Kollman and Marta Carpenter and Klamath Cold Storage. Marta Carpenter is seeking to stop the evictions and the Company is resisting Daryl Kollman's attempt to evict it. The properties in question include the Company's facilities for processing and storing its products. The Company believes it could not easily obtain substitute facilities. If the Company is evicted from the properties, it would have a material adverse impact on the Company's financial condition and its ability to operate. The Company has retained legal counsel to represent it in this matter. In October 2001, Teachers for Truth in Advertising filed an action in the Superior Court for the County of Tulare, State of California, alleging among other things, that the Company's advertising is untrue or misleading, that the Company's business practices are unlawful and fraudulent and unfair and that the website contains misleading information about the products and the benefits that a consumer may 7 derive from their use. The plaintiff is seeking injunctive relief, corrective advertising, and restitution to California consumers who purchased the products. The parties have completed the discovery phase including depositions. The plaintiff's motion for summary judgment was denied by the court. The matter is scheduled to proceed to trial on September 30, 2002. The Company does not believe that the plaintiff's complaint is meritorious and believes that the matter will not have a material adverse effect on the Company's financial condition or results of operations. In 1996, the Company entered into an agreement with one of its vendors to deliver 600,000 wet pounds of algae per month for processing for a five-year period. The minimum monthly volume level increased in September 1996 to 1,000,000 wet pounds of algae. On or about February 6, 1998, the vendor filed a complaint against the Company. The complaint alleges that the Company wrongfully terminated a contract requiring the Company to provide to the vendor not less than a contractually agreed amount of raw product for processing every month, or pay a penalty based on the shortfall until the contract was validly terminated. In its amended complaint, the vendor is seeking $780,930 in damages as of February 1998, plus additional damages that allegedly are continuing to accrue, plus prejudgment interest and prevailing party attorney fees as provided by the contract. The Company counter-claimed for breach of contract, alleging liquidated damages due, overcharges, and failure to deliver product, consequential damage for failure to utilize quality control methods required by the contract, prejudgment interest and attorney fees. In the first quarter of 2002, a settlement agreement was negotiated in which the parties have agreed to dismiss the lawsuit and counter-claim and to enter into a new agreement for the processing of algae for a five-year period. The parties have also agreed that the Company will pay $1,656,000 (included in accounts payable at June 30, 2002) to the vendor; $1 million of which will be paid in cash and $656,000 will be in the form of a promissory note payable to the vendor with interest at 10.5% per annum. As of June 30, 2002, the Company has not signed the processing and settlement agreements. The agreements are expected to be executed upon the Company's receipt of financing. In the first quarter of 2002, the parties have reached an interim arrangement whereby the Company will pay $0.15 per pound processed by the vendor until a formal agreement is finalized. Lien on Company Stock The Company stock owned by Daryl J. Kollman and Marta C. Carpenter, is the subject of a tax lien filed by the Internal Revenue Service for income taxes due from them.. The lien is subordinated in favor of the lender for the Receivable Loans, Advances and Inventory Loans, Term Loans, and Equipment Acquisition Loans. Dispute Between Principal Shareholders In December 1999, Daryl Kollman and Marta Carpenter, shareholders who together own approximately 82% of our outstanding shares of common stock, filed divorce proceedings. Daryl Kollman and Marta Carpenter, and their affiliate Klamath Cold Storage Co., are lessors of substantially all of our facilities, including office space, processing and freezer storage space. Although one lease is in effect until 2005, we lease the rest of these facilities on a month-to-month or year-to-year basis. On January 29, 2002, the Court issued its written order after trial. The Court ruled that Marta Carpenter and Daryl Kollman were each entitled to an equal division of their respective stock ownership in our Company. The Court also ruled Daryl Kollman and Marta Carpenter's joint ownership in certain real property leased by us from them be divided equally in each property and that they must sell the properties and improvements to pay the indebtedness to the Internal Revenue Service. On May 20, 2002, a Judgment of Dissolution of Marriage was entered in the Klamath County Circuit Court. The judgment did not change the property ownership status between the parties. 8 NOTE 4 -- CONTINGENCIES (continued) The Company does not believe the Court Order issued on January 29, 2002, will have a material impact on our business since we believe that we can maintain our favorable leases in the event of the sale of the properties or provide for an adequate transition to other properties for the orderly continuation of our business. The Company is involved in various other legal matters arising in the normal course of business. In the opinion of management, the Company's liability, if any, arising from legal proceedings related to these matters is not expected to have a material effect on the consolidated financial statements of the Company. Covenants Related to the Private Placement to Mr. Zubair Kazi In connection with the sale of 1,157,895 common shares to a private investor in 1999, the Company made certain promises to the investor. In the event that the consolidated shareholders' equity of the Company is less than $20,000,000 at December 31, 1999 and the first reset date (see Annual Report on Form 10K for the year ended December 31, 2000, incorporated herein by reference), the Company shall immediately issue to Mr. Zubair Kazi ("Kazi") additional common stock and warrants. The amount shall equal 1,157,895 multiplied by the percentage by which the shareholders' equity is less than $20,000,000. The Company did not maintain a shareholders' equity of $20,000,000 at December 31, 1999 and as a result, 2,206,766 shares and 2,206,766 warrants are due to Kazi as of June 30, 2002. The accrued liability related to the issuance of these shares and warrants of $437,661, based on the fair value of the securities, has been accounted for in the financial statements. Additionally, the shares sold were to be registered within 120 days of the sale. Additional penalties have accrued until such time that the shares are registered. The additional expense in 2002, through June 30, 2002 was $112,422. The Company is obligated, upon the effective date of its next registration statement (First reset date), to issue additional purchased securities in accordance with certain reset rights. Since the Company has not yet filed its first registration statement, the first reset date has not yet occurred. 9 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations From time to time, our representatives or we have made or may make forward-looking statements, orally or in writing, including in this Report. Such forward-looking statements may be included in, without limitation, press releases, oral statements made with the approval of one of our authorized executive officers and filings with the Securities and Exchange Commission. The words or phrases "anticipates," "believes," "expects," "intends," "will continue," "estimates," "plans," "projects," or similar expressions are intended to identify "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Our forward-looking statements are subject to certain risks, trends, and uncertainties that could cause actual results to vary materially from anticipated results, including, without limitation, market acceptance of our marketing and merchandising concepts, changes in political and general market conditions, demand for and market acceptance of new and existing products, availability and development of new products, increased competition, our failure to attain satisfactory outside financing and adverse weather conditions at Upper Klamath Lake. These factors are discussed in further detail below. Should any one or more of these risks or uncertainties materialize, or should any underlying assumptions prove incorrect, actual results may vary materially from those discussed herein as expected, believed, estimated, intended or anticipated. We undertake no obligation to revise or publicly release the results of any revisions to these forward-looking statements. The following discussion is intended to assist in the understanding of our financial position and our results of operations for the six months ended June 30, 2002 compared to the same period in 2001. The Consolidated Financial Statements and related Notes should be referred to in conjunction with this discussion. Unless stated otherwise, all financial information presented below, throughout this report and in the Consolidated Financial Statements and related Notes includes all of our subsidiaries on a consolidated basis. Overview We develop and distribute products made with Aphanizomenon flos-aquae (trade name Super Blue Green(R) Algae) ("SBGA") through a network of independent distributors ("Distributors"). We currently offer twenty different products intended to appeal to health-conscious consumers. Our products are divided into five product lines including Daily Health Maintenance, Digestive Health, Defensive Health, Powdered Drinks and Snacks, and Animal and Plant Food. We harvest SBGA and manufacture most of our products at our modern production facilities in Klamath Falls, Oregon. We market our products through independent Distributors located in all fifty states, the District of Columbia, Guam, Puerto Rico, American Samoa, the Virgin Islands and Canada. We encourage our Distributors to recruit interested people as new Distributors for our products. These recruits are placed beneath the recruiting Distributor in the "network" and are referred to as the distributor's "downline" or "organization." Distributors earn commissions on sales by their organizations as well as retail profits on the sales they generate directly. We assist Distributors in establishing their own businesses and provide support programs such as audio and videotapes for training, empowerment teams, seminars and an annual convention called the August Celebration at our headquarters. We have approximately 43,393 active Distributors as of June 30, 2002 compared to approximately 54,528 active Distributors as of June 30, 2001. We define an active Distributor as having purchased products in the last six months. 10 Our income per share was $0.01 for the six months ended June 30, 2002 compared to a loss of $0.16 per share in 2001. The net income for the six months ended June 30, 2002 totaling $0.2 million is primarily attributable to a decrease in costs, specifically due to our decision to no longer record depreciation expense on the harvest site assets that have been identified as being held for sale. The net loss for the six months ended June 30, 2001 totaling $1.8 million primarily related to the decrease in net sales. Results of Operations The following table summarizes our operating results as a percentage of net sales for each of the periods indicated.

Three months ended June 30, 2002 compared with the three months ended June 30, 2001 Net sales for the three months ended June 30, 2002 were $6.8 million, a decrease of $0.8 million or 11.2% from net sales of $7.6 million for the three months ended June 30, 2001. The decrease in sales is directly related to a 14.1% decrease in orders for the same period. Average order size increased to $119 from $115 over the same period. The average number of distributors for the three months ended June 30, 2002 decreased to an average of 44,260, which was 19% lower than the average of 54,718 distributors for the three months ended June 30, 2001. Sales of our food supplement products are made through a multi-level marketing network of distributors, so sales are positively linked with the number of distributors. Gross profit represents net sales less the cost of goods sold, which includes the cost of harvesting blue-green algae from Klamath Lake, the cost of other materials, direct labor expenses, an allocation of 11 overhead costs, amortization, and depreciation. Gross profit increased to 72% from 68% of net sales between the three months ended June 30, 2002 and 2001, respectively. The increase in the gross profit margin is mainly due to the reduction in depreciation expenses associated with the write-down of certain fixed assets. Gross profit after commissions represents gross profit less commission expense. Commission expense for the three months ended June 30, 2002 and 2001 was $3.1 million and $3.7 million, respectively, a decrease of $0.6 million, or 16.4%. We are a multi-level marketing organization. Distributors make up our sales force. Distributors buy algae products for their own consumption plus they actively recruit other distributors into our network. Distributors are paid commissions based upon their personal sales volumes and the sales of distributors beneath them in their network. Commission expense as a percentage of sales was 46% and 49% during the three months ended June 30, 2002 and 2001, respectively, due to the implementation of a new commission structure in January 2001 and implementation of a revised commission structure during the three months ended June 2002, in an attempt to attract and retain distributions. In addition, the elimination of the grandfather clauses in the commission structure began gradually in January 2001 and was completed by July 2001. Operating expenses include shipping and handling expenses, selling expenses, research and development expenses and general and administrative expenses. In total, operating expenses decreased $0.4 million or 19.2% to $1.7 million for the three months ended June 30, 2002 from $2.1 million for the three months ended June 30, 2001. The components of operating expenses are discussed below. o Selling expenses includes order operator and distributor services expenses, marketing and promotion expenses, and the expenses of the Office of the President and CEO. Selling expenses decreased $42,090, or 4.3%, between 2002 and 2001 to $0.9 million from $1.0 million. This decrease was primarily due to a decrease in salaries and compensation, a decrease in consulting costs and a decrease in utility costs. Selling expenses were 13.7% of sales for the three months ended June 30, 2002 and 12.7% of sales for the three months ended June 30, 2001. o General and administrative expenses decreased by $0.3 million between 2002 and 2001 to $0.3 million from $0.6 million. For the three months ended June 30, 2002, general and administrative expenses averaged 5.1% of sales while they were 8.6% of sales for the three months ended June 30, 2001. The decrease between 2002 and 2001 is attributable to a decrease in payroll and related costs as a result of the cost-cutting initiative we undertook, a decrease in legal and consulting fees incurred during 2002, and a decrease in costs associated with the consolidation of office space and leased facilities that occurred during 2001. o Shipping and handling expenses includes purchasing, receiving, and materials management. Shipping and handling expenses decreased $71,737 or 15.1%, to $0.4 million in 2002 from $0.5 million in 2001. The decrease was due to a decrease in freight expenses in 2002 due to the overall decrease in sales. Shipping and handling expenses as a percent of net sales decreased to 6.0% for the three months ended June 30, 2002 from 6.3% for the three months ended June 30, 2001 due to a slight reduction in related payroll expenses. o Research and development expenses increased 20% to $46,263 in 2002 from $38,482 in 2001, which constituted 0.7% and 0.5% of net sales, respectively. Other income decreased to $98,209 for the three months ended June 30, 2002 from $130,699 for the three months ended June 30, 2001 principally due to a decrease in sundry income collected from Distributors offset by recording the fair value cost of penalty shares and warrants to be issued to an investor in the amount of $56,454. Net interest expense decreased to $48,589 for the three months ended June 30, 2002 from approximately $172,000 for the three months ended June 30, 2001. This decrease was due to various fees paid to the current lender in 2001, offset by a decrease in interest expense due to a 12 decrease in outstanding debt in 2002 versus 2001. Net interest expense represented 0.7% and 2.3% of sales for each of the three months ended June 30, 2002 and 2001, respectively. Net loss decreased $801,081 or 107% to a net income of $52,487 for the three months ended June 30, 2002 from a net loss of $748,594 for the comparable period in 2001. As a percentage of net sales, net income was 0.8% for the three months ended June 30, 2002 compared to a net loss of 10% for the comparable period in 2001. The dollar increase was due to a decrease in selling expenses and general and administrative expenses as a percentage of sales offset and a decrease in commission expense as a percentage of sales. Six months ended June 30, 2002 compared with the six months ended June 30, 2001 Net sales for the six months ended June 30, 2002 were $13,860,819, a decrease of 11.5% from net sales of $15,665,312 for the six months ended June 30, 2001. The decrease in sales is directly related to a 13% decrease in orders for the same period. Average order size increased to $119 from $116 over the same period. The average number of distributors for the six months ended June 30, 2002 decreased to an average of 45,581, which was 17% lower than the average of 54,928 distributors for the six months ended June 30, 2001. Sales of our food supplement products are made through a multi-level marketing network of distributors, so sales are positively linked with the number of distributors. Gross profit represents net sales less the cost of goods sold, which includes the cost of harvesting blue-green algae from Klamath Lake, the cost of other materials, direct labor expenses, an allocation of overhead costs, amortization, and depreciation. Gross profit increased to 72% from 68% of net sales between the six months ended June 30, 2002 and 2001, respectively. The increase in the gross profit margin is mainly due to the reduction of depreciation expenses associated with the write down of certain fixed assets. Gross profit after commissions represents gross profit less commission expense. Commission expense for the six months ended June 30, 2002 and 2001 was $6.5 million and $7.7 million, respectively, a decrease of $1.2 million, or 15.3%, respectively. We are a multi-level marketing organization. Distributors make up our sales force. Distributors buy algae products for their own consumption plus they actively recruit other distributors into our network. Distributors are paid commissions based upon their personal sales volumes and the sales of distributors beneath them in their network. During the six months ended June 30, 2002, we implemented a new commission structure in an attempt to attract and retain Distributors. Commission expense as a percentage of sales was 47% and 49% during the six months ended June 30, 2002 and 2001, respectively. Operating expenses include shipping and handling expenses, selling expenses, research and development expenses and general and administrative expenses. In total, operating expenses decreased $1.3 million or 28% to $3.3 million for the six months ended June 30, 2002 from $4.6 million for the six months ended June 30, 2001. The components of operating expenses are discussed below. o Selling expenses includes order operator and distributor services expenses, marketing and promotion expenses, and the expenses of the Office of the President and CEO. Selling expenses decreased $0.3 million between 2002 and 2001 to $1.8 million from $2.1 million. This decrease was primarily due to a decrease in salaries and compensation. Selling expenses were 13.1% of sales for the six months ended June 30, 2002 and 13.4% of sales for the six months ended June 30, 2001. o General and administrative expenses decreased by $0.9 million between 2002 and 2001 to $0.6 million from $1.5 million. For the six months ended June 30, 2002, general and administrative 13 expenses averaged 4% of sales while they were 9.3% of sales for the six months ended June 30, 2001. The decrease between 2002 and 2001 is attributable to the penalties paid in 2001 relating to the early repayment of the outstanding balance of the loan from the former owner of Cell Tech, a decrease in legal and consulting fees incurred during 2002, and a decrease in costs associated with the consolidation of office space and leased facilities that occurred in 2001. o Shipping and handling expenses includes purchasing, receiving, and materials management. Shipping and handling expenses decreased $0.1 million or 11.7%, to $.8 million in 2002 from $0.9 million in 2001. The decrease was due to a decrease in freight expenses in 2002 due to the overall decrease in sales. Shipping and handling expenses as a percent of net sales was 6% for the six months ended June 30, 2002 and June 30, 2001, respectively. o Research and development expenses decreased 24% to $82,143 in 2002 from $108,065 in 2001, which constituted 0.6% and 0.7% of net sales, respectively. Other income decreased to $0.1 million for the six months ended June 30, 2002 from $0.2 million for the six months ended June 30, 2001 principally due to a decrease in sundry income collected from Distributors offset by recording the fair value cost of penalty shares and warrants to be issued to an investor in the amount of $112,422. Net interest expense decreased to $95,735 for the six months ended June 30, 2002 from $351,425 for the six months ended June 30, 2001. This decrease was due to a decrease in interest expense due to a decrease in outstanding debt in 2002 versus 2001, and due to various fees paid to the lender in 2001 Net loss decreased 109% to net income of $161,560 for the six months ended June 30, 2002 from a net loss of $1,796,857for the comparable period in 2001. As a percentage of net sales, net income was 1.2% for the six months ended June 30, 2002 compared to a net loss of 11.5% for the comparable period in 2001. The dollar increase was due to net sales decreasing by 11.5%, offset by the curtailment of various operating expenses. Liquidity and Capital Resources Working capital deficit at June 30, 2002 amounted to $5,418,069, a decrease of $1,019,117 from a working capital deficit of $6,437,186 as of December 31, 2001. At June 30, 2002, we had a bank overdraft of $195,732 versus a bank overdraft of $763,105 as of December 31, 2001. In addition, we are not in compliance with certain restrictive covenants of our $15 million Line of Credit Agreement with a financial institution. As a result, at December 31, 2001 (our fiscal year end), our independent certified public accountants have expressed substantial doubt about our ability to continue as a going concern. We believe that our future cash flows from operations, our existing capital resources, bank borrowings and suspension of dividend payments to shareholders, should be adequate to fund our operations for at least the next twelve months. We have no present commitments or agreements with respect to any acquisitions or purchases of manufacturing facilities or new technologies. As a result of a resolution of the Board of Directors and, as set forth in a recent court order regarding the dispute between Marta Carpenter and Daryl Kollman, we are no longer paying Daryl Kollman consulting fees in the aggregate amount of $120,000 per year. Any future changes in our operations could consume available capital resources faster than anticipated. Our capital requirements depend on numerous factors, including: o the introduction of new products; o change in the number of Distributors and the retention of the current Distributor base; and 14 o research and development efforts. We have an ample supply of algae inventory for the use in capsules and tablets (10.2 months are frozen and 4.4 months are freeze-dried powder) and for use with vendor products (160 months are frozen and 78 months are freeze-dried powder). Accordingly, we do not anticipate a shortage of supply. This availability of inventory usage is based on our current consumption levels and our experts have informed us that the nutritional quality of our algae does not change significantly as a result of our harvesting and storage methods. As a result of the large volume of inventory on hand, a portion of the inventory has been classified as a long-term asset. If existing capital resources are insufficient to meet our capital requirements, we would be required to raise additional funds, which we cannot assure will be available on favorable terms, if at all. Cash Flows Net cash flows provided by operating activities for the six months ended June 30, 2002 amounted to $1,215,520 compared to cash flows provided by operations of $903,919 for the six months ended June 30, 2001. The increase in cash flows generated by operations is primarily due to changes in current assets and liabilities and the increase in net income. Cash flows used in investing activities for the six months ended June 30, 2002 was $328,783. This is an increase of $169,069 from net cash used for investing activities of $159,714 for the six months ended June 30, 2001, due to an increase in construction in progress during the six months ended June 30, 2002 that were related to the construction of the barges to be used for harvesting purposes. Net cash flows used for financing activities was $886,737 for the six months ended June 30, 2002 versus net cash used for financing activities of $744,205 for the six months ended June 30, 2001. This change is principally due to a decrease in our bank overdraft during 2002 versus 2001, the net payments on long-term debt of $145,311 for the six months ended June 30, 2002, and an increase in the repayment of related party borrowings. Recent Accounting Pronouncements Pronouncements Adopted Sales Incentives In November 2001, the Emerging Issues Task Force ("EITF") issued EITF Issue No. 01-09, "Accounting for Consideration Given by a Vendor to a Customer or a Reseller of the Vendor's Products," which addresses the accounting for consideration given by a vendor to a customer or a reseller of the vendor's products. In April 2001, the EITF reached a consensus on EITF Issue No. 00-25, "Vendor Income Statement Characterization of Consideration Paid to a Reseller of the Vendor's Products," which provides guidance on the income statement classification of consideration from a vendor to a reseller in connection with the reseller's purchase of the vendor's products or to promote sales of the vendor's products. The Company pays commissions to its distributors as compensation for sales and marketing activities as evidenced by downline growth and sales volume and thus classifies these expenses as a cost and not a reduction of revenue. There was no effect on the consolidated financial position, results of operations or cash flows as a result of implementation of this pronouncement. 15 Goodwill and Other Intangible Assets Effective January 1, 2002, we adopted Statement of Financial Accounting Standards No. 142 Goodwill and Other Intangible Assets (SFAS 142). Under SFAS 142, Goodwill and indefinite life intangible assets are no longer amortized but will be reviewed annually, or more frequently if impairment indicators arise, for impairment. Other intangible assets with finite lives, consisting of trademarks with a carrying value of $57,302 at January 1, 2002, will continue to be amortized over their estimated useful lives of 10years. Impairment or Disposal of Long-Lived Assets On January 1, 2002, the Company adopted Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144, which addresses financial accounting and reporting for the impairment of long-lived assets and for long-lived assets to be disposed of, supercedes SFAS No. 121. The adoption of SFAS No. 144 did not have an effect on the financial position or results of operations. Pronouncements Not Yet Adopted In July 2001, the FASB issued Statement of Financial Accounting Standards No. 143 ("SFAS No. 143"), "Accounting for Asset Retirement Obligations." SFAS No. 143 establishes standards associated with the retirement of tangible long-lived assets and the associated asset retirement costs. This statement is effective for financial statements issued for fiscal years beginning after June 15, 2002. We have not yet assessed the impact of this standard on our financial statements, but do not expect the impact to be material. Statement of Financial Accounting Standards No. 145, "Rescission of SFAS Statements No. 4, 44, and 64, Amendment of SFAS Statement No. 13, and Technical Corrections" ("SFAS 145"), updates, clarifies and simplifies existing accounting pronouncements. SFAS 145 rescinds SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt." SFAS 145 amends SFAS No 13, "Accounting for Leases," to eliminate an inconsistency between the required accounting for sales-leaseback transactions and the required accounting for certain lease modifications that have economic effects that are similar to sale-leaseback transactions. The provisions of SFAS 145 related to SFAS No. 4 and SFAS No. 13 are effective for fiscal years beginning and transactions occurring after May 15, 2002, respectively. It is anticipated that the financial impact of SFAS 145 will not have a material effect on us. Statement of Financial Accounting Standards No. 146, Statement of Financial Accounting Standards No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS 146"), requires us to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. SFAS 146 replaces Emerging Issues Task Force ("EITF") Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)." The provisions of SFAS 146 are to be applied prospectively to exit or disposal activities initiated after December 31, 2002. Special Note Regarding Forward-Looking Statements Some of our statements under "Legal Proceedings," "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Quantitative and Qualitative Disclosures about Market Risk," "Other Information," the Notes to Consolidated Financial Statements and elsewhere in this report 16 constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements are subject to certain events, risks and uncertainties that may be outside our control. Some of these forward-looking statements include statements of: o management's plans, objectives and budgets for its future operations and future economic performance; o capital budget and future capital requirements; o meeting future capital needs; o realization of any deferred tax assets; o the level of future expenditures; o impact of foreign currency translations; o impact of recent accounting pronouncements; o the outcome of regulatory and litigation matters; and o the assumptions described in this report underlying such forward-looking statements. Actual results and developments may materially differ from those expressed in or implied by such statements due to a number of factors, including: o those described in the context of such forward-looking statements; o future product development and manufacturing costs; o changes in our incentive plans; o timely development and acceptance of new products; o the markets of our domestic and international operations; o the impact of competitive products and pricing; o the political, social and economic climate in which we conduct operations; and o the risk factors described in other documents and reports filed with the Securities and Exchange Commission. In some cases, forward-looking statements are identified by terminology such as "may," "will," "should," "could," "would," "expects," "plans," "intends," "anticipates," "believes," "estimates," "approximates," "predicts," "potential" or "continue" or the negative of such terms and other comparable terminology. Although we believe that the expectations reflected in these forward-looking statements are reasonable, it cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor anyone else assumes responsibility for the accuracy and completeness of such statements and is under no duty to update any of the forward-looking statements after the date of this report. Item 3. Quantitative and Qualitative Disclosures About Market Risk We have not entered into any transactions using derivative financial instruments or derivative commodity instruments and believe that our exposure to market risk associated with other financial instruments is not material. Our primary market risks include fluctuations in our variable interest rates. Our management believes that fluctuation in variable interest rates in the near term would not materially affect our consolidated operating results, financial position or cash flows as we have limited risks related to interest rate fluctuations. Daryl Kollman and Marta Carpenter have sole voting and investment power with respect to their shares. The Internal Revenue Service has a security interest in all of their shares pursuant to a Notice of Determination dated June 18, 1999, under the terms of which the shares are held in trust and will be 17 released upon the payment of their federal income tax liabilities for various specified years. Daryl Kollman and Marta Carpenter will sell their shares as needed and allowed by federal and state securities laws to make quarterly payments to the Internal Revenue Service. They retain all voting rights incident to their shares while the shares are held in trust. The Internal Revenue Service may seize their shares from the trust if they fail to timely cure a default upon their commitments to the Internal Revenue Service under the Notice of Determination. The Internal Revenue Service would thereafter proceed to sell or judicially foreclose some or all of the shares for payment of their tax liabilities as allowed by applicable law. PART II - OTHER INFORMATION Item 1. Legal Proceedings See discussion under "Legal Proceedings" in our Annual Report on Form 10-K (File No. 0-21015) for year ended December 31, 2001 as filed with the Commission on May 23, 2002 and in Note 4 to the Financial Statements included in Item 1 of Part I of this document. Item 2. Changes in Securities None. Item 3. Defaults Upon Senior Securities Not applicable. Item 4. Submission of Matters to a Vote of Security Holders None. Item 5. Other Information None. Item 6. Exhibits and Reports on Form 8-K (a) Exhibits required by Item 601 of Regulation S-K Exhibit Number Description -------------- ----------- (13) Annual or Quarterly Report to Security Holders (13.1) Annual Report on Form 10-K for fiscal year ending December 31, 2001 (99) Additional Exhibits (99.3) Certification pursuant to 18 U.S.C Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (b) Current Reports on Form 8-K. None. 18 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Klamath Falls, State of Oregon on August 20, 2002. CELL TECH INTERNATIONAL INCORPORATED

CELL TECH INTERNATIONAL INC 10-Q/A