UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended: June 25, 2005
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: 1-11064
BRITESMILE, INC.
(Exact name of registrant as specified in its charter)
UTAH 87-0410364
--------------------------------------------- -----------------------------
(State or other jurisdiction of incorporation (IRS employer identification no.)
or organization)
460 North Wiget Lane
Walnut Creek, California 94598
------------------------------------------- ---------------------------
(Address of principal executive offices) (Zip Code)
(925) 941-6260
(Issuer's telephone number,
including area code)
490 North Wiget Lane
Walnut Creek, California
(Former name, former address and former fiscal year,
if changed since last report)
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 __
-
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2 of the Exchange Act)
Yes __ No X
-
The Company had 10,709,186 shares of common stock outstanding at August 8, 2005.
BRITESMILE, INC. AND SUBSIDIARIES
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets as of June 25, 2005 and December 25, 2004..................3
Condensed Consolidated Statements of Operations for the 13 and 26 weeks ended
June 25, 2005 and June 26, 2004..................................................................4
Condensed Consolidated Statements of Cash Flows for the 26 weeks ended
June 25, 2005 and June 26, 2004..................................................................5
Notes to Condensed Consolidated Financial Statements.............................................6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...........13
Item 3. Quantitative and Qualitative Disclosures About Market Risk......................................22
Item 4. Controls and Procedures.........................................................................22
PART II. OTHER INFORMATION
Item 1. Legal Proceedings................................................................................24
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds......................................27
Item 3. Defaults upon Senior Securities..................................................................27
Item 4. Submission of Matters to a Vote of Security Holders.............................................27
Item 5. Other Information................................................................................27
Item 6. Exhibits.........................................................................................27
2
PART I - FINANCIAL INFORMATION
ITEM 1...FINANCIAL STATEMENTS
BRITESMILE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
($ in thousands, except share data)
June 25, 2005 December 25,
(unaudited) 2004
--------------- --------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 9,956 $ 18,880
Trade accounts receivable, net of allowances of $462 and $448 1,959 2,118
Account receivable from related party 303 -
Inventories 1,067 1,635
Prepaid expenses and other 674 704
--------------- --------------
Total current assets 13,959 23,337
--------------- --------------
PROPERTY AND EQUIPMENT, NET
12,865 12,426
OTHER ASSETS 2,945 3,843
INTANGIBLES, NET 5,142 5,469
--------------- --------------
TOTAL ASSETS $ 34,911 $ 45,075
=============== ==============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 5,638 $ 5,182
Accrued liabilities 5,973 5,394
Gift certificates and prepaid appointments 748 1,318
Deferred revenue 1,756 1,049
Accrual for Center closures 194 155
Long-term debt to related parties - current portion 1,117 100
Convertible debt - current portion - 432
Capital lease obligations with related parties - current portion 699 1,605
--------------- --------------
Total current liabilities 16,125 15,235
--------------- --------------
LONG TERM LIABILITIES:
Deferred revenue - less current portion 345 -
Capital lease obligations with related parties - less current portion 24 225
Accrual for Center closures 452 596
Long-term debt to related parties - less current portion 4,768 5,698
Convertible debt - less current portion 6,287 5,125
Financial instruments related to convertible debt 1,186 4,602
Other long-term liabilities 1,051 1,012
--------------- --------------
Total long-term liabilities 14,113 17,258
--------------- --------------
Total liabilities 30,238 32,493
--------------- --------------
CONTINGENCIES
SHAREHOLDERS' EQUITY:
Common stock, $.001 par value; 50,000,000 shares authorized;
10,624,570 and 10,345,974 shares issued and outstanding, respectively 38 38
Additional paid-in capital 172,684 170,601
Accumulated deficit (168,049) (158,057)
--------------- --------------
Total shareholders' equity 4,673 12,582
--------------- --------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 34,911 $ 45,075
=============== ==============
See notes to condensed consolidated financial
statements.
3
BRITESMILE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
($ in thousands, except per share data)
13 Weeks Ended 13 Weeks 26 Weeks 26 Weeks
June 25, 2005 Ended Ended Ended
June 26, 2004 June 25, June 26, 2004
2005
--------------- -------------- ------------- --------------
REVENUES:
Center whitening fees, net $ 4,149 $ 4,903 $ 8,581 $ 9,244
Associated Center whitening fees, net 4,521 5,955 8,683 10,962
Product sales and other revenue 1,399 1,873 2,752 4,295
--------------- -------------- ------------- --------------
Total revenues, net 10,069 12,731 20,016 24,501
--------------- -------------- ------------- --------------
OPERATING COSTS AND EXPENSES:
Operating and occupancy costs 5,060 4,068 9,261 8,174
Selling, general and administrative expenses 8,815 7,414 17,874 14,256
Research and development expenses 74 143 149 315
Depreciation and amortization 1,618 1,677 3,209 3,350
--------------- -------------- ------------- --------------
Total operating costs and expenses 15,567 13,302 30,493 26,095
--------------- -------------- ------------- --------------
Loss from operations (5,498) (571) (10,477) (1,594)
--------------- -------------- ------------- --------------
OTHER INCOME AND EXPENSES:
Gain/(loss) on mark-to-market of financial
instruments related to convertible debt (99) - 2,631 -
Amortization of discount on debt (663) (65) (1,300) (128)
Interest and other expense, net (517) (93) (725) (192)
--------------- -------------- ------------- --------------
Loss before income tax provision (6,777) (729) (9,871) (1,914)
INCOME TAX PROVISION 25 - 121 57
--------------- -------------- ------------- --------------
Net loss $ (6,802) $ (729) $ (9,992) $ (1,971)
================ ============== ============= ==============
BASIC AND DILUTED NET LOSS PER SHARE $ (0.65) $ (0.07) $ (0.95) $ (0.19)
================ ============== ============= ==============
WEIGHTED AVERAGE SHARES - BASIC AND DILUTED 10,548,621 10,309,478 10,519,416 10,250,885
================ ============== ============= ==============
See notes to condensed consolidated financial
statements.
4
BRITESMILE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Unaudited
($ in thousands)
26 Weeks Ended 26 Weeks Ended
June 25, 2005 June 26, 2004
----------------------- ---------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (9,992) $ (1,971)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 3,209 3,739
Amortization of discount of debt 1,300 -
Gain on mark-to-market of financial instruments related to convertible
debt (2,631) -
Non-cash compensation expense for restricted stock grant
504 -
Increase in variable deferred payments to a related party - 1,130
Impairment of deferred cost asset 212 -
Loss on disposal of property and equipment 306 -
Other 50 128
Change in assets and liabilities, net 2,796 (3,247)
----------------------- ---------------------
Net cash used in operating activities (4,246) (221)
----------------------- ---------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Investment in foreign spa company (256) -
Purchase of property and equipment (3,578) (771)
----------------------- ---------------------
Net cash used in investing activities (3,834) (771)
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on capital lease to a related party (1,162) (61)
Payments on debt - (2,695)
Proceeds from common stock offerings, net - 6,340
Proceeds from exercise of warrants 245 -
Proceeds from exercise of stock options 73 344
----------------------- ---------------------
Net cash provided by (used in) financing activities (844) 3,928
----------------------- ---------------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (8,924) 2,936
CASH AND CASH EQUIVALENTS AT BEGINNING
OF THE PERIOD 18,880 5,884
----------------------- ---------------------
CASH AND CASH EQUIVALENTS AT END OF THE PERIOD $ 9,956 $ 8,820
======================= =====================
See notes to condensed consolidated financial
statements.
5
BRITESMILE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
June 25, 2005
1. Description of Business and Basis of Presentation
BriteSmile, Inc., a Utah corporation ("BriteSmile" or the "Company"), and its
affiliates develop, distribute, market, sell and lease advanced teeth whitening
technology, products, systems and services. Unless specified to the contrary
herein, references to BriteSmile or to the Company refer to the Company and its
subsidiaries on a consolidated basis. The Company's operations include the
marketing and sale of technologically advanced teeth whitening processes that
are distributed in professional salon settings known as BriteSmile Professional
Teeth Whitening Centers ("Centers"). The Company also offers its products and
technologies in the United States directly to existing independent dental
offices known as BriteSmile Professional Teeth Whitening Associated Centers
("Associated Centers"). Internationally, the Company distributes its products
and technologies through dental distributors in various countries who then
contract with Associated Centers locally. As of June 25, 2005, the Company had
17 Centers in operation. There were 2,871 domestic Associated Centers using the
Company's teeth whitening processes and 2,311 teeth whitening devices in use at
international Associated Centers.
The accompanying unaudited condensed 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 in Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do
not include all of the information and footnotes required by accounting
principles generally accepted in the United States for annual financial
statements. In the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have been
included. Operating results for the 13 and 26 weeks ended June 25, 2005 are not
necessarily indicative of the results that may be expected for the remainder of
the fiscal year ending December 31, 2005.
2. Recent Accounting Pronouncements
In December 2004, the FASB issued SFAS No.153, "Exchanges of Nonmonetary Assets,
an amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions."
The amendments made by Statement 153 are based on the principle that exchanges
of nonmonetary assets should be measured based on the fair value of the assets
exchanged. Further, the amendments eliminate the narrow exception for
nonmonetary exchanges of similar productive assets and replace it with a broader
exception for exchanges of nonmonetary assets that do not have commercial
substance. The Statement is effective for nonmonetary asset exchanges occurring
in fiscal periods beginning after June 15, 2005. Earlier application is
permitted for nonmonetary asset exchanges occurring in fiscal periods beginning
after the date of issuance. The provisions of this Statement shall be applied
prospectively. The Company has evaluated the impact of the adoption of SFAS 153,
and does not believe the impact will be significant to the Company's overall
results of operations or financial position.
In December 2004, the FASB issued SFAS No.123 (revised 2004), "Share-Based
Payment". Statement 123(R) will provide investors and other users of financial
statements with more complete and neutral financial information by requiring
6
that the compensation cost relating to share-based payment transactions be
recognized in financial statements. That cost will be measured based on the fair
value of the equity or liability instruments issued. Statement 123(R) covers a
wide range of share-based compensation arrangements including share options,
restricted share plans, performance-based awards, share appreciation rights, and
employee share purchase plans. Statement 123(R) replaces FASB Statement No. 123,
Accounting for Stock-Based Compensation, and supersedes APB Opinion No. 25,
Accounting for Stock Issued to Employees. Statement 123, as originally issued in
1995, established as preferable a fair-value-based method of accounting for
share-based payment transactions with employees. However, that Statement
permitted entities the option of continuing to apply the guidance in Opinion 25,
as long as the footnotes to financial statements disclosed what net income would
have been had the preferable fair-value-based method been used. Public entities
(other than those filing as small business issuers) will be required to apply
Statement 123(R) as of the first interim or annual reporting period that begins
after June 15, 2005. The Company is currently evaluating the impact SFAS 123(R)
will have on our consolidated results.
In March 2005, the SEC released Staff Accounting Bulletin No. 107, "Share-Based
Payment" ("SAB 107"), which provides interpretive guidance related to the
interaction between SFAS 123(R) and certain SEC rules and regulations. It also
provides the SEC staff's views regarding valuation of share-based payment
arrangements. In April 2005, the SEC amended the compliance dates for SFAS
123(R), to allow companies to implement the standard at the beginning of their
next fiscal year, instead of the next reporting period beginning after June 15,
2005. Management is currently evaluating the impact SAB 107 will have on our
consolidated financial statements.
In May 2005, the FASB issued FASB Statement No. 154, Accounting Changes and
Error Corrections. This new standard replaces APB Opinion No. 20, Accounting
Changes, and FASB Statement No. 3, Reporting Accounting Changes in Interim
Financial Statements, and represents another step in the FASB's goal to converge
its standards with those issued by the IASB. Among other changes, Statement 154
requires that a voluntary change in accounting principle be applied
retrospectively with all prior period financial statements presented on the new
accounting principle, unless it is impracticable to do so. Statement 154 also
provides that (1) a change in method of depreciating or amortizing a long-lived
nonfinancial asset be accounted for as a change in estimate (prospectively) that
was effected by a change in accounting principle, and (2) correction of errors
in previously issued financial statements should be termed a "restatement." The
new standard is effective for accounting changes and correction of errors made
in fiscal years beginning after December 15, 2005. Early adoption of this
standard is permitted for accounting changes and correction of errors made in
fiscal years beginning after June 1, 2005. The Company has evaluated the impact
of the adoption of SFAS 154, and does not believe the impact will be significant
to the Company's overall results of operations or financial position.
In March 2005, the SEC released Staff Accounting Bulletin No. 107, "Share-Based
Payment" ("SAB 107"), which provides interpretive guidance related to the
interaction between SFAS 123(R) and certain SEC rules and regulations. It also
provides the SEC staff's views regarding valuation of share-based payment
arrangements. In April 2005, the SEC amended the compliance dates for SFAS
123(R), to allow companies to implement the standard at the beginning of their
next fiscal year, instead of the next reporting period beginning after June 15,
2005. Management is currently evaluating the impact SAB 107 will have on our
consolidated financial statements.
3. Stock Based Compensation
The Company uses the intrinsic value method to account for its stock based
compensation plans. The Company has elected to account for stock-based employee
compensation under the recognition and measurement principles of Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and
related interpretations. For stock-based compensation grants to non-employees,
we recognize as compensation expense the fair market value of such grants as
calculated pursuant to SFAS No., 123, "Accounting for Stock-Based Compensation"
and related interpretation, amortized ratably over the lesser of the vesting
period of the respective option or the individual's expected service period. The
following table illustrates the effect on net loss and earnings per share if we
had applied the fair value recognition provisions of SFAS No. 123 to stock-based
employee compensation (in thousands, except per share data):
7
13 Weeks 13 Weeks 26 Weeks Ended 26 Weeks
Ended June Ended June June 25, 2005 Ended
25, 2005 26, 2004 June 26, 2004
-------------- -------------- --------------- --------------
Loss as reported................... $ (6,802) $ (729) $ (9,992) $ (1,971)
Compensation expense reported under APB25 - 40 - 40
Compensation expense computed using fair value 132 234 714 949
method
-------------- -------------- --------------- --------------
Pro forma loss..................... $ (6,934) $ (1,003) $ (10,706) $ (2,960)
============== ============== =============== ==============
Pro forma basic and diluted loss per share
$ (0.66) $ (0.10) $ (1.02) $ (0.29)
============== ============== =============== ==============
To determine pro forma information as if we had accounted for employee stock
options under the fair-value method as defined by SFAS No. 123, we used the
Black-Scholes method, assuming no dividends, as well as the weighted average
assumptions included in the following table:
13 Weeks 13 Weeks 26 Weeks 26 Weeks Ended
Ended June Ended June Ended June 26, 2004
25, 2005 26, 2004 June 25, 2005
--------------- -------------- -------------- ---------------
Expected option life (in years) 4.66 4.66 4.66 4.66
Expected volatility 65% 98% 65% 98%
Risk-free interest rate 3.69% 4.25% 3.69% 4.25%
Certain rights to 240,000 shares of restricted stock were granted to the former
Chief Executive Officer, Gregg Coccari, upon his hire date of January 9, 2005.
The former Chief Executive Officer was also granted an option for the purchase
of 600,000 shares of common stock at $6.30 per share. The restricted stock
vested over a two-year period and the options vested over a four-year period. On
June 29, 2005 the Board of Directors of the Company accepted the deemed
resignation of Mr. Coccari, and his restricted stock and stock options have
ceased vesting.
For further information, refer to the consolidated financial statements and
footnotes thereto included in the Company's Annual Report on Form 10-K for the
52 weeks ended December 25, 2004.
4. Loss Per Common Share
Basic net loss per share is calculated as net loss divided by the
weighted-average number of common shares outstanding. Diluted net loss per share
is equal to basic net loss as the Company has recorded a net loss. Stock options
totaling 1,826,708 shares and warrants totaling 1,088,039 shares and convertible
notes payable have been excluded from the calculation of net loss per share for
the 13 and 26 week periods ended June 25, 2005 as their effect is anti-dilutive.
Stock options totaling 924,019 shares and warrants totaling 332,825 shares and
convertible notes payable have been excluded from the calculation of net loss
per share for the 13 and 26 week periods ended June 26, 2004 as their effect is
anti-dilutive.
5. Debt
The Company has certain financial instruments related to its convertible debt.
The estimated fair value amounts have been determined using appropriate market
information and valuation methodologies. In the measurement of the fair value of
these instruments, the Black-Scholes option pricing model was utilized, which is
consistent with the Company's historical valuation techniques. The value of the
Financial Instruments Related to Convertible Debt - Warrants was treated as a
liability and marked-to-market based on the current stock price with the
resulting gain or loss reflected in the income statement. As of February 4,
2005, the Company registration statement relating to the warrants was declared
effective which triggered the financial instrument to be reclassified to equity.
8
In February 2005, the Company paid $1.0 million due under the amended capital
lease agreement with Excimer Vision Leasing ("EVL"), a related party, for the
variable rent portion of the monthly payment due beginning November 2003 through
December 2004 and the fixed rent portion of the monthly payment due beginning
January 2004 through December 2004, with interest payable on the deferred amount
at a rate equal to LIBOR, plus 250 basis points. Under the amended capital lease
agreement another $1.0 million of deferred rent is due February 15, 2006, and
the remaining balance is due to be paid on February 15, 2007. As of June 25,
2005, the unpaid variable rent was $2.5 million, of which $1.5 million is
included in long-term debt. As of June 25, 2005, the unpaid fixed rent on the
capital lease was $723,000 of which $699,000 is current.
6. Related Parties
The Company has paid amounts to certain entities which are considered to be
related parties. The following table summarizes the amounts paid year to date in
2005 (in thousands).
------------------------------- ---------------------------- ---------------------------- ----------------------------
------------------------------- ---------------------------- ---------------------------- ----------------------------
Oraceutical, LLC A board member is a Merchandise/Pack out $767
founding member and charges
President of Oraceutical
------------------------------- ---------------------------- ---------------------------- ----------------------------
Oraceutical, LLC A board member is a Consulting fee $90
founding member and
President of Oraceutical
------------------------------- ---------------------------- ---------------------------- ----------------------------
LCO Properties, Inc. Deemed affiliate of the Monthly rent for New York $198
chairman of the board Center
------------------------------- ---------------------------- ---------------------------- ----------------------------
LCO Investments, Ltd. Deemed affiliate of the Interest $17
chairman of the board
------------------------------- ---------------------------- ---------------------------- ----------------------------
CAP America Trust Deemed affiliate of the Interest $39
chairman of the board
------------------------------- ---------------------------- ---------------------------- ----------------------------
Excimer Vision Leasing Deemed affiliate of the Variable fees, fixed fees, $2,055
chairman of the board plus $1 million paid on
deferred lease balance
------------------------------- ---------------------------- ---------------------------- ----------------------------
7. Legal Proceedings
The Company is the subject of certain legal actions. Management does not believe
that current pending litigation involving the Company will have a material
adverse effect on the Company's consolidated financial position or results of
operations beyond what management has reflected in the financial statements as
of June 25, 2005. This conclusion has been developed in consultation with
outside counsel handling BriteSmile's defense in the matters. However, the
litigation and other claims noted in this report are subject to inherent
uncertainties and it is possible that future results of operations for any
particular quarterly or annual period could be materially affected by changes in
management's assumptions and the effectiveness of BriteSmile's strategies
related to these legal actions.
BriteSmile, Inc. v. Discus Dental, Inc. and Salim Nathoo, filed in the United
States District Court for the Northern District of California (the "Discus
Patent Litigation"). The Company filed an initial complaint against Discus
Dental, Inc. ("Discus"), Culver City, California, in July 2002. As amended to
date, the complaint asserts claims of infringement of the Company's U.S. Patents
Nos. 6,343,933, 6,514,543 and 6,536,628. In February 2003, the Company amended
the Discus Patent Litigation by adding Salim Nathoo ("Nathoo") as a defendant.
The complaint, as amended, further alleges misappropriation of the Company's
trade secrets, civil conspiracy, and unfair competition and business practices
by Discus and Nathoo; breach of contract and breach of fiduciary duty by Mr.
Nathoo, and tortuous interference with contract by Discus. The complaint alleges
that Nathoo and Discus conspired to misappropriate BriteSmile's trade secrets in
violation of Nathoo's contractual obligations to the Company. The amended
lawsuit alleges that, as BriteSmile's Medical Director, Nathoo had, and
continues to have, an obligation to keep BriteSmile's trade secrets
confidential. Beginning in 2001, Discus Dental and Nathoo entered into an
agreement whereby Discus Dental paid Nathoo at least $2.5 million over a less
than two year period for Nathoo's "consulting" services, which included paying
Nathoo to share with Discus certain of the Company's trade secrets. The lawsuit
alleges further that in December 2002, a third party informed BriteSmile of
Nathoo's activities, and that when confronted by BriteSmile, Nathoo admitted to
receiving $2.5 million from Discus. The Company seeks a permanent injunction
against both Discus and Nathoo to prevent further infringement of its patents
and improper disclosure of the Company's trade secrets, lost profits, treble
damages and attorneys fees for willful patent infringement, punitive damages,
and other relief.
9
Discus has filed its answer to the amended complaint and counterclaims. In its
answer, Discus denies any liability for BriteSmile's claims and raises various
affirmative defenses. Discus asserts counterclaims against BriteSmile, seeking,
among other claims, (i) judicial declarations that BriteSmile's patents are
invalid, unenforceable, and have not been infringed, (ii) tortuous interference
with prospective economic advantage and economic business relations, and (iii)
unfair competition.
In July 2003, the case of Salim Nathoo v. BriteSmile Leasing was consolidated
with the Discus Patent Litigation. Thereafter, Nathoo filed an answer and
counterclaims to the Company's complaint, as well as a third party complaint
against Montgomery, who is a director of the Company, and several of
Montgomery's companies, and the following Company employees or directors: John
Reed, John Warner and Anthony Pilaro, alleging causes of action including
correction of inventorship of several of the Company's patents; infringement by
the Company of those same patents; misappropriation of trade secrets by the
Company, Montgomery and several of his companies, Reed, Warner and Pilaro;
conversion by the Company, Montgomery and his companies, Reed, Warner and
Pilaro; fraud against the Company, Montgomery, Reed, Warner and Pilaro; breach
of contract by the Company, Montgomery, Reed, Warner and Pilaro; and tortuous
interference with contract by the Company.
On May 13, 2005, the Court issued its Claims Construction Order construing the
legal meanings of the claims of the patents-in-suit. The parties thereafter
submitted a Joint Case Management Report to the Court, and they await a new
scheduling order setting the dates for the remainder of discovery and trial.
In June 2005, Discus amended its counterclaims seeking declarations of
invalidity and non-infringement of several additional BriteSmile patents, and
for tortious interference, unfair competition and product disparagement.
BriteSmile has moved to dismiss those counterclaims. A hearing on BriteSmile's
motion is set for September 2005.
Discovery and pre-trial proceedings are ongoing.
BriteSmile v. Discus Dental, Inc., filed in Contra Costa County Superior Court,
California. In May 2002, the Company filed a complaint against Discus Dental,
Inc. in Contra Costa County Superior Court, California, alleging causes of
action for intentional interference with contractual relationship, negligent
interference with contractual relationship, violation of Unfair Business
Practice Act - Loss Leader, violation of Unfair Business Practice Act, trade
libel and injunctive relief. The complaint alleges that Discus Dental and other
defendants yet to be identified wrongfully interfered with the Company's
contractual relationships with its Associated Center Dentists, in part by
writing letters with the purpose of inducing certain of the Company's Associated
Dentists to terminate their contracts with the Company and switch to Discus'
Zoom! system, and by making false and disparaging statements concerning the
Company's teeth whitening system. The Complaint seeks damages for loss of
business, punitive damages, injunctive relief, and costs of suit. This case was
stayed in March 2003 pending the resolution of the Discus Patent Litigation.
Smile Inc. Asia Pte. Ltd. v. BriteSmile In April 2002, Smile Inc. Asia Pte. Ltd.
("Smile") sued the Company and BriteSmile Management, Inc., a wholly owned
subsidiary of the Company ("BriteSmile Management"), in Utah state court. The
complaint alleges that BriteSmile Management breached its 1998 distributor
agreement with Smile (exclusive as to Singapore and other surrounding countries)
by failing to fill orders placed and to perform other obligations under the
agreement. The complaint also alleges that BriteSmile Management and the Company
fraudulently induced Smile to enter into the distributor agreement, and includes
claims for alleged damages in amounts material to the Company, based on alleged
unjust enrichment, civil conspiracy, breach of the duty of good faith and fair
dealing, interference with contractual and economic relations, and fraudulent
transfer.
The Company has denied these allegations and believes the alleged damages are
entirely unsupported, and will continue to defend this action vigorously.
In May 2002, the Company and BriteSmile Management filed their answer and
counterclaim. The counterclaim alleges that Smile breached the distributor
agreement by, among other things, failing to operate using a licensed dentist in
good standing (the license of the principal of Smile, Dr. Tan, was revoked
during 1999) and using BriteSmile's names and marks in a fashion not permitted
by the distributor agreement.
10
One of the principal defenses to Smile's claims is that the distributor
agreement expressly excludes "non-laser-aided teeth whitening products and
processes" sold by the Company. Accordingly, in the lawsuit the Company asserts
that Smile had no rights to market and sell the Company's current light
activated teeth whitening ("LATW") or retail products and cannot claim damages
for BriteSmile's marketing of such products in the exclusive territory described
in the distributor agreement.
In May 2004, the Company filed a motion to compel Smile to participate in
mandatory binding arbitration and to stay the litigation pending arbitration. In
June 2004, the Court denied the Company's motion to compel arbitration. On July
16, 2004, the Company filed a Notice of Appeal on the issue of compelling this
case to be decided by mandatory binding arbitration. The case is stayed at the
trial level until the appellate court decides whether to compel Smile to
participate in arbitration.
Both parties have produced documents and written responses in support of their
claims and defenses, and depositions of certain key witnesses have been taken.
However, the Company is still waiting to receive from Smile documents and
evidence to support Smile's calculation of damages. While the plaintiff has
claimed $10 million in damages, management believes that the likelihood of
material damages to the Company is remote.
The Procter & Gamble Company v. Oraceutical LLC, IDEX Dental Sciences, Inc.,
Robert Eric Montgomery, BriteSmile, Inc. and BriteSmile Development, Inc., filed
in the United States District Court for the Southern District of Ohio. In June
2003, The Proctor & Gamble Company ("P&G") filed a complaint against the
defendants listed above alleging that Oraceutical LLC, IDEX Dental Sciences,
Inc. and Robert Eric Montgomery (collectively, the "REM Group") had breached an
agreement between the REM Group and P&G (the "Standstill Agreement") by entering
into a binding memorandum of understanding (the "MOU") with the Company and
BriteSmile Development, Inc. in May 2003. Montgomery is a director of the
Company. Oraceutical LLC, which is owned by Montgomery, is a consultant to the
Company. The complaint also seeks a declaratory judgment that certain U.S.
patents owned by the Company (but owned by the REM Group at the time the
complaint was filed) (the "Patents") are invalid and unenforceable, and that
P&G's Whitestrips product does not infringe the Patents. P&G is also seeking
monetary damages of at least $75,000 from the Company. Defendants have filed a
motion to dismiss P&G's declaratory judgment action for non-infringement and
invalidity as well as for breach of the Standstill Agreement.
In February 2004, the defendants filed an answer, affirmative defenses, and
counterclaims. The counterclaims asserted that P&G literally infringed one of
the patents by among other things, making, using, selling or offering to sell in
the United States the Crest Whitestrips. The counterclaims further allege that
P&G actively induced infringement of the patents in suit by providing marketing
assistance for, advertising and otherwise promoting the Crest Whitestrips
products to others for resale. There are currently no new motions pending with
the Court other than the motion to dismiss filed by the Company at the outset of
the case, and a motion to compel discovery filed by P&G.
Gregg A. Coccari v. BriteSmile, Inc. and Anthony M. Pilaro, commenced as an
arbitration proceeding with the American Arbitration Association on August 11,
2005. Coccari was hired as the Company's CEO in January 2005. Subsequently,
Coccari was appointed to the Board of Directors of the Company and as a member
of its Executive Committee. Based on, among other things, statements made by
Coccari and his representatives, the Company deemed that Coccari resigned as CEO
and a member of the Executive Committee in June 2005. In his demand for
arbitration, Coccari claims that he was wrongfully terminated as the CEO of the
Company and that he was fraudulently induced to enter into an employment
contract with the Company. He further alleges that his termination by the
Company was in retaliation for unspecified actions by Coccari. Coccari has not
provided the Company with a statement of claims concerning his allegations.
Coccari's demand for arbitration seeks an award of $10 million. However, the
Company believes that Coccari's claims are without merit and intends to
vigorously defend against such claims.
The Company is also subject to legal proceedings and claims in the ordinary
course of business, including claims of alleged personal injury, infringement of
trademarks and other intellectual property rights. However, the Company
believes any such claims that have been presented to the Company as of the date
of this report are without merit and the Company will vigorously defend
against any such claims.
11
8. Investment in Foreign Spa Company
In April 2005, the Company entered into a Shareholder Agreement with Dental Spa
Company (an unrelated Thailand company) to establish a Thailand company whose
business purpose is to open and operate a new Center in Bankgkok, Thailand. The
Company contributed $256,000 to purchase 49.9% of the outstanding shares. Dental
Spa Company contributed 50.1% of the initial capital. Each shareholder has an
approximately 50% economic interest in the center company. The initial capital
investment will be used to build out the Center, for a down payment on a
facility lease, and for general working capital requirements. The Center, which
is not expected to open until the fourth quarter of 2005, will be located in the
Siam Paragon shopping destination currently under construction.
9. Subsequent Events
On June 29, 2005 the Board of Directors of the Company accepted the deemed
resignation of the Chief Executive Officer. The President, Dr. Julian Feneley,
has assumed all the responsibilities of the Chief Executive Officer.
On June 20, 2005, the Compensation Committee of the Board of Directors of the
Company granted stock options for 136,500 shares to various employees at an
exercise price equal to the market price of the Company's stock on that day.
On July 22, 2005, the Company announced that its former independent registered
public accounting firm, Deloitte & Touche ("Deloitte") resigned as the Company's
public accounting firm, effective as of July 18, 2005. On August 10, 2005, the
Company engaged Stonefield Josephson, Inc. ("Stonefield") as its new independent
registered public accounting firm to audit the Company's consolidated financial
statements for the 53 weeks ending December 31, 2005, and to perform procedures
related to the financial statements included in the Company's quarterly reports
on Form 10-Q, beginning with the quarter ended June 25, 2005. The Audit
Committee of the Board of Directors of the Company participated in and approved
the decision to engage Stonefield. The company also reported that during the 52
week periods ended December 25, 2004 and December 27, 2003, and through July 25,
2005 (following the resignation of Deloitte), the Company has not consulted with
Stonefield regarding either (i) the application of accounting principles to a
specified transaction, either completed or proposed; or the type of audit
opinion that might be rendered on the Company's financial statement, and neither
a written report was provided to the Company or oral advice was provided that
Stonefield concluded was an important factor considered by the Company in
reaching a decision as to the accounting, auditing or financial reporting issue;
or (ii) any matter that was either the subject of a disagreement, as that term
is defined in Item 304(a)(1)(v) of Regulation S-K and the related instructions
to Item 304 of Regulation S-K or a reportable event, as that term is defined in
Item 304(a)(1)(v) of Regulation S-K.
On July 12, 2005, the Company and Excimer Vision Leasing ("EVL"), a related
party, amended BriteSmile's capital lease agreement to provide that on December
31, 2005, EVL shall sell to BriteSmile each leased device remaining under lease
at a price of $1 per device and the term of the lease shall end as of December
31, 2005, with no additional payments due under the lease after that date except
for variable and fixed fees unpaid as of the date of the sale and any remaining
deferred lease payments owed by BriteSmile per the August 2004 amendment to the
lease.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Forward-looking Statements and Risk Factors
The following Management's Discussion and Analysis of Financial Condition and
Results of Operations contains forward-looking statements that involve risks and
uncertainties. Such forward-looking statements may be deemed to include
information that is not historical. The statements contained in this Report that
are not purely historical are "forward-looking statements" within the meaning of
the Private Securities Litigation Reform Act of 1995 and Section 21E of the
Securities Exchange Act. These statements relate to the Company's expectations,
hopes, beliefs, anticipations, commitments, intentions and strategies regarding
the future. They may be identified by the use of words or phrases such as
"believes," "expects," "anticipates," "should," "plans," "estimates," and
"potential," among others. Forward-looking statements include, but are not
limited to, statements contained in Management's Discussion and Analysis of
Financial Condition and Results of Operations regarding the Company's financial
performance, revenue and expense levels in the future, and the sufficiency of
its existing assets to fund future operations and capital spending needs. Actual
results could differ materially from the anticipated results or other
expectations expressed in such forward-looking statements. The Company believes
that many of the risks set forth here and in the Company's 10-K Annual Reports
filed with the SEC are part of doing business in the industry in which the
Company operates, and will likely be present in all periods reported. The
forward-looking statements contained in this Report are made as of the date of
this Report and the Company assumes no obligation to update them or to update
the reasons why actual results could differ from those projected in such
forward-looking statements. Among others, risks and uncertainties that may
affect the business, financial condition, performance, development, and results
of operations of the Company include:
o Government regulation of the Company's products and teeth whitening
procedures, including: (i) current restrictions or controls on the
practice of dentistry by general business corporations, and (ii)
future, unknown enactments or interpretations of current regulations
which could, in the future, affect the Company's operational structure
and relationships with licensed dentists;
o Failure of the Company to generate, sustain or manage growth,
including failure to develop new products and expand Center and
Associated Center locations and revenues;
o The loss of product market share to competitors and/or development of
new or superior technologies by competitors; in fact, there is
increased competitive pressure in the Associated Centers;
o Ongoing operating losses associated with the development, marketing
and implementation of new, light-activated teeth whitening
technologies;
o Failure of the Company to secure additional financing to support the
operation and expansion of Centers and Associated Centers and to meet
working capital requirements;
o Unproven market for the Company's new whitening products, whitening
process, and "Whitening Center" and "Associated Center" concepts, in
light of competition from traditional take-home whitening products and
bleaching tray methods;
o Failure to develop marketing strategies and delivery methods to
penetrate U.S. and non-U.S. markets;
o Lack of product diversity; and,
o Unfavorable outcomes with respect to some or all of the state sales
tax assessment negotiations referred to below under "Critical
Accounting Policies and Estimates - Sales Tax Liability".
o Failure of the Company to successfully defend itself in any legal
proceedings in which the Company is a party.
13
o The market price of the Company's stock may be inordinately affected
by the Company's financial results which include significant non-cash
factors.
Critical Accounting Policies And Estimates
General
The Company's discussion and analysis of its financial condition and results of
operations are based upon the Company's consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States of America. The preparation of these financial statements
requires the Company to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. On an on-going basis, the Company evaluates
its estimates, including those related to customer programs and incentives, bad
debts, inventories, income and sales taxes, warranty obligations, financing
operations, restructuring, and contingencies and litigation. The Company bases
its estimates on historical experience and on various other assumptions that are
believed to be reasonable under the circumstances, the results of which form the
basis for making judgments about the carrying values of assets and liabilities
that are not readily apparent from other sources. Actual results may differ from
these estimates under different assumptions or conditions.
The Company believes the following critical accounting policies affect its more
significant judgments and estimates used in the preparation of its consolidated
financial statements.
Revenue Recognition
BriteSmile recognizes revenue related to retail products at the time such
products are sold or shipped to customers.
The Company recognizes revenue from teeth whitening procedures performed at its
Company-run Centers when the procedures have been performed, while related
discounts on procedures booked through the Company's call center are recorded at
the time the procedure is booked. The Company defers the revenue generated on
the sale of key cards and activation codes to domestic Associated Centers and
recognizes the income over the estimated performance period. The Company defers
the revenue generated on the sale of key cards and activation codes to customers
outside of the United States (primarily distributors who sell through to
dentists) and recognizes the income over the estimated sell-through period for
the distributors. Additionally, revenue from procedure sales may be deferred if
any of the components necessary to perform the procedure have not been sent to
the dentist or distributor.
BriteSmile's policy is not to accept any return of key cards or access codes
during the course of the agreement with an Associated Center or a distributor.
Beginning in the third quarter of 2004, BriteSmile introduced the Smile Forever
program. Under various versions of the program, Center customers can pay an
additional fee for the right to receive touch-up procedures over a one- or
two-year period. The revenue associated with this program is deferred and
recognized in product sales over the specific maintenance period.
Deferred Contract Costs
During 1999, the Company granted warrants to Orthodontic Centers of America
("OCA") in consideration of OCA installing the Company's BS3000 machines in OCA
centers. The value of the warrants was capitalized as deferred contract costs
and is being amortized as a reduction of revenue over the life of the agreement
(approximately 10 years). The value of the deferred contract costs was
determined to be impaired as of June 25, 2005. See "Impairment" below.
During 2003, the Company introduced the Magic Mirror, a marketing product
designed to show potential customers what their teeth will look like after an
LATW procedure. The Company provides the Magic Mirror to Associated Centers that
enter into a five year contract to purchase a minimum number of key cards each
month. In accordance with EITF 01-09, "Accounting for Consideration Given to a
Vendor by a Customer (Including the Reseller of a Vendor's Products)", the
associated revenue and cost of the Magic Mirrors provided to customers have been
14
capitalized and are being amortized to revenue and cost of goods sold over the
life of the contract. In the event a particular Associated Center abandons the
contract or fails to order any procedures for six months, the remaining
capitalized cost of the Magic Mirror is written off. At June 25, 2005 the
capitalized amount on the balance sheet was $546,000, net of deferred revenue
received from the sale of Magic Mirrors to customers.
Management will continually assess the recoverability of these costs.
Bad Debt
BriteSmile maintains allowances for doubtful accounts for estimated losses
resulting from the inability of its customers to make required payments. A
considerable amount of judgment is required in assessing the ultimate
realization of accounts receivable including the current credit-worthiness of
each Associated Center. If the financial condition of BriteSmile's customers
were to deteriorate, resulting in an impairment of their ability to make
payments, additional allowances may be required. The allowance for doubtful
accounts at June 25, 2005 was $462,000 including approximately $130K allowance
for potential right of return.
Inventory
Inventories are stated at the lower of cost or market. BriteSmile writes down
its inventory for estimated obsolescence or unmarketable inventory equal to the
difference between the cost of inventory and the estimated market value based
upon assumptions about future demand and market conditions, as well as for
damaged goods. If actual market conditions are less favorable than those
projected by management, additional inventory write-downs may be required.
Property, Equipment and Improvements
BriteSmile evaluates its property, equipment and improvements for impairment
whenever indicators of impairment exist. An impairment charge of $105,000 for
capitalized Magic Mirror Mold & Tooling, net of depreciation, was recognized in
the 13 week period ending June 25, 2005. In the same period, a $65,000
impairment charge was recognized for lighting devices which, in management's
opinion, may not be feasibly recoverable from foreign countries.
Center Closures
During 2001, BriteSmile recorded significant reserves in connection with Center
closures. These reserves, which were adjusted in 2003, include estimates
pertaining to employee separation costs and the settlements of contractual
obligations, primarily property leases. The Company recorded an additional
reserve in the first quarter of 2004 for severance and lease liabilities
associated with the closure of the Honolulu Center. Although the Company does
not anticipate significant changes, the actual costs related to the closures may
differ from these estimates. In total, the Center closure reserve decreased
$105,000 in the 26 weeks ended June 25, 2005, due to lease payments.
Financial Instruments Related to Convertible Debt
The estimated fair value amounts of the Company's Financial Instruments Related
to Convertible Debt have been determined using appropriate market information
and valuation methodologies. In the measurement of the fair value of these
instruments, the Black-Scholes option pricing model was utilized. The value of
the Financial Instruments Related to Convertible Debt - AIR is treated as a
liability and marked-to-market based on the current stock price with the
resulting gain or loss reflected in the income statement until expiration in the
third quarter of this year when the liability will be extinguished. The value of
the Financial Instruments Related to Convertible Debt - Conversion Feature is
treated as a liability and marked-to-market based on the current stock price
with the resulting gain or loss reflected in the income statement for the life
of the debt.
Sales Tax Liability
Through the date of this report, certain states have issued initial assessments
against the Company claiming insufficient remittance of sales taxes on revenues
from past procedure sales to Associated Centers - which the Company is
disputing. Based upon the circumstances and the advice of its independent
15
counsel and advisors, Management has estimated and accrued approximately $1.0
million through June 25, 2005 for potential additional sales tax liability
related to these assessments and related state sales tax matters. Of this total,
approximately $0.5 million was accrued in the second quarter of 2005.
The Company may further increase its tax reserves during the remainder of 2005
in response to tax assessments received to date. As of the date of this report,
the Company's maximum exposure related to these assessments in excess of the
current reserve is approximately $1.7 million. The Company intends to vigorously
challenge the imposition of these tax assessments, and believes it has
substantial authority for its reporting. Nonetheless, the Company may attempt to
negotiate a resolution of such assessments and may also initiate discussions
with some other states that have not asserted additional assessments against the
Company. An unfavorable outcome with respect to some or all of these tax
assessments discussions could have a material adverse affect on the Company's
financial position and results of operations, and no assurance can be given that
these tax matters will be resolved in the Company's favor in view of the
inherent uncertainties involved in tax proceedings. The Company believes that it
has provided adequate accruals for additional taxes and related interest expense
that may ultimately result from the assessments, and will re-evaluate the
adequacy of its reserves as new information or circumstances warrant.
Impairment
In the second quarter of 2005, the Company recorded a charge of $212,000 for the
impairment of warrants issued in 1999 which had been capitalized as a deferred
contract cost asset. Management impaired this deferred cost asset based on the
projected discounted cash flows related to sales to the contracted dentists. As
of June 25, 2005, the remaining value of this deferred cost was $400,000.
Overview
The following discussion should be read in conjunction with the Financial
Statements and the Notes thereto included in Item 1 of this Quarterly Report on
Form 10-Q and in the Company's Annual Report on Form 10-K for the fiscal year
ended December 26, 2004.
Revenue and Deferred Contract Costs: See Revenue Recognition above.
Operating and occupancy costs are composed primarily of four main groups: 1)
salaries and benefits of Center employees; 2) the operating and occupancy costs
for the Centers including rent; 3) the cost of goods for both the Center and
Associated Center whitening procedure kits and retail products; and 4) the lease
costs for the devices in the Associated Centers.
Selling, general and administrative expenses are composed of all selling and
marketing expenses as well as expenses associated with all corporate and
administrative functions that support existing operations and provide an
infrastructure to support future growth, including management and staff
salaries, employee benefits, travel, professional services, information systems,
operating costs of the Company's call center, training and field support.
Research and development costs represent expenses related to safety and efficacy
studies as well as other research activities directed at expanding the Company's
position in the teeth-whitening industry.
The following table sets forth unaudited operating results for the 13 week and
26 week periods ended June 25, 2005 and June 26, 2004 as a percentage of sales
in each of these periods. This data has been derived from the unaudited
financial statements.
13 Weeks 13 Weeks ended 26 Weeks 26 Weeks
ended ended ended
June 25, 2005 June 26, 2004 June 25, 2005 June 26, 2004
------------- ------------- ------------- -------------
Revenues:
Center whitening fees, net 41.2% 38.5% 42.9% 37.7%
Associated Center whitening fees,
net 44.9% 46.8% 43.4% 44.8%
Product sales 13.9% 14.7% 13.7% 17.5%
------------- ------------- ------------- -------------
Total revenues, net 100.0% 100.0% 100.0% 100.0%
------------- ------------- ------------- -------------
16
Operating Costs and Expenses:
Operating and occupancy costs 50.2% 32.0% 46.3% 33.4%
Selling, general and administrative
expenses 87.6% 58.2% 89.4% 58.1%
Research and development expenses 0.7% 1.1% 0.7% 1.3%
Depreciation and amortization 16.1% 13.2% 16.0% 13.7%
------------- ------------- ------------- -------------
Total operating costs and expenses 154.6% 104.5% 152.3% 106.5%
------------- ------------- ------------- -------------
Loss from operations -54.6% -4.5% -52.3% -6.5%
------------- ------------- ------------- -------------
Gain/(loss) on mark-to-market of
financial instruments -1.0% - 13.1% -
Amortization of discount on debt -6.6% - -6.5% -
Interest expense and other
expense, net -5.1% -1.2% -3.6% -1.3%
------------- ------------- ------------- -------------
Loss before income tax provision -67.3% -5.7% -49.3% -7.8%
Provision for income taxes -0.2% -0.0% -0.6% -0.2%
------------- ------------- ------------- -------------
Net Loss -67.5% -5.7% -49.9% -8.0%
============= ============= ============= =============
The following are explanations of significant period-to-period changes for the
13 weeks ended June 25, 2005 and June 26, 2004:
Revenues
Total Revenues, net. Total revenues, net decreased by $2.6 million, or 21%, to
$10.1 million for the 13 weeks ended June 25, 2005, from $12.7 million for the
13 weeks ended June 26, 2004.
Center Whitening Fees, net. Center whitening fees decreased by $754,000, or 15%,
to $4.1 million for the 13 weeks ended June 25, 2005, from $4.9 million for the
13 weeks ended June 26, 2004. The number of procedures performed in the Centers
decreased 8% to 8,979 in the second quarter of 2005, compared to 9,798 in the
same quarter of 2004 due to weak sales in existing Centers partially offset by
procedures performed in new Centers opened in the last year. Average whitening
fees per procedure decreased 8% to $462 per procedure in the second quarter of
2005, as a result of increased discounting. Generally, the level of discounting
varies from period to period based on the market conditions at the time. The
Company cannot forecast future trends in fees based on the recent market
conditions.
Associated Center Whitening Fees, net. Associated Center whitening fees, net
decreased by $1.4 million, or 24%, to $4.5 million for the 13 weeks ended June
25, 2005, from $5.9 million for the 13 weeks ended June 26, 2004. The total
number of procedures in all Associated Centers decreased 28% to 28,500
procedures in the second quarter of 2005 compared to 39,470 procedures in the
same quarter of 2004 due in part to increased competitive pressure in this
channel. Average whitening fees per procedure increased 5% from $151 per
procedure in the second quarter of 2004 to $158 per procedure for the 13 weeks
ended June 25, 2005, primarily due to reduced discounting. Generally, the level
of discounting varies from period to period based on the market conditions at
the time. The Company cannot forecast future trends in fees based on the recent
market conditions.
Product Sales and Other Revenue. Product sales decreased by 25% to $1.4 million
for the 13 weeks ended June 25, 2005, from $1.9 million for the 13 weeks ended
June 26, 2004, primarily due to lower retail sales through the Associated
Centers from the comparable period in 2004. Domestic retail sales for the second
quarter decreased by approximately $212,000 from the comparable period in 2004.
International retail sales for the second quarter decreased by approximately
17
$30,000. Smile Forever maintenance fees of $189,000 were recognized in the
second quarter of 2005; this maintenance program was not in place in the first
half of 2004. Product sales and other revenue includes sales of retail products
such as BriteSmile to Go ("BTG"), mouthwash, toothpaste, toothbrushes, sales of
Magic Mirrors, recognition of Smile Forever deferred revenues, and payments from
customers to reimburse product shipment freight costs.
Operating Costs and Expenses
Operating and Occupancy Costs. Operating and occupancy costs as a percentage of
net revenues was 50% for the 13 weeks ended June 25, 2005, compared to 32% in
the 13 weeks ended June 26, 2004. This was due to: a) decreased revenue and a
$775,000 increase in occupancy and operating expenses for the quarter, primarily
due to new spas and expanded operating hours compared to the same quarter in
2004, and b) an impairment of intangible asset in 2005 of $212,000. The major
expense components in this category are cost of goods sold for all products and
services, operating costs of Centers, which include salaries for the dentist and
supporting staff, lease financing and rent.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased as a percentage of net revenues to 88% for the
13 weeks ended June 25, 2005 compared to 58% in the 13 weeks ended June 26,
2004. This was due to reduced sales and significantly increased SG&A expenses
for the quarter compared to the same quarter in 2004. The $1.4 million increase
in selling, general and administrative expenses resulted from increased
advertising initiatives expensed during the quarter, the accrual for possible
settlement in connection with current legal matters, net of reversal of
recognition of non-cash compensation, of $62,000 and approximately $484,000
accrued for potential additional sales tax liability related primarily to recent
assessments received by the Company.
Research and Development Expenses. Research and development expenses of $74,000
were 1% of net revenues for the second quarter of 2005 compared to $143,000, or
1% of net revenues in the corresponding period in 2004.
Depreciation and Amortization. Due to decreased net sales, depreciation and
amortization increased as a percentage of net sales to 16% for the second
quarter of 2005, compared to 13% in the corresponding period in 2004.
Depreciation and amortization decreased on a dollar basis by $59,000 from the
corresponding quarter one year ago.
Amortization of discount on convertible debt. The convertible debt issued in
December 2004 was valued net of discount. That discount is amortized over the
life of the debt using the effective interest method. For the 13 weeks ended
June 25, 2005, the amortization of discount on convertible debt was $663,000.
Interest and other expense, net. Interest and other expense, net increased to
$517,000, or 5% of net revenue, for the second quarter of 2005 from $158,000, or
1% of net revenue, for the corresponding period in 2004. The increase was due to
lower sales in the quarter, higher interest expense related to the December 2004
convertible note financing, as well as recognition of loss on disposal or
impairment of certain fixed assets partially offset by royalties received.
The following are explanations of significant period-to-period changes for the
26 weeks ended June 25, 2005 and June 26, 2004:
Revenues
Total Revenues, net. Total revenues, net decreased by $4.5 million, or 18%, to
$20.0 million for the 26 weeks ended June 25, 2005, from $24.5 million for the
26 weeks ended June 26, 2004.
Center Whitening Fees, net. Center whitening fees, net decreased by $663,000 or
7% to $8.6 million for the 26 weeks ended June 25, 2005, from $9.2 million for
the 26 weeks ended June 26, 2004. The number of procedures performed in the
Centers decreased 2% to 18,232 for the 26 weeks ended June 25, 2005, compared to
18,616 for the same period of 2004. Average whitening fees per procedure
decreased 5% to $471 per procedure for the 26 weeks ended June 25, 2054,
compared to the same period of 2004, primarily due to increased discounting.
Generally, the level of discounting varies from period to period based on the
market conditions at the time. The Company cannot forecast future trends in this
regard.
18
Associated Center Whitening Fees, net. Associated Center whitening fees, net
decreased by $2.3 million, or 21%, to $8.7 million for the 26 weeks ended June
25, 2005, from $11.0 million for the 26 weeks ended June 26, 2004. The decrease
was primarily due to 20% and 14% decreases in procedures in domestic and
international Associated Centers, respectively. The total number of procedures
in all Associated Centers decreased 18% to 57,720 procedures in the 26 weeks
ending June 25, 2005, compared to 70,340 procedures in the same period of 2004.
Average whitening fees per procedure decreased 4% from $156 per procedure to
$150 per procedure for the 26 weeks ended June 25, 2005, compared to the same
period of 2004, primarily due to increased deferred revenue in the international
market. Additionally, discounting varies from period to period and can affect
the fees per procedure. The Company cannot forecast future trends in this
regard.
Product Sales and Other Revenue. Product sales decreased by 36% to $2.8 million
for the 26 weeks ended June 25, 2005, from $4.3 million for the 26 weeks ended
June 26, 2004, primarily due to sales recognized in 2004 for one of the
Company's product distributors, Sullivan Schein. Retail products are sold at
Centers and Associated Centers, through partners such as Sullivan Schein,
directly by the Company's Call Center and on the Company's website. Product
sales and other revenue includes the Company's BTG, toothpaste, mouthwash,
whitening gum, toothbrushes, and Magic Mirrors, recognition of Smile Forever
deferred revenues and payments from customers to reimburse product shipment
freight costs.
Operating Costs and Expenses
Operating and Occupancy Costs. Operating and occupancy costs as a percentage of
net revenues was 46% for the 26 weeks ended June 25, 2005, compared to 33% for
the 26 weeks ended June 26, 2004. The major expense components in this category
are cost of goods sold, lease financing, and operating costs of Centers, which
include salaries for the dentist and supporting staff, and rent. The year over
year cost increase was due to decreased revenue and a $875,000 increase in
occupancy and operating expenses for the 26 weeks, primarily due to new spas and
expanded operating hours compared to the same period in 2004 and an impairment
of a deferred cost asset of $212,000 recognized in 2005.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased as a percentage of net sales to 89% in the 26
weeks ended June 25, 2005, compared to 58% in the corresponding period in 2004.
This increase was due primarily to reduced sales in the 26 weeks ended June 25,
2005 compared to the same period in 2004. The $3.6 million increase in selling,
general and administrative expenses resulted from elevated salary and benefits
including accrual for possible settlement in connection with current legal
matters. Additionally, advertising expenses increased by $1.6 million from the
comparable 26-week period in 2004 and freight, professional fees and sales
center costs increased in 2005.
Research and Development Expenses. Research and development expenses of $149,000
remained at 1% of net revenues in the 26 weeks ended June 25, 2005 while
actually declining on a dollar basis from $315,000 in the 26 weeks ended June
26, 2004.
Depreciation and Amortization. Depreciation and amortization increased as a
percentage of net sales to 16% for the 26 weeks ended June 25, 2005, compared to
14% in the corresponding period in 2004. The decrease of $141,000 in
depreciation and amortization expense to $3.2 million for the 26 weeks ended
June 25, 2005 is due to existing fixed assets becoming fully depreciated
partially offset by new assets related to center construction put into service
throughout the first half of 2005.
Interest and other expense, net. Interest and other expense, net increased
$405,000 to $725,000, or 4% of net revenue, for the 26 weeks ended June 25,
2005, from $320,000, or 1% of net revenue, for the corresponding period in 2004.
Interest expense increased primarily due to additional debt incurred at the end
of 2004 somewhat offset by increased interest income from investments. Other
expense includes $306,000 of loss on disposal and impairment of equipment for
the 26 weeks ended June 25, 2005.
19
Liquidity and Capital Resources
General
The Company's principal sources of liquidity have been proceeds from issuances
of common stock and debt. At June 25, 2005, the Company had $9.9 million in cash
and $0.9 million in borrowing capacity under lines of credit. To date, the
Company has yet to achieve profitability. The Company expects that its principal
uses of cash will be to provide working capital, for debt service, to finance
capital expenditures, and to meet corporate expenses.
The Company has made the following changes to its capital resources since the
beginning of 2004: o In December 2004, the Company obtained $11.2 million (net
proceeds) from the sale of Convertible Debt to
six investors for the purpose of funding new Center expansion and
general working capital requirements. o In August 2004, the Company and EVL, a
related party, amended BriteSmile's capital lease agreement to
provide that the total rents deferred under the December 2003 lease
amendment would be deferred further such that $1.0 million would be
paid on February 15, 2005, $1.0 million would be paid on February 15,
2006 and the remaining balance due would be paid on February 15, 2007.
The first payment was made on February 15, 2005.
o In August 2004, the Company repaid to EVL the remaining principal
balance of approximately $0.8 million obtained from EVL in March 2001.
o In January 2004, the Company received $6.8 million from the December
2003 private placement of 923,943 shares of common stock (of which $1.7
million was received in December 2003).
o On July 12, 2005, the Company and Excimer Vision Leasing ("EVL"), a
related party, amended BriteSmile's capital lease agreement to provide
that on December 31, 2005, EVL shall sell to BriteSmile each leased
device remaining under lease at a price of $1 per device and the term
of the lease shall end as of December 31, 2005, with no additional
payments due under the lease after that date except for unpaid variable
and fixed fees unpaid at the date of the sale and any remaining
deferred lease payments owed by BriteSmile per the August 2004
amendment to the lease.
Based upon current cash on hand, available borrowing capacity, current business
projections combined with the ability to reduce expenses and capital
expenditures, the Company believes it has sufficient liquidity to support
operations into the first half of 2006. However, the Company may not have
sufficient liquidity to support operations for at least another 12 months, and
therefore, raises the question as to whether the going concern basis of
accounting reflected in this report continues to be appropriate. We operate in a
rapidly evolving and often unpredictable business environment that may change
the timing or amount of expected future cash needs. Accordingly, our liquidity
projections may improve or deteriorate depending on these changing conditions.
At this time, the Company believes that it will be required to raise additional
funds through the sale of equity or debt securities and/or become cashflow
positive by 2006. However, additional capital may not be available on
satisfactory terms, if at all. Furthermore, additional debt financing may
contain covenants that restrict our operations
Cash Requirements
During the last three years, the primary uses of cash were for funding of
operations, purchases of property and equipment, and to a lesser degree, debt
repayments. During the first quarter of 2004, the Company repaid a $2 million
bridge loan (including interest) obtained in November 2003 from LCO Investments
Limited ("LCO"), a related party. LCO is the Company's primary shareholder.
During the third quarter of 2004, the Company repaid a loan with a remaining
principal amount of $0.8 million obtained in March 2001 from EVL, also a related
party.
In 2003 and 2004, the Company and EVL amended their capital lease agreement to
provide that the variable rent portion of the monthly payment due beginning
November 2003 and the fixed rent portion of the monthly payment due beginning
January 2004 would be deferred and paid to EVL in annual installments beginning
February 15, 2005, with interest payable on the deferred amount at a rate equal
to LIBOR, plus 250 basis points. As of June 25, 2005, the unpaid variable rent
was $2.5 million, of which $1.5 million is included in long-term debt. As of
June 25, 2005, the unpaid fixed rent was $723,000 of which $699,000 is current.
20
The primary cash requirements of the Company are for maintaining current
operations, debt service and capital expenditures to grow the network of
Associated Centers and Company-managed Centers. In particular, spending on
employee salaries, advertising, cost of goods and rents is required to operate
the business.
Sources of Cash, Liquidity and Capital Resources
In the 26 weeks ended June 25, 2005, net cash used in operations was $4.2
million.
Net cash used in financing activities was $844,000 for the 26 weeks ended June
25, 2005, compared to net cash provided of $3.9 million for the same period in
2004. During the 26 weeks ended June 25, 2005, the Company paid principal on
capital leases of $1.2 million to EVL, a related party, and received proceeds of
$73,000 from exercises of stock options and $245,000 from exercises of warrants,
including $148,000 from LCO, a related party.
Capital expenditures were $3.6 million for the 26 weeks ended June 25, 2005,
compared to $771,000 for the same period in 2004. The capital expenditures in
the 26 weeks ended June 25, 2005 were primarily related to the buildout of new
Centers and the purchase of new LATW devices.
Cash paid for interest and income taxes during the 26 weeks ended June 25, 2005
was $34,211 and $84,415, respectively.
While the Company does not invest in derivative financial instruments or deal in
interest rate swaps, it does have debt obligations that are sensitive to changes
in interest rates and that have derivative instruments associated with them.
Inflation
In general, the Company does not believe that inflation has had a material
effect on its results of operations in recent years. However, there can be no
assurance that the Company's business will not be affected by inflation in the
future.
Seasonality
The Company believes that its business follows seasonal trends due to changing
consumer demand during certain holiday periods and national days such as
Valentine's Day, Mother's Day and Father's Day. As a result, the Company's sales
performance could potentially be affected.
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK
We believe there has been no material change in our exposure to Market Risk from
that discussed in the Company's Annual Report on Form 10-K for the fiscal year
ended December 25, 2004.
ITEM 4. CONTROLS AND PROCEDURES
Company management is aware of certain deficiencies in the design or operation
of the Company's disclosure controls and internal accounting controls.
In connection with its audit of the Company's 2004 financial statements,
Deloitte & Touche LLP, the Company's former independent registered public
accounting firm, determined that (1) inadequacies in the design and execution of
the Company's internal control structure, and (2) improper application of
accounting principles in accordance with GAAP, constitute material weaknesses in
the Company's internal control structure for the year ended December 25, 2004.
The inadequacies in the Company's control structure included deficiencies or
inadequacies in the following specific areas: payments made to vendors without
adequate supporting documents, communication of all transactions to the
financial department, segregation of duties among finance department employees,
recording of inventory and physical inventory counts, tracking of fixed assets,
and timely completion of account reconciliations. Although any one of the
foregoing categories may not relate to material dollar amounts, in the aggregate
21
they represent a material weakness in the Company's internal control structure.
With respect to any specific adjustments identified in the audit process related
to improper application of accounting principles or inadequacy of internal
controls, the Company believes that all such adjustments have been made and are
properly incorporated in the reported results of the Company.
The Company's management, with the participation of its President (its Principal
Executive Officer) and Chief Financial Officer, have evaluated the effectiveness
of the Company's "disclosure controls and procedures" (as defined in Exchange
Act Rule 13a-15(e)) as of the end of the period covered by this report. During
the course of the evaluation, the additional procedures performed and controls
instituted by the Company to enhance its internal controls and mitigate the
effect of deficiencies and to prevent misstatements or omissions in its
consolidated financial statements were considered. Based on this evaluation, the
Company's President and Chief Financial Officer concluded that as a result of
the material weaknesses referred to above, the Company's disclosure controls and
procedures are not effective as of the end of the period covered by this report.
The Company has made, and will continue to make, improvements to its policies,
procedures, systems and staff who have significant roles in disclosure controls
and in internal controls over financial reporting, to address the identified
deficiencies. In addition, management has begun its project to comply with the
requirements of Section 404 of the Sarbanes-Oxley Act of 2002. Management
anticipates that this effort will also help to more formally document,
communicate, and comply with the Company's accounting policies and procedures,
as well as to identifying and rectifying any residual disclosure or reporting
process control issues that may exist but, at this time, are unknown to
management.
22
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Legal Proceedings
The Company is the subject of certain legal actions. Management does not believe
that current pending litigation involving the Company will have a material
adverse effect on the Company's consolidated financial position or results of
operations beyond what management has reflected in the financial statements as
of June 25, 2005. This conclusion has been developed in consultation with
outside counsel handling BriteSmile's defense in the matters. However, the
litigation and other claims noted in this report are subject to inherent
uncertainties and it is possible that future results of operations for any
particular quarterly or annual period could be materially affected by changes in
management's assumptions and the effectiveness of BriteSmile's strategies
related to these legal actions.
BriteSmile, Inc. v. Discus Dental, Inc. and Salim Nathoo, filed in the United
States District Court for the Northern District of California (the "Discus
Patent Litigation"). The Company filed an initial complaint against Discus
Dental, Inc. ("Discus"), Culver City, California, in July 2002. As amended to
date, the complaint asserts claims of infringement of the Company's U.S. Patents
Nos. 6,343,933, 6,514,543 and 6,536,628. In February 2003, the Company amended
the Discus Patent Litigation by adding Salim Nathoo ("Nathoo") as a defendant.
The complaint, as amended, further alleges misappropriation of the Company's
trade secrets, civil conspiracy, and unfair competition and business practices
by Discus and Nathoo; breach of contract and breach of fiduciary duty by Mr.
Nathoo, and tortuous interference with contract by Discus. The complaint alleges
that Nathoo and Discus conspired to misappropriate BriteSmile's trade secrets in
violation of Nathoo's contractual obligations to the Company. The amended
lawsuit alleges that, as BriteSmile's Medical Director, Nathoo had, and
continues to have, an obligation to keep BriteSmile's trade secrets
confidential. Beginning in 2001, Discus Dental and Nathoo entered into an
agreement whereby Discus Dental paid Nathoo at least $2.5 million over a less
than two year period for Nathoo's "consulting" services, which included paying
Nathoo to share with Discus certain of the Company's trade secrets. The lawsuit
alleges further that in December 2002, a third party informed BriteSmile of
Nathoo's activities, and that when confronted by BriteSmile, Nathoo admitted to
receiving $2.5 million from Discus. The Company seeks a permanent injunction
against both Discus and Nathoo to prevent further infringement of its patents
and improper disclosure of the Company's trade secrets, lost profits, treble
damages and attorneys fees for willful patent infringement, punitive damages,
and other relief.
Discus has filed its answer to the amended complaint and counterclaims. In its
answer, Discus denies any liability for BriteSmile's claims and raises various
affirmative defenses. Discus asserts counterclaims against BriteSmile, seeking,
among other claims, (i) judicial declarations that BriteSmile's patents are
invalid, unenforceable, and have not been infringed, (ii) tortuous interference
with prospective economic advantage and economic business relations, and (iii)
unfair competition.
In July 2003, the case of Salim Nathoo v. BriteSmile Leasing (discussed below)
was consolidated with the Discus Patent Litigation. Thereafter, Nathoo filed an
answer and counterclaims to the Company's complaint, as well as a third party
complaint against Montgomery, who is a director of the Company, and several of
Montgomery's companies, and the following Company employees or directors: John
Reed, John Warner and Anthony Pilaro, alleging causes of action including
correction of inventorship of several of the Company's patents; infringement by
the Company of those same patents; misappropriation of trade secrets by the
Company, Montgomery and several of his companies, Reed, Warner and Pilaro;
conversion by the Company, Montgomery and his companies, Reed, Warner and
Pilaro; fraud against the Company, Montgomery, Reed, Warner and Pilaro; breach
of contract by the Company, Montgomery, Reed, Warner, Pilaro; breach of contract
by the Company, Montgomery, Reed, Warner, and Pilaro; and tortious interference
with contract by the Company.
On May 13, 2005, the Court issued its Claims Construction Order construing the
legal meanings of the claims of the patents-in-suit. The parties thereafter
submitted a Joint Case Management Report to the Court, and they await a new
scheduling order setting the dates for the remainder of discovery and trial.
23
In June 2005, Discus amended its counterclaims seeking declarations of
invalidity and non-infringement of several additional BriteSmile patents, and
for tortious interference, unfair competition and product disparagement.
BriteSmile has moved to dismiss those counterclaims. A hearing on BriteSmile's
motion is set for September 2005.
Discovery and pre-trial proceedings are ongoing.
BriteSmile v. Discus Dental, Inc., filed in Contra Costa County Superior Court,
California. In May 2002, the Company filed a complaint against Discus Dental,
Inc. in Contra Costa County Superior Court, California, alleging causes of
action for intentional interference with contractual relationship, negligent
interference with contractual relationship, violation of Unfair Business
Practice Act - Loss Leader, violation of Unfair Business Practice Act, trade
libel and injunctive relief. The complaint alleges that Discus Dental and other
defendants yet to be identified wrongfully interfered with the Company's
contractual relationships with its Associated Center Dentists, in part by
writing letters with the purpose of inducing certain of the Company's Associated
Dentists to terminate their contracts with the Company and switch to Discus'
Zoom! system, and by making false and disparaging statements concerning the
Company's teeth whitening system. The Complaint seeks damages for loss of
business, punitive damages, injunctive relief, and costs of suit. This case was
stayed in March 2003 pending the resolution of the Discus Patent Litigation.
Smile Inc. Asia Pte. Ltd. v. BriteSmile In April 2002, Smile Inc. Asia Pte. Ltd.
("Smile") sued the Company and BriteSmile Management, Inc., a wholly owned
subsidiary of the Company ("BriteSmile Management"), in Utah state court. The
complaint alleges that BriteSmile Management breached its 1998 distributor
agreement with Smile (exclusive as to Singapore and other surrounding countries)
by failing to fill orders placed and to perform other obligations under the
agreement. The complaint also alleges that BriteSmile Management and the Company
fraudulently induced Smile to enter into the distributor agreement, and includes
claims for alleged damages in amounts material to the Company, based on alleged
unjust enrichment, civil conspiracy, breach of the duty of good faith and fair
dealing, interference with contractual and economic relations, and fraudulent
transfer.
The Company has denied these allegations and believes the alleged damages are
entirely unsupported, and will continue to defend this action vigorously.
In May 2002, the Company and BriteSmile Management filed their answer and
counterclaim. The counterclaim alleges that Smile breached the distributor
agreement by, among other things, failing to operate using a licensed dentist in
good standing (the license of the principal of Smile, Dr. Tan, was revoked
during 1999) and using BriteSmile's names and marks in a fashion not permitted
by the distributor agreement.
One of the principal defenses to Smile's claims is that the distributor
agreement expressly excludes "non-laser-aided teeth whitening products and
processes" sold by the Company. Accordingly, in the lawsuit the Company asserts
that Smile has no rights to market and sell the Company's current light
activated teeth whitening ("LATW") or retail products and cannot claim damages
for BriteSmile's marketing of such products in the exclusive territory described
in the distributor agreement.
In May 2004, the Company filed a motion to compel Smile to participate in
mandatory binding arbitration and to stay the litigation pending arbitration. In
June 2004, the Court denied the Company's motion to compel arbitration. On July
16, 2004, the Company filed a Notice of Appeal on the issue of compelling this
case to be decided by mandatory binding arbitration. The case is stayed at the
trial level until the appellate court decides whether to compel Smile to
participate in arbitration.
Both parties have produced documents and written responses in support of their
claims and defenses, and depositions of certain key witnesses have been taken.
However, the Company is still waiting to receive from Smile documents and
evidence to support Smile's calculation of damages. While the plaintiff has
claimed $10 million in damages, management believes that the likelihood of
material damages to the Company is remote.
The Procter & Gamble Company v. Oraceutical LLC, IDEX Dental Sciences, Inc.,
Robert Eric Montgomery, BriteSmile, Inc. and BriteSmile Development, Inc., filed
in the United States District Court for the Southern District of Ohio. In June
2003, The Proctor & Gamble Company ("P&G") filed a complaint against the
defendants listed above alleging that Oraceutical LLC, IDEX Dental Sciences,
Inc. and Eric Montgomery (collectively, the "REM Group") had breached an
agreement between the REM Group and P&G (the "Standstill Agreement") by entering
24
into a binding memorandum of understanding (the "MOU") with the Company and
BriteSmile Development, Inc. on May 9, 2003. Montgomery is a director of the
Company. Oraceutical LLC, which is owned by Montgomery, is a consultant to the
Company. The complaint also seeks a declaratory judgment that certain U.S.
patents owned by the Company (but owned by the REM Group at the time the
complaint was filed) (the "Patents") are invalid and unenforceable, and that
P&G's Whitestrips product does not infringe the Patents. P&G is also seeking
monetary damages of at least $75,000 from the Company. Defendants have filed a
motion to dismiss P&G's declaratory judgment action for non-infringement and
invalidity as well as for breach of the Standstill Agreement.
In February 2004, the defendants filed an answer, affirmative defenses, and
counterclaims. The counterclaims asserted that P&G literally infringed one of
the patents by among other things, making, using, selling or offering to sell in
the United States the Crest Whitestrips. The counterclaims further allege that
P&G actively induced infringement of the patents in suit by providing marketing
assistance for, advertising and otherwise promoting the Crest Whitestrips
products to others for resale. There are currently no new motions pending with
the Court other than the motion to dismiss filed by the Company at the outset of
the case, and a motion to compel discovery filed by P&G.
Gregg A. Coccari v. BriteSmile, Inc. and Anthony M. Pilaro, commenced as an
arbitration proceeding with the American Arbitration Association on August 11,
2005. Coccari was hired as the Company's CEO in January 2005. Subsequently,
Coccari was appointed to the Board of Directors of the Company and as a member
of its Executive Committee. Based on, among other things, statements made by
Coccari and his representatives, the Company deemed that Coccari resigned as CEO
and a member of the Executive Committee in June 2005. In his demand for
arbitration, Coccari claims that he was wrongfully terminated as the CEO of the
Company and that he was fraudulently induced to enter into an employment
contract with the Company. He further alleges that his termination by the
Company was in retaliation for unspecified actions by Coccari. Coccari has not
provided the Company with a statement of claims concerning his allegations.
Coccari's demand for arbitration seeks an award of $10 million. However, the
Company believes that Coccari's claims are without merit and intends to
vigorously defend against such claims.
The Company is also subject to legal proceedings and claims in the ordinary
course of business, including claims of alleged personal injury, infringement of
trademarks and other intellectual property rights. However, the Company
believes any such claims that have been presented to the Company as of the date
of this report are without merit and the Company will vigorously defend against
any such claims.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.
During the 26 week period ended June 25, 2005, the Company granted to key
employees and directors under its 1997 Stock Option and Incentive Plan
non-qualified options to purchase an aggregate of 852,443 shares of the
Company's common stock, at exercise prices ranging from $4.35 to $6.30 per
share. Options generally vest over a two to five-year period and have a maximum
term of ten years.
For all option grants, the Company claimed exemption from registration under the
Securities Act of 1933 in that the Company believes such grants were not "sales"
within the meaning of the Act. Shares issuable upon exercise of the options have
been or will be registered with the SEC pursuant to Registration Statements on
Form S-8.
On January 9, 2005, 240,000 shares of restricted stock were granted to the
former Chief Executive Officer upon his hire. The shares vested one-third upon
grant and were to vest one-third each of the two anniversary dates thereafter.
At the time of his deemed resignation in June 2005, 80,000 options had vested.
During the 13 weeks ended June 25, 2005, the Company received proceeds of
$245,000 from exercises of warrants, including $148,000 from LCO, a related
party.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
None.
25
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION.
None.
ITEM 6. EXHIBITS.
31.1 Certification of Principal Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002 (filed herewith).
31.2 Certification of Chief Financial Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002 (filed herewith).
32.1 Certification of Principal Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002 (filed herewith).
32.2 Certification of Chief Financial Officer pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (filed herewith).
26
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.
BRITESMILE, INC.
/s/ Julian Feneley August 15, 2005
Julian Feneley Date
President
(Principal Executive Officer)
/s/ Ken Czaja August 15, 2005
Ken Czaja Date
EVP, Chief Financial Officer
(Principal Financial and Accounting Officer)
27