Item 1. Description of Business
Unless the context otherwise requires, any reference to “the Company,” “we,” “us,” or, “our” in this Annual Report on Form 10-K refers to Vinyl Products, Inc., a Nevada corporation, together with its wholly-owned subsidiary, The Vinyl Fence Company, Inc., a California corporation, which we refer to individually as "TVFC."
General
We market and install a variety of aesthetically durable, low-maintenance vinyl products, including fencing, patio covers, decking, railing and trim categories, for the residential market. Our products are used largely in renovation and remodeling by our customers who include homeowners and homeowner associations. During 2009, fencing products represented approximately 56% of our gross income (revenue) and patio covers represented approximately 32% of our gross income.
Development of the Business
We originally were incorporated under the name Red Oak Concepts, Inc. in the State of Delaware on May 24, 2007 to serve as a vehicle for a business combination through a merger, capital stock exchange, asset acquisition or other similar business combination. On October 9, 2007, our board of directors and the holders of all of our outstanding shares of common stock approved a change of domicile of the corporation by merging with a Nevada corporation titled Red Oak Concepts, Inc. The merger between the Delaware corporation and the Nevada corporation was effective on December 4, 2007.
On August 15, 2007, we filed a registration statement on Form 10-SB to register our class of common stock under the Exchange Act that became effective as of October 14, 2007.
On November 20, 2008, we entered into the Share Exchange Agreement with TVFC and all of its shareholders to acquire all of the outstanding shares of that corporation's common stock in exchange for an aggregate of 22,100,000 shares of our common stock, as described below.
On November 21, 2008, we amended our articles of incorporation to change our name to Vinyl Products, Inc.
TVFC was organized under the laws of the State of California on April 18, 2003. TVFC funded its organization and operations through founder contributions. In the spring of 2003, TVFC began marketing its products to the public and in November 2003, it entered into a vinyl products supply agreement with U.S. Polymers, Inc. The principals of TVFC began to formulate the sales and marketing plan currently employed by the Company prior to organizing the Company and have continually refined their approach based on carefully monitored results of marketing activities.
TVFC began generating revenues from operations and realized a net profit from operations, exclusive of payments to shareholders, in its first year of operations.
Through 2007, TVFC elected to be treated as a Subchapter S corporation under the Internal Revenue Code of 1986, as amended (the "Code"), and all of its profits were distributed to its shareholders as dividends. The shareholders of TVFC elected to convert the Company to a Subchapter C corporation under the Code as of January 1, 2008.
The Share Exchange
On November 20, 2008, we entered into a Share Exchange Agreement with TVFC and its shareholders to acquire all of the outstanding shares of that corporation's common stock in exchange for an aggregate of 22,100,000 shares of our common stock. Upon the acquisition, TVFC became our wholly owned subsidiary and we acceded to the business conducted by TVFC.
Under the Share Exchange Agreement:
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we exchanged one share of our common stock for each outstanding common share of TVFC;
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we agreed to honor and assume options granted by TVFC to its employees to purchase up to 133,800 shares of common stock, which are exercisable at a price of $.50 per share through September 24, 2010;
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the board of directors and management of our Company as of the date of the agreement resigned and appointed Gordon Knott and Garabed Khatchoyan , each of whom serves as a director of TVFC, to serve on our board of directors and serve as the president and secretary of our Company, respectively;
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we agreed to amend our articles of incorporation to change our name to "Vinyl Products, Inc."; and
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the transaction was structured to qualify as a “tax-free transaction” under the Internal Revenue Code of 1986;
Other Agreements of the Parties under the Share Exchange Agreement
In addition to the transactions described above, the parties entered into the following transactions as provided in or required by the Share Exchange Agreement:
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On the closing of the share exchange, Susan Zachmann, Katherine Daniels and Barbara Deadwiley, the three holders of the Company's outstanding shares of common stock prior to the share exchange, returned an aggregate of 300,000 shares of common stock to the treasury of the Company, so that after giving effect to the return of such shares, these persons owned an aggregate of 700,000 shares of our common stock;
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Susan Zachmann and Katherine Daniels contributed to the capital of the Company all amounts of principal and interest due to them under promissory amounts evidencing loans made by each them to the Company in the principal amount of $14,950 ($29,950 of principal in the aggregate); and
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We agreed to register for public resale under the Securities Act pursuant to a registration rights agreement described below, an aggregate of 3,133,800 shares of our common stock, including (i) 2,300,000 exchange shares; (ii) 700,000 shares of our common stock held by holders thereof upon to the closing of the share exchange (representing all outstanding shares of common stock on such date prior giving effect to the issuance of the shares under the Share Exchange Agreement), subject to their entering into a Lock-Up/Leak Out Agreement, described below, and (iii) 133,800 shares of common stock issuable upon the exercise of options we assumed under the Share Exchange Agreement. The holders 2,000,000 shares in the share exchange subsequently declined to cause the Company to register the shares they received.
On the closing of the share exchange, we entered into a registration rights agreement with the holders of the shares of common stock described in the foregoing paragraph which governs the terms and conditions upon which we agreed to register their shares of common stock and the shares of common stock issuable upon exercise of the options for public resale under the Securities Act. We agreed to file such registration statement within 90 days of the closing of the share exchange, subject to our right to withdraw or delay the filing of the registration statement under certain circumstances without penalty, and to pay all costs and expenses incident to such registration. We agreed to maintain the effectiveness of the registration statement for a minimum of twelve months following its effective date. A more detailed discussion of the registration rights agreement is set forth under the heading "Description of Securities - Registration Rights."
Also on the closing of the share exchange, we entered into a series of Lock Up/Leak Out Agreements with the holders of an aggregate of 2,700,000 shares of our common stock, which includes those persons who held all 700,000 outstanding shares of our common stock prior to the closing of the share exchange and those holders of TVFC's common stock who were not affiliates of TVFC on the date of the share exchange with TVFC, who received a total of 2,000,000 shares of our common stock in the share exchange. Under the Lock Up/Leak Out Agreements, all stockholders have agreed that (i) they will not sell or transfer any shares of our common stock held as of the consummation of the share exchange until six months after the effective date of the registration statement that includes their shares to be filed pursuant to the Registration Rights Agreement (other than to their affiliates, who must agree to the terms of the Lock Up/Leak Out Agreement upon such transfer), and (ii) after the end of that six-month lock up period, such persons (or their transferees) will not sell or transfer more than 1/36th of the number of share of common stock originally owned by such person during each month thereafter.
The Share Exchange Agreement and the transactions described therein were approved by the unanimous written consent of the respective boards of directors and stockholders of our Company and TVFC.
For accounting purposes, the share exchange transaction was treated as a reverse acquisition with TVFC as the acquirer and Red Oak Concepts, Inc. as the acquired party. The accounting rules for reverse acquisitions require that beginning November 20, 2008, the date of the reverse acquisition, our balance sheet includes the consolidated assets and liabilities of TVFC and our equity accounts were recapitalized to reflect the net equity of TVFC. When we refer in this Annual Report to business and financial information for periods prior to the consummation of the reverse acquisition, we are referring to the business and financial information of TVFC unless the context suggests otherwise.
Our Industry
In 2006, the total demand for commercial and residential fencing in North America was estimated to be over 1 billion linear feet of installed fence valued at over $6 billion. In 2006, demand for residential fencing was estimated to be nearly $3 billion of the total fence market value.
The residential fencing market consists of five major fence styles: privacy, post and rail, chain link, ornamental, and post and wire/wire mesh. Privacy fence is the most prevalent fence style installed in the residential market, accounting for over 50% of total sales. The fencing market may be segmented among the four distinct material categories: wood, metal, plastic and mineral-based or masonry materials. Currently, wood is the dominant construction material used in residential fencing, followed by metal, together accounting for over 70% of total fence sales.
Plastics are relatively new materials in the fencing industry. The dominant plastic material is polyvinyl chloride, or vinyl, which was introduced to the market in the late 1970s. Vinyl achieved its product growth stage in the early 1990s and demand for vinyl fence has grown steadily. Market acceptance of vinyl fence varies by region from over 30% penetration to less than 5% penetration. Vinyl post-and-rail fence has successfully penetrated and displaced as much as 50% of wood in many regional markets. However, vinyl only has about a 16% share of the North American privacy fence market.
In addition to vinyl fence, other plastic-based fence materials include polyethylene, polystyrene, polypropylene and wood-plastic composites. A recent study estimates demand for all plastic-based fence materials in the North American residential market to be over $600 million of the total market in 2006.
Management believes that plastic-based fence will continue to grow in market share over the next five years, with the most significant growth in demand for vinyl and for new wood-plastic composite privacy fence. It is expected that both materials will be replacing wood. While the new wood-plastic fence products seem to have an edge over vinyl with respect to availability of a wide range of darker colors and the look and texture of wood, which seem to be preferable to consumers, plastic fence manufacturers have developed new privacy fence products with embossed wood grain and earth tone colors as well as low gloss to mimic wood. Both vinyl and wood-plastic suppliers are looking to take advantage of the growing consumer demand for low-maintenance, non-shiny, plastic fence by tapping into the huge portion of the wood privacy market that will not consider white vinyl as an option.
The fencing industry in North America comprises: (i) manufacturers of fencing products, including all of the product material groups, numbering in the hundreds, (ii) distributors, including lumber yards and home centers that carry wood and vinyl fencing and (iii) independent sellers, contractors and installers of all sizes, such as our Company. There are also numerous mail order companies that focus on the do-it-yourself consumer. Manufacturers sell their products to all segments of the downstream supply chain. Home centers and lumber yards generally sell products to contractors and homeowners. Typically, homebuilders and home centers subcontract the installation of fencing to contractors. Most product-specific retailer and general contractors install or arrange for installation of products.
Given the number of manufacturers of residential fencing products, components and systems in North America and the limited capital required to operate in our space, the barriers to entering into the market are insignificant. In the retail space in which we operate, retailers that sell and install only fence, decks and related products and in which marketing and sales are directed to retail consumers, the market is typified by numerous small companies that seek to gain market share only in their limited geographic operating areas. It is our experience that these entities typically employ rudimentary marketing and advertising programs and tend to be concerned with immediate product sales rather than building a business. There are no national chains dedicated exclusively to the retail sale and installation of vinyl fencing and patio products, though we are aware of a company that is seeking to build a regional presence in the Western portion of the U.S. by acquiring local sellers/installers.
Recent studies suggest that certain trends are developing in the residential fence industry that may directly or indirectly impact our business, including:
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Pressure-treated lumber, the industry standard, is being challenged by new materials, such as vinyl and wood composites, that are available in colors and supported by extended warranties similar to other building products.
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With both contractors and homeowners faced with an array of new choices, branding is playing an increasingly important role.
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Time-pressed homeowners are expecting to do less routine maintenance, including fence painting and repair.
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Distributors are carrying a broader selection of fence and gates, and more brands than ever before.
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A modular approach to fence design and construction has made it easier for contractors to install more product in less time.
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New materials and their technical differences make distributor knowledge more important than ever for informing their customers.
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Manufacturers in other building products areas have adapted their proprietary material technologies to fence, which could signify the entry of larger participants into the industry, which could alter the market significantly.
During periods of economic uncertainty, when spending on discretionary items is reduced, many homeowners forego the purchase of new homes and choose to improve their existing residences. As the majority of our business is geared to remodeling, we do not believe that our business is as sensitive to these economic trends as the new home construction market. We believe renovation or the addition of fences, patio covers, decks and railings to existing homes is an increasing trend and reflects an extension of the home. However, we are uncertain as to the effect tightening credit and declining home values will have on our business, if any.
Strategy
We are committed to enhancing profitability and cash flows through the following strategies:
Maximizing Efficiency and Profitability at our Existing Retail Locations: We will examine all facets of our operations at our existing retail facilities, including the number of our sales and installation personnel and their duties and responsibilities, to maximize operating efficiencies and achieve optimum profitability.
Franchising: We are not aware of any participant in the exterior vinyl products industry that operates on a national basis nor are we aware of any organization that is seeking to establish a nation-wide presence in the exterior vinyl product industry. We believe that a significant opportunity exists to develop a national franchise to establish our products and Company as a unique brand and to exploit the anticipated increase in sales of outdoor vinyl products. We will seek to become the dominant participant in the sale of exterior vinyl products on a national basis by developing a franchise program that will utilize our well-conceived and sophisticated marketing and sales program. We believe that our marketing and sales program represents a significant advancement compared to the techniques used by other retail sellers in the industry and that our approach can be replicated successfully in any geographic area. A key element of our franchise program will be to offer franchise opportunities for relatively small markets that will be priced commensurate with the level of potential revenues that can be generated from that market. We believe that we will benefit from the economies of scale derived from multiple franchises that will give us the opportunity to deploy national advertising and promotional programs that are beyond the financial and creative capabilities of other retail sellers of exterior vinyl products. The development of a successful franchise operation would represent the possibility to compound revenue growth without requiring a corresponding increase in infrastructure, which we expect would add to our bottom line. We believe that this will allow us to capture market share and build strong consumer brand awareness, which eventually may serve as a barrier to competitive entry to others on a national level.
Branding: The development of a successful franchise operation would give us the opportunity to build and establish our Company and our products as national brands. We will not seek to develop or implement a campaign to develop a brand but rather employ advertising and marketing strategies that focus on product sales. As our franchise base grows in size and geographic scope, we believe that our products and Company name could develop naturally into a national brand. We believe that our franchise program can provide the revenue to deploy a creative and sophisticated advertising and marketing campaign that is atypical in our industry and beyond the financial and creative means of other industry participants.
Our Products and Services
We offer a comprehensive line of aesthetically durable, low-maintenance products. We believe that the range and variety of our product offerings allow consumers to design much of their outdoor living space using our products. Our products include:
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Fencing;
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Patio Covers;
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Decking;
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Gazebos;
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Railings; and
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Gates.
We also sell the various hardware, accessories and other fixtures to finish the products we install.
The products we sell and install are manufactured from the highest quality polyvinyl chloride. The vinyl is "co-extruded," which maximizes strength and durability and allows for the application of multiple surface layers to impart specific properties such as ultra-violet (UV) absorption, soft touch, matted finishes and energy reflection. The manufacturer of our vinyl products, U.S. Polymers, Inc., advises us that the vinyl is manufactured with the highest UV inhibitors and Titanium DiOxide, a UV absorber that efficiently transforms destructive UV light energy into heat, in the industry.
Our products offer a number of significant advantages over wood in that they eliminate many of wood’s major functional disadvantages, which include warping, splitting and other damage from moisture. Unlike wood, our products are resistant to moisture damage, provide a splinter-free surface, do not rot and are not subject to insect infestation. These features eliminate most of the on-going maintenance requirements associated with wood products and contribute to a worry-free ownership experience. Though initially more expensive than comparable wood products, the durability and maintenance-free characteristics of our products render them less costly than wood over the life of the products. Customers inform us that these attributes contribute significantly to their selection of vinyl over products manufactured from wood and other materials.
Vinyl manufactured by U.S. Polymers carries a limited 30-year replacement warranty. In furtherance of our effort to provide the highest quality purchasing and ownership experience, we offer a one- year limited warranty on the installation workmanship.
Our project designers/salesmen work closely with clients, first to educate them about exterior vinyl product offerings, and then to develop customized designs to satisfy virtually any preference and achieve a personalized feel and appearance that reflects the home's architecture and customer's personality. The manner in which we deal with our customers and seek to secure sales is closely associated with our marketing strategy, described more fully below under the heading "Sales and Marketing."
Sales generally are consummated either at our showroom, where we maintain samples of virtually all of our products, or at the customer's home. Installation typically occurs six to eight weeks after receiving the 50% deposit on an order, the balance being due upon installation. We work with a national bank to provide financing to customers who require financial assistance.
Installation is accomplished by a crew of two of our employees and generally is completed within a day or two of commencement.
We generally carry $100,000 to $150,000 of inventory to meet anticipated requirements for installations that will occur during the ensuing two-week period.
Sales and Marketing
Our goal is to position and brand our Company as the category leader and standard-bearer in the outdoor vinyl product marketplace. The strategy we have implemented to achieve our goal closely unites our approach to marketing and consumer sales with corporate branding and has application at the local store level (our retail locations and potential future franchises) and on a national corporate level. Since our inception, we have carefully monitored the various sales approaches to which consumers favorably respond and have made deductions about buying patterns that we have incorporated into our sales and marketing approach.
Our principal retail showroom is located in Santa Ana, California, which also serves as our corporate office, fabrication facility and warehouse. During February 2010, we opened a new showroom in Redondo Beach, California (Los Angeles County), as we await the roll out of our franchise program.
Consumer Sales
Strategy.
The home is typically the largest capital purchase people make. It is management's experience that people are willing to invest the time and effort to ensure they have made the right decision in connection with expenditures for improvements and additions. We have found that the average prospect often takes in excess of six months to research a home-improvement project, such as fencing, patio covers and decks, before seeking estimates and then taking additional time before actually consummating the purchase. Homeowners may talk with numerous home centers, specialized retail distributors and independent contractors before deciding what specific product to purchase and from whom to make the purchase. We also have found that in many cases the lowest price point is not the foremost concern of consumers; rather, value for the dollar (after a decision as to aesthetics) represents the most important consideration. In management's estimation, value can be measured as a combination of the purchasing and ownership experience. Value-conscious consumers ultimately are seeking to determine if their expectations have been met - asking if they received what they were promised, from the product itself and its installation.
Our sales efforts seek to connect with home owners' intrinsic desire to take the time to make an informed, value-driven purchasing decision. We employ an educational and consultative approach to our initial contacts with prospects. We seek to strategically educate prospects as to exterior vinyl products and the selection, purchasing and installation process. For example, we provide prospects with literature compiled from third-party (neutral) consumer protection agencies, which we find carries a tremendous amount of credibility with the prospect. Through this approach, we are able to discreetly reveal the multiple short-cuts that our competitors (typically contractors) take to minimize their individual overhead costs at the expense of the consumer, while highlighting the advantages of the buying and ownership experience our Company provides. It is our experience that most contractors do not employ a systematic and effective approach to properly educate prospects as to how to obtain the best value for their money. Consequently, there are no apparent differences among contractors, which may result in purchasers opting for the lowest bidder.
Our approach differentiates us from other retail distributors of exterior vinyl products because throughout the sales process we have taken the time and made the effort to develop a relationship with a prospect and have avoided the hard-sell pitch so prevalent in the home improvement industry. When a consumer makes a decision as to what product to purchase and from whom, it is our intention that they feel as if they are making the most informed, appropriate decision and receiving the best value for their dollar. We seek to establish good-will with prospects that takes them through the consummation of the purchase and through the ownership experience. Management believes that the value-driven consumer ultimately is willing to pay more for the product that offers peace-of-mind and a stress-free purchasing and ownership experience.
Tactical Implementation
We employ virtually all media (other than television) to elicit interest in our Company, including direct mail, print, roadside signage, tradeshows, a proactive referral program and internet advertising. Our advertisements and promotional materials are designed to capture information from prospective purchasers with each response to an advertisement or request for information. Our objective is to be aware of those prospects who may be considering making a purchase and who are conducting their research and educating themselves. Once in our data base, we can continue to provide these prospects with additional sales literature and purchasing incentives to shorten the timeframe of their individual buying cycles. As we provide prospects with more information about our Company, we are afforded further opportunities to differentiate our Company from our competitors by highlighting our operational advantages. We believe that we are the only vinyl exterior product company in Southern California collecting this information because our competitors are focused only on prospects who are prepared to receive an estimate, which represents a smaller portion of the overall prospect base. Ultimately, it is our intention to close sales with prospects before our competitors have an opportunity to bid on the job.
The preponderance of our advertising budget currently is allocated to print media. However, we carefully track the cost-per-lead and cost-of-sale for each individual advertising medium which allows us to strategically redirect and adjust marketing and advertising dollars to the media that yield the highest return on expenditures. We will continue to systematically test the effectiveness of direct mail, tradeshows, canvassing, pay-per-click, and other online and off-line lead generation services to determine which are most effective in generating revenue at any given time and adjust our efforts appropriately.
We expect to employ this technique as we seek to build our network of franchises, as described below. Our plan is to determine the message and mediums that have proven to be effective in Orange County and utilize these as the initial elements to conceive a marketing and advertising mix on a national basis or within the geographic scope of our franchisees' locations. In addition, we may engage a marketing company to assist us to identify demographic and cultural tendencies in each of the geographic areas in which we may have franchises and develop appropriate marketing campaigns on behalf of our franchisees.
Growth Strategy
Franchising
We believe that our business model can be replicated successfully throughout the country and that the fundamental elements of our proprietary sales and marketing technique, which we believe is sophisticated when compared to our direct competitors, can be conveyed effectively through written materials and training to motivated entrepreneurs. We will seek to leverage our business model by initiating a franchise organization and establishing our Company and brand as the first national vinyl products retail chain.
We are not aware of any participant in the exterior vinyl products industry that operates on a national basis nor are we aware of any organization that is seeking to establish a nation-wide presence. We believe that a significant opportunity exists for us to develop a national franchise to establish our products and Company as a unique brand. We believe that our business approach and operating model encompasses many of the elements that lend themselves to franchising, including that our business:
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incorporates a proprietary marketing system that can be replicated in other locations and that differentiates us from others in our industry;
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has a multi-year record of profitability;
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has broad geographic appeal; and
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is relatively easy and inexpensive to operate.
We will seek to become the dominant participant in the sale of vinyl fencing and patio covers on a national basis by developing a franchise program that will utilize our well-conceived and sophisticated marketing and sales program
The franchise structure represents an attractive approach to growing our Company, because it:
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will afford us access to investment capital without forcing us to cede control of our Company to new investors;
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ultimately may permit us to benefit from the economies of scale associated with larger organizations, such as by allowing us to enter into long-term/high volume contracts with suppliers which could reduce the cost of inventory;
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would give us the opportunity to deploy national advertising and promotional programs that are beyond the financial and creative capabilities of other direct competition;
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eventually, may provide us with the capacity to leverage our organization to develop a distribution network among our franchisees;
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provide us with access to motivated entrepreneurs who have greater incentive than employees to operate their businesses successfully because they have a direct stake in the operation; and
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would represent the possibility to compound revenue growth without requiring a corresponding increase in infrastructure (if we outsource some of the franchise related services), which we expect would add to our bottom line.
Development of Our Franchise Program
In June 2009, we retained Franchise 123, Inc., which does business under the name Frandocs, to serve as our franchise consultant. Frandocs has been providing a wide range of franchise-related consulting services to the business community since 1980. Our relationship with Frandocs entitles us to utilize certain proprietary software under the terms of a license agreement and to consult with its representatives regarding any issues relating to the development of our franchise program for a period of twelve months. Thereafter, we may retain Frandocs on a fee basis to render consulting services as necessary.
The software we are licensing from Frandocs encompasses templates of all of the documents required to develop a franchise program. The forms were developed and are frequently updated and vetted by franchise lawyers and comply with the Federal Trade Commission regulations that became effective on July 1, 2008, the last substantive changes to the regulations. The documents required by the Federal Trade Commission comprise the Franchise Disclosure Document, formerly known as the Uniform Franchise Offering Circular; the franchise agreement and the exhibits thereto, including the personal guaranty by franchisee, directory of franchise regulators, operations manual outline, list of franchisees and financial statements. The software also includes templates of all documents required to establish the parameters of a franchise that will be delivered by us to franchisees, such as operations manuals, royalty payment forms, non-compete agreements, personnel manuals, procedures manuals and employee manuals. Also included is information pertaining to state regulation of franchising, including states that require registration.
Management favors the template approach to completing the organizational document because it has direct responsibility for the business-specific input required to generate the documents. Management believes that this approach will conserve significant time and reduce organizational costs.
We have substantially completed the preparation of our franchise documentation, though we have not yet established the program's parameters or specific attributes. We will be deliberate both in our preparation of the documents to ensure that the documents satisfy federal requirements and adequately communicate our franchise vision. We will work closely with our franchise consultant to establish appropriate guiding principles relating to such matters as franchise sale cost; ongoing franchise fees and royalties; franchise territories; franchise recruitment and the advertising approach we will take on behalf of our franchisees. We believe that we can complete the document preparation process and develop a general program design over the next two-to-three months.
From time to time, we may seek to outsource ongoing franchise service requirements to franchise operations professionals, which would allow us to maintain financial control over our infrastructure and take advantage of the experience these organizations have developed. Services subject to outsourcing include: operations management and quality control; advertisement placement and media management; advertisement fund management; centralized print fulfillment; franchise recruitment, franchise prospect qualification and franchise sales management (coaching). We will assess our requirements as we proceed with the development of the program.
Initially, we will seek to offer franchises in the State of California, one of fourteen states that requires franchise registration, a process that entails filing our offering documents with state regulators and obtaining approval before we can offer franchises. Until 2009, we were advised that the registration and approval process in California extended over at least a nine-month period, and possibly longer, in the State's effort to protect its residents from fraudulent franchise operators. We are advised by Frandocs that California recently took action to substantially reduce the time frame in which it will grant registration. We expect to be registered and qualified to offer franchises in the State of California in the second half of 2010. We hope that by that time the credit crisis will have dissipated somewhat and that credit will be more readily available to prospective franchisees from private sources and from the government sector, such as through the Small Business Investment Company (SBIC), or that the Small Business Administration will be in a position to guarantee loans to entrepreneurs.
Initially, it is our intention to sell franchises relatively close to our principal offices in Orange County, California, though not so close as to impinge upon sales at our Orange County or Los Angeles County showrooms, where we believe that we can more competently and efficiently monitor, manage, support and oversee the development of our franchisees. We believe that this will allow us to optimize brand marketing within our geographic area and reduce our marketing and advertising costs, as our retail locations and our Orange County franchisees can benefit from our advertising and marketing efforts. Initially, senior management, who developed our sales and marketing techniques, will be directly responsible for interviewing prospective franchisees and selecting the ultimate franchise owners to ensure that they possess the qualities our management is seeking in franchisees.
We expect that the success of our efforts in California will influence directly our decision as to when to commence offering franchises in other jurisdictions. We will measure success both by the number of franchises we sell and their performance and upon our ability to manage our operations and provide the level of support necessary to ensure the success of our franchisees.
Branding
Our objective is for our organization to become the national leader in exterior vinyl product sales. The essence of this process will be to build our brand so that prospects regard our Company as the preeminent value-driven solution to their exterior vinyl product requirements.
Despite the sheer size of the fencing industry, beyond the home centers in which exterior vinyl products represent only a small portion of their business, our industry is characterized by a profusion of small, local retail stores that lack focus and a clear marketing message. In our view, all of our competitors look, sound and act alike and there exists a void to be filled by a company that is credible, trustworthy, professional and focused on assisting customers rather than on selling customers.
We are seeking to become the dominant participant in the exterior vinyl products industry on a national basis through our franchises by deploying a focused advertising campaign and building our brand. In an industry noted for its lack of marketing creativity, we will deploy a sophisticated and well-conceived marketing strategy to advance our Company to a position of national leadership. We expect that the economies of scale afforded by multiple franchises will give us the opportunity to deploy advertising and promotional programs that are beyond the financial and creative capabilities of our competitors, and coincidentally allow us to build strong consumer brand awareness, which may serve as a barrier to competitive entry on a national level.
Building brand awareness through advertising is expensive and, in management's estimation, does not provide an immediate and measurable return on invested capital. Rather, it is our intention to continue to utilize a direct-response advertising campaign in which there will be a strong and immediate call-to-action to drive leads and generate revenue. We believe that a cohesive direct-response campaign will build our brand naturally because of the repetition and penetration of the advertisements in the marketplace.
During the first years of our franchising efforts, we expect to allocate the most significant portion of our operating budget, as a percentage of revenue generated, to marketing and advertising. We will closely monitor lead and sales generation relative to advertising dollars expended to a particular media to determine the highest rate of return and apportion our advertising expenditures accordingly. We believe that this approach will afford us with the greatest latitude to quickly and systematically determine which advertising mediums are the most effective in generating revenues. By implementing an aggressive approach early in the franchising phase, we believe that we will have the opportunity to:
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determine which mediums provide the highest return on capital;
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quickly convey our brand to the market;
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overcome any “small business/new business” stigma that prospects in an expansion area may experience; and
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capture most of the prospects in the area who are in the early stages of the buying cycle, allowing us to build a database of “future buyers.”
Product Supply
We have entered into an agreement to purchase all our vinyl product requirements from U.S. Polymers, Inc., located in Montebello, California, approximately twenty miles from our headquarters. We use vinyl provided by U.S. Polymers in all of our jobs. In return, U.S. Polymers granted us the exclusive license to sell its products in Orange County and provides us with significant price discounts. Under the agreement, we purchase raw materials consisting of extruded vinyl that has been formed into a variety of 16-foot-length profiles (posts, rails, pickets, etc.), which represents approximately 80% of all materials we use in our business. We utilize three computerized routing machines to cut and route the vinyl products to the required specifications for each purchase order. The original agreement, as subsequently amended to extend the termination date, is effective through August 29, 2010.
Our agreement with U.S. Polymers does not provide for rebates or incentives. The right of return does exist and there is a 20% restocking fee; however, returns have not been significant, and restocking fees always have been waived by the supplier. The agreement also provides for U.S. Polymers to pay us a small advertising incentive for including its name in our advertising materials and on our website.
U.S. Polymers has been a reliable provider of high-quality vinyl products and has satisfied our supply requirements on a timely basis to date. The products have proven to be easy to install and trouble-free for our customers to maintain. Products manufactured by U.S. Polymers carry a limited 30-year replacement warranty. We have not experienced any significant difficulties working with U.S. Polymers nor have we received any serious customer complaints about the quality of the product.
We believe that in the event U.S. Polymers is unable to supply our requirements for vinyl fencing products, there are numerous other suppliers available to us that could provide substantially similar quality products at comparable prices on short notice.
Any disruption in the supply of the materials comprising the products we sell could have a material adverse effect on our business in the short term until we were able to negotiate purchase terms with new suppliers.
Employees
We employ 25 persons on a full-time basis, including: our two executive officers who are responsible for the direction and hands-on management of our Company; seven project designers (marketing and sales persons); fifteen operations personnel who schedule, fabricate and install product and provide customer service; and two accounting personnel who, together with Douglas Wells, our CFO (who provides his services through CFO Services, Inc.), assist with financial planning, maintaining financial records and preparing monthly and interim financial statements and reports.
We have an agreement with a professional employer organization (PEO), to manage all payroll processing, workers’ compensation, health insurance, and other employment-related benefits for our employees. The PEO is a co-employer of our employees along with us. Although the PEO processes our payroll and pays our workers’ compensation, health insurance and other employment-related benefits, we are ultimately responsible for such payments and are responsible for complying with state and federal employment regulations. The fees we pay the PEO are determined as a percentage of our payroll and the additional services we may request from it.
We are not party to any employment agreements and all of our employees are hired on an at-will basis. None of our employees are members of a union. We believe that we maintain good relations with all of our employees.
Backlog
The Company's backlog of unfilled orders was $264,000 as of December 31, 2009 and $322,000 as of December 31, 2008. We anticipate that we will fill all of this current backlog within one-to-three months. The amount of our backlog at any given time may not be representative of our potential annual earnings both because orders turn over quickly and the seasonal nature of our business may not accurately reflect our level of activity. Orders tend to diminish during the holiday season and into the rainy season, which typically encompasses the early winter months in Southern California.
Competition
We market our exterior vinyl products to the home improvement sector where we compete with entries manufactured from lumber, wood-plastic composites, other high-performance plastics, metal-based products, masonry products and other construction materials. Currently, wood and metal are the most prevalent materials used in residential fencing, accounting for over 70% of the total market value, and wood is by far the most common material used in decking products. Though the appearance of vinyl products is improving rapidly, many purchasers prefer the look and feel of wood, which also is somewhat less expensive than vinyl in initial purchase price but, we believe, has a higher cost of ownership given its on-going maintenance costs. Superior product quality and ease of ownership is the principal means by which our products compete against wood. We believe that our products compete favorably with vinyl products offered by our competitors as to price, quality, aesthetics and variety.
Our industry is populated by (i) numerous small, local retail stores that specialize in vinyl products, (ii) home improvement contractors and (iii) home improvement centers for which exterior vinyl products represent a small portion of their total product offerings and that typically subcontract installation to third parties. In the space in which we operate, retailers that sell and install only fence, decks and related products and in which marketing and sales is directed to consumers, the market is characterized by numerous small companies that limit their operational scope to their immediate geographic operating areas. We believe that we compete effectively against these entities based upon our sophisticated sales and marketing techniques not typically employed by the local retailers
As we develop our franchise operations, we expect that we will compete with numerous other franchisors for franchisees. Most of these franchisors will have greater market recognition and greater financial, marketing and human resources than we do and we can not be certain that we will be able to compete effectively to attract franchisees.
Government Regulations
Our operations and those of our franchisees are and will be subject to licensing and regulation by a number of governmental authorities, which may include construction, labor, sanitation, safety, fire, building and other agencies in the state or municipality in which an operation is located. Difficulties in obtaining or failure to obtain the required licenses or approvals could delay or prevent the development of a new franchise in a particular area. We and our franchisees are and will be subject to federal and state environmental regulations, but these regulations have not had a material effect on our operations.
Our future franchise operations will be subject to Federal Trade Commission regulation and state laws which regulate the offer and sale of franchises. The FTC’s Trade Regulation Rule on Franchising requires the Company to furnish to prospective franchisees a franchise offering circular containing information prescribed by this rule.
State laws that regulate the offer and sale of franchises and the franchisor - franchisee relationship presently exist in a substantial number of states. Such laws generally require registration of the franchise offering with state authorities and regulate the franchise relationship by, for example, requiring the franchisor to deal with its franchisees in good faith, prohibiting interference with the right of free association among franchisees, limiting the imposition of standards of performance on a franchisee and regulating discrimination against franchisees in charges, royalties or fees. Certain laws may restrict a franchisor in the termination of a franchise agreement by, for example, requiring “good cause” to exist as a basis for the termination, advance notice to the franchisee of the termination. These laws could negatively impact our franchise operations. The Company is not aware of any pending franchise legislation which in its view is likely to affect significantly the operations of the Company.
Item 1A.
Item 1A. Risk Factors.
An investment in our securities involves a high degree of risk. You should consider carefully all of the risks described below, together with the other information contained in this Annual Report on Form 10-K including our financial statements and the related notes thereto appearing elsewhere in this Annual Report, before making a decision to invest in our securities. If any of the following risks occur, our business, financial condition and results of operations may be materially adversely affected.
RISKS RELATED TO OUR BUSINESS
We derive all of our revenues from the sale of outdoor home products manufactured from vinyl and the growth of our business and the success of our franchises may depend upon continuing consumer acceptance of vinyl products as an alternative to products manufactured from wood and other traditional materials.
All of the products we offer are manufactured from vinyl. Vinyl was introduced into the outdoor fencing, decking and home accessory industry in the 1970's and as of 2006 estimates suggest that demand for all plastic-based fence materials in the North American residential market to be over $600 million. The continued growth of sales at our Company-owned showroom and at our future franchises may depend upon a continuing increase in consumer acceptance of vinyl products as a construction material for outdoor home products as an alternative to outdoor products manufactured from wood and other traditional materials such, as stone and metal. If consumer preferences change and there is a decline in the acceptance and sales of outdoor products manufactured from vinyl our business and operating results could be negatively impacted. Moreover, if other materials are employed or developed for use in the outdoor home products market that supplant outdoor products manufactured from vinyl, our business and operating results could be harmed.
We currently purchase all of our vinyl products from a single source and any interruption in supply, decline in quality or increase in price could adversely affect our business and results of operations.
We purchase all of our major vinyl components of the products we sell from one source that manufactures its products at a single facility in Southern California. Our business could be adversely affected in the event:
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there is any interruption in supply from this entity, which could occur if, among other things, its equipment malfunctions or it experiences a fire or other catastrophic event, in which case it might not be able to satisfy our demand, which would require us to locate another source;
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the quality of the product we purchase from our supplier declines, which could prompt customers to purchase products from our competitors; or
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our supplier significantly increases costs that we cannot pass on to our customers, in which case our customers may purchase products from our competitors.
Our reliance on a single supplier of vinyl product exposes our business to these and other risks and potential problems that we cannot now foresee. Any such event could have a material adverse affect on our business and results of operations.
The current economic downturn and tight credit markets negatively impacted our sales during 2009.
We believe that the demand for our products is correlated to changes in the health of the economy in general and the level of activity in home improvements. These activity levels, in turn, are affected by such factors as consumer confidence, housing turnover, home equity values, home equity loan withdrawals, consumer spending habits, reasonably attainable consumer financing, income and interest rates. Existing home sales were relatively flat in 2009 and during the first two months of 2010 while new housing starts during 2009 were the worst since World War II. Home equity values in many markets have decreased significantly, adversely affecting the availability of home equity withdrawals. In addition, consumer credit generally has been more difficult to secure. These factors resulted in a decrease in home improvement spending, which caused our sales and results of operations to decline for the 2009 year, a trend which we believe could continue for the foreseeable future.
In 2008, the U.S. economy entered into a recession. We cannot predict how long the recession will last and whether the downward trend in home remodeling and renovation will continue or worsen. The economic downturn could continue to affect consumer confidence, income and equity capital available for spending on discretionary items such as fencing and decking, which could adversely affect the demand for our products. While our current liquidity and financial condition is adequate to maintain our business as we currently operate and satisfy our anticipated capital requirements over the next twelve months, a prolonged period of reduced sales and corresponding reduction in income could jeopardize our ability to implement our franchise program or reduce capital for other corporate purposes as they arise. If we fail to implement our franchise program, our growth prospects, liquidity and financial position would suffer.
Existing tight credit conditions could impair the ability of prospective franchisees to obtain financing to purchase franchises which could negatively affect our growth prospects.
Most franchises are acquired by franchisees utilizing a combination of personal investment and third-party financing. In light of current adverse economic conditions marked by tight credit, potential franchisees may have difficulty obtaining the financing required to purchase a franchise from us. The failure to develop a profitable and viable franchise program would negatively impact our anticipated growth, results of operations and liquidity. Moreover, to the extent we allocate a significant percentage of our financial resources to the development and support of our franchise program and do not realize the expected return on such investment, we may not have capital available for other corporate purposes as they arise.
Our business growth strategy and future earnings will depend in large part on the development and success of our franchise program and there are a substantial number of risks associated with this strategy.
We will pursue the development of a franchise program that we anticipate will be the cornerstone of our future growth and expansion. We expect to dedicate significant financial and personnel resources to the development of our franchise program and to derive substantial returns from our investment, both from the payment of the initial franchise fees and from ongoing royalty and other fees. There are numerous significant risks attendant to developing the program, including:
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We have never undertaken any research to establish the franchise potential of our business and we may not sell a sufficient number of franchises to recoup our initial investment in the program or to fund the ongoing costs of operating a franchise program;
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Neither we nor any member of our management team has any prior experience developing or operating a franchise program and we may not successfully manage this business;
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We may face delays and difficulties in connection with implementing our franchise program, which could increase costs and delay the recognition of revenue from such operations;
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Placing significant demands on our management, technical, financial and other resources;
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Diverting management's attention from our core business of selling vinyl fence; and
·
We may not accurately assess the qualifications of our franchisees and they may not possess the business abilities and access to financial resources necessary to successfully operate the franchise or to operate it in a manner consistent with our standards;
We cannot assure you that we will successfully manage the problems and difficulties we may encounter in developing a franchise program. To the extent that we do not manage and surmount the problems and difficulties we may encounter, our results of operations and financial condition may not meet our expectations. Moreover, such problems and difficulties may permeate our existing operations to our financial and operational detriment which would materially and adversely affect our financial condition and results of operations.
We may require additional cash both to implement our franchise program and, if we do not generate sufficient revenue from such operations, to maintain it.
As of the date hereof, we believe that we will possess sufficient financial resources, from cash on hand and revenue from existing operations, to fund the development of and maintain our proposed franchise program. However, no member of our management has experience building a franchise program and we may not have evaluated or gauged our cash requirements adequately. Moreover, we may not have properly accounted for factors beyond our control which could increase the cost of developing and maintaining our franchise program. If the revenue we generate from our franchise operations (both from sales of franchises and from ongoing franchising fees and royalties) is not sufficient to support our franchise program, we will deplete our cash position, suffer losses, and may require outside financing to maintain such operations which may not be available to us on acceptable terms, if at all. If we do not have access to cash on acceptable terms when and as required, we will not grow as quickly as we have anticipated and our business and results of operations will suffer.
Our business growth strategy and future earnings will depend in large part on the success of our franchisees, over whose operations and business success we will exercise limited control.
Our franchisees will own, operate and oversee their franchise's daily operations and will be independent third parties over whom we will not exercise control. Although we will attempt to properly select, train and support franchisees and the franchisees will be contractually obligated to operate their franchises in accordance with our standards, the ultimate success and quality of any franchise rests with the franchisee. If franchisees do not successfully operate in a manner consistent with our standards, our image and reputation could be harmed, which could affect our ability to attract additional franchisees and which in turn could adversely affect our business and operating results. Further, we expect that a significant portion of the fees we would earn from franchisees would be derived from royalties calculated based on net sales and to the extent that our franchisees do not operate their franchise profitably or remain financially viable, we will not earn the revenues we expect, which would negatively impact our business and results of operations.
We may not be able to successfully integrate and oversee the growth of new franchises, which could adversely affect our business, results of operations and financial condition.
Our efforts to develop a franchise operation will be accompanied by certain extensive risks with respect to integrating new franchises into our operations, including, the potential disruption of our ongoing business, additional expenses associated with managing a larger organization and the maintenance of uniform standards, controls and policies. We may not be successful in overcoming these risks or any other potential problems that arise from the development of a franchise program. If any of these risks materialize, our operating results could be materially impacted, which could negatively impact our financial condition.
Our franchisees could take actions that could be harmful to our business.
Our franchisees will be contractually obligated to operate their franchises in accordance with all applicable laws but ultimately, franchisees are independent third parties that we do not control. Franchisees could take actions that subject them to legal and financial liabilities and we may, regardless of the actual validity of such a claim, be named as a party in an action relating to, and/or be held liable for, the conduct of our franchisees if it is shown that we exercise a sufficient level of control over a particular franchisee’s operations. Defending claims made against our franchisees and being held liable for their actions could be costly and adversely impact our operating results.
Our franchise operations will be subject to government regulation that may adversely hinder or impact the growth of our business.
As we develop our franchise operations, our business will become subject to Federal Trade Commission regulation and several state laws which regulate the offer and sale of franchises. We also will become subject to state laws that regulate substantive aspects of the franchisor - franchisee relationship. The FTC’s Trade Regulation Rule on franchising requires the Company to furnish to prospective franchisees a franchise disclosure document containing information prescribed by the rule. State laws that regulate the offer and sale of franchises and the franchisor - franchisee relationship presently exist in a substantial number of states. Any failure by us to obtain or maintain approvals to sell franchises could cause us to lose franchise revenues and any failure to comply with these laws could expose us to liability for damages to franchisees and fines or other penalties as well as causing us to incur expensive legal cost.
Past seasonal fluctuations in our net sales and quarterly operating results may not be a reliable indicator of future seasonal fluctuations.
Our historical seasonality may not be a reliable indicator of our future seasonality. Quarterly variations in our net sales and income from operations are principally attributable to seasonal trends in the demand for our products. We generally experience lower net sales levels during the first and fourth quarters of each year, in which holidays and adverse weather conditions in Southern California usually reduce the level of home improvement activity.
Our business could be harmed if we are unable to manage growth effectively.
We have experienced significant growth since our inception and believe that sustained growth, including as may be achieved through our expansion plans, places a strain on operational, human and financial resources. To manage our growth, we must continue to improve operating and administrative systems and services and attract and retain qualified management and sales personnel. We believe that maintaining and enhancing both our systems and personnel at reasonable cost are instrumental to our success. We cannot give any assurances that we will be able to attract and retain qualified personnel. We cannot give any assurance that we will be able to develop internal systems that will keep pace with the growth we expect over the next five years. Failure to manage growth effectively could have an adverse effect on our business and operating results.
Our performance will suffer if we do not compete effectively in the highly competitive fencing market.
We must compete with a significant number of companies in the fencing market, including wood producers that we believe currently have more production capacity than is required to meet the demand for their products, and manufacturers of wood/plastic compound fencing that are seeking to capture market share from wood and that are aggressively pricing their products to that end. In addition, we compete against numerous retailers of vinyl products, many of which may offer products at prices lower than we can. If price became the most significant purchasing consideration, we might not be able to compete with wood products or other vinyl products retailers. Our failure to compete successfully in this market could have a material adverse effect on our business and results of operations.
We will compete against larger, better known entities to attract franchisees and we may not be successful.
As we develop our franchise operations, we expect that we will compete with numerous other franchisors for franchisees. Most of these franchisors have greater market recognition and greater financial, marketing and human resources than we do and we cannot be certain that we will be able to compete effectively to attract franchisees. If we fail to attract a sufficient number of franchisees and develop a material revenue stream from these operations, we could suffer a loss of our investment and may have to allocate funds from our showroom operations to our franchise business and our financial results could be negatively impacted.
Our business depends on our senior management team and the loss of any member of the team could harm our business.
We believe that our success will depend on the continued employment of Gordon Knott and Garabed Khatchoyan, our president and secretary, respectively, who have significant experience in our industry and who developed our sales and marketing techniques. Currently, neither Mr. Knott nor Mr. Khatchoyan has an employment agreement with our Company. Our future business and financial results could be adversely affected if we were to lose the services of either of such persons. If either of these persons were unable or unwilling to continue in his present position, that person could be difficult to replace and our business could be harmed. If either of these persons left to join a competitor or form a competing company, some of our customers might choose to use the services of that competitor or new company instead of our services.
We have no independent audit committee. Our full board of directors functions as our audit committee and is comprised of two directors who are not considered independent. This may hinder our board of directors’ effectiveness in fulfilling the functions of the audit committee.
Currently, we have no independent audit committee, though we are not required to have one. Our full board of directors functions as our audit committee and is comprised of directors who are not considered to be “independent” in accordance with the requirements of Rule 10A-3 under the Exchange Act. An independent audit committee plays a crucial role in the corporate governance process, assessing a company’s processes relating to its risks and control environment, overseeing financial reporting and evaluating internal and independent audit processes. The lack of an independent audit committee may prevent the board of directors from being independent from management in its judgments and decisions and its ability to pursue the committee’s responsibilities without undue influence. We may have difficulty attracting and retaining directors with the requisite qualifications. If we are unable to attract and retain qualified, independent directors, the management of our business could be compromised.
Our full board of directors acts as our compensation committee, which presents the risk that compensation and benefits paid to these executive officers who are board members and other officers may not be commensurate with our financial performance.
A compensation committee consisting of independent directors is a safeguard against self-dealing by Company executives. Our board of directors acts as the compensation committee and determines the compensation and benefits of our executive officers and reviews policies relating to the compensation and benefits of our employees. Although all board members have fiduciary obligations in connection with compensation matters, our lack of an independent compensation committee presents the risk that our executive officers on the board may set their personal compensation and benefits at levels that are not commensurate with our financial performance.
RISKS RELATED TO OUR COMMON STOCK
Our officers and directors control us through their positions and stock ownership and their interests may differ from other stockholders.
As of April 8, 2010, there were 22,864,200 shares of our common stock issued and outstanding. Messrs. Knott and Khatchoyan, our directors and president and secretary, respectively, collectively own 87.48% of our common stock. As a result, if they were to vote in concert with each other, they are able to influence the outcome of stockholder votes on various matters, including the election of directors and extraordinary corporate transactions including business combinations. Yet, their interests may differ from those of other stockholders. Furthermore, ownership of 87.91% of our common stock by our all of officers and directors reduces the public float and liquidity, and may affect the market price, of our common stock when and if our common stock becomes eligible to trade on the OTC Bulletin Board or other trading medium.
There is currently no trading market for our common stock which will limit the ability of stockholders to dispose of their common stock.
Our common stock is not quoted on any exchange or inter-dealer quotation system. There is no trading market for our common stock and our common stock may never be included for trading on any stock exchange or through any quotation system (including, without limitation, the NASDAQ Stock Market and the OTC Bulletin Board). You may not be able to sell your shares due to the absence of a trading market.
Any market that develops for our common stock likely will be illiquid and the price of our common stock could be subject to volatility unrelated to our operations.
If a market for our common stock develops, its market price could fluctuate substantially due to a variety of factors, including market perception of our ability to achieve the development of our franchise program and otherwise meet our growth projections and expectations, quarterly operating results of other companies in the same industry, trading volume in our common stock, changes in general conditions in the economy and the financial markets or other developments affecting our business and the business of others in our industry. In addition, the stock market itself is subject to extreme price and volume fluctuations. This volatility has had a significant effect on the market price of securities issued by many companies for reasons unrelated to their operating performance and could have the same effect on our common stock.
Limitations on liability and indemnification matters.
As permitted by the corporate laws of the State of Nevada, we have included in our Articles of Incorporation a provision to eliminate the personal liability of our directors for monetary damages for breach or alleged breach of their fiduciary duties as directors, subject to certain exceptions, including, for example, if the director did not act in good faith and in a manner which she reasonably believed to be in or not opposed to the best interests of the corporation, and, with respect to any criminal action or proceeding, had no reasonable cause to believe her conduct was unlawful. In addition, our bylaws provide that we are required to indemnify our officers and directors under certain circumstances, including those circumstances in which indemnification would otherwise be discretionary, and we will be required to advance expenses to our officers and directors as incurred in connection with proceedings against them for which they may be indemnified. If we are required to indemnify, both for the costs of their defense in any action or to pay monetary damages upon a finding of a court or in any settlement, our business and financial condition could be materially and adversely affected.
Issuance of stock to fund our operations may dilute your investment and reduce your equity interest.
We may need to raise capital in the future to fund the development and maintenance of our franchise program or for other purposes. Any equity financing may have significant dilutive effect to stockholders and a material decrease in our stockholders’ equity interest in us. Equity financing, if obtained, could result in substantial dilution to our existing stockholders. At its sole discretion, our board of directors may issue additional securities without seeking stockholder approval, and we do not know when if we will need additional capital or whether it will be available to us.
We are authorized to issue "blank check" preferred stock without stockholder approval, which could adversely impact the rights of holders of our common stock.
Our Articles of Incorporation authorize our Company to issue up to 10,000,000 shares of blank check preferred stock. Currently no preferred shares are issued; however, we can issue shares of our preferred stock in one or more series and can set the terms of the preferred stock without seeking any further approval from our common stockholders. Any preferred stock that we issue may rank ahead of our common stock in terms of dividend priority or liquidation premiums and may have greater voting rights than our common stock. In addition, such preferred stock may contain provisions allowing those shares to be converted into shares of common stock, which could dilute the value of common stock to current stockholders and could adversely affect the market price, if any, of our common stock. In addition, the preferred stock could be utilized, under certain circumstances, as a method of discouraging, delaying or preventing a change in control of the Company. Although we have no present intention to issue any shares of authorized preferred stock, there can be no assurance that we will not do so in the future.
Substantial sales of our common stock, or the perception that such sales are likely to occur, could cause the price of our common stock to decline in any market that may develop for our common stock.
The market price, if any, of our common stock could decline as a result of sales of substantial amounts of our common stock in any market that may develop for our stock, or the perception that these sales could occur. In addition, these factors could make it more difficult for us to raise funds through future offerings of common stock. We have an aggregate of 22,864,200 shares of common stock outstanding as of April 8, 2010. Of the outstanding shares, 1,064,200 are available for public resale; in addition, 123,200 shares underlying options have been registered for public resale and may be resold without restriction upon exercise of the options. All of the remaining shares of common stock may be available for resale in the public market, subject to the restrictions on sale or transfer imposed by Rule 144 under the Securities Act. The market price of our common stock could drop significantly if the holders of these shares sell them or are perceived by the market as intending to sell them.
We have had to restate our historical financial statements.
We have had to restate our audited financial statements for the year ended December 31, 2008 on two occasions, most recently when our new independent accountant discovered a material error relating to our failure to record a compensation expense upon the issuance of options to our employees in the course of auditing our financial statements for the 2009 fiscal year. A more detailed discussion of the restatements and the caused thereof is included in this Annual Report under "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations - Restatement and Reclassification of Historical Consolidated Financial Statements," "Item 9A - Controls and Procedures" and in Note K of the notes to our audited consolidated financial statements accompanying this Annual Report.
In connection with the restatements, we identified material weaknesses in our internal control over financial reporting as of December 31, 2008 and 2009 and the quarterly periods subsumed therein and that our internal control over financial reporting was not effective as of the close of those periods. Under standards established by the Public Company Accounting Oversight Board, a “material weakness” is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis.
Since the date we identified the errors in our financial statements, we have implemented measures to remediate the errors and plan to implement further remediative measure over the course of 2010. However, we cannot assure you that these measures will be effective in mitigating or preventing these specific material weaknesses or the incidence of other significant deficiencies or material weaknesses in our internal control over financial reporting in the future. The execution of restatements creates a significant strain on our internal resources and could cause delays in our filing of quarterly or annual financial results, increase our costs, cause management distraction, impair investors' perception of the reliability of our financial statements and otherwise negatively impact our reputation. In addition, we may become the subject of private or government actions regarding these matters which could have a material adverse effect on our business, financial condition, results of operations, cash flows and the trading price for our securities in any market that may develop for them.
Failure to implement and maintain effective internal controls over financial reporting could negatively affect our ability to provide accurate and timely financial information and harm our business in many other ways.
Over the course of the last fourteen months, we have identified material weaknesses in our disclosure controls and procedures and internal control over financial reporting on two distinct occasions. We cannot assure you that the remediation measures we have taken or expect to take in the future with respect to the weaknesses we identified will be adequate to enable us to remedy the specific material weaknesses and deficiencies in our controls and procedures and permit us to avoid other material weaknesses or significant deficiencies in the future.
Commencing with the filing of our annual report on Form 10-K with the Securities and Exchange Commission, or SEC, for the year ending December 31, 2010, both we and our independent registered public accounting firm will be required to attest to the effectiveness of our internal control over financial reporting as required by Section 404 of the Sarbanes-Oxley Act. While we anticipate being compliant with the requirements of Section 404 for our fiscal year ending December 31, 2010, we cannot be certain as to the impact negative conclusions in our report or our auditor's report thereon may have on our operations.
Our failure to implement and maintain the appropriate internal control over financial reporting or the requirements of Section 404 could negatively affect our ability to provide accurate and timely financial information, require us to restate past financial statements at great cost to us; subject us to liability for misstatements under federal and state securities laws; may cause investors to lose confidence in our reported financial information, which could lead to a decline in the price of our stock in any market that may develop; make it more difficult and costly to attract and retain independent board members; limit our ability to access the capital markets in the future; and require us to incur additional costs to improve our internal control systems and procedures.
Our compliance with changing laws and rules regarding corporate governance and public disclosure may result in additional expenses to us which, in turn, may adversely affect our ability to continue our operations.
Keeping abreast of, and in compliance with, changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, new SEC regulations and, in the event we are ever approved for listing on either a registered exchange or through any quotation system, and stock exchange or system rules, will require an increased amount of management attention and external resources. We intend to continue to invest all reasonably necessary resources to comply with evolving standards, which may result in increased general and administrative expenses and a diversion of management time and attention from revenue-generating activities to compliance activities. This could have an adverse impact on our operations.
The designation of our common stock as a "penny stock" would limit the liquidity of the shares.
Our common stock may be deemed a “penny stock” (as that term is defined under Rule 3a51-1 of the Exchange Act) in any market that may develop in the future. Generally, a "penny stock" is a common stock that is not listed on a securities exchange and trades for less than $5.00 a share. Prices often are not available to buyers and sellers and the market may be very limited. Penny stocks in start-up companies are among the riskiest equity investments. Broker-dealers who sell penny stocks must provide purchasers of these stocks with a standardized risk-disclosure document prepared by the SEC. The document provides information about penny stocks and the nature and level of risks involved in investing in the penny stock market. A broker must also provide purchasers with bid and offer quotations and information regarding broker and salesperson compensation, make a written determination that the penny stock is a suitable investment for the purchaser and obtain the purchaser's written agreement to the purchase. Many brokers choose not to participate in penny stock transactions. Because of the penny stock rules, there may be less trading activity in penny stocks in any market that develops for our common stock in the future and stockholders are likely to have difficulty selling their shares.
FINRA sales practice requirements may also limit a stockholder’s ability to buy and sell our stock.
In addition to the “penny stock” rules described above, the Financial Industry Regulatory Authority (“FINRA”) has adopted rules that require that in recommending an investment to a customer, a broker-dealer must have reasonable grounds for believing that the investment is suitable for that customer. Prior to recommending speculative low priced securities to their non-institutional customers, broker-dealers must make reasonable efforts to obtain information about the customer’s financial status, tax status, investment objectives and other information. Under interpretations of these rules, the FINRA believes that there is a high probability that speculative low priced securities will not be suitable for at least some customers. The FINRA requirements make it more difficult for broker-dealers to recommend that their customers buy our common stock stocks in any market that develops for our common stock in the future, which may limit the ability to buy and sell our stock and which will have an adverse effect on any market that develops for our shares.
We do not foresee paying cash dividends in the foreseeable future.
We currently intend to retain any future earnings for funding growth. We do not anticipate paying any dividends in the foreseeable future. As a result, you should not rely on an investment in our securities if you require dividend income. Capital appreciation, if any, of our shares may be your sole source of gain for the foreseeable future. Moreover, you may not be able to resell your shares in our Company at or above the price you paid for them.
Item 1B.
Item 1B. Unresolved Staff Comments.
Not applicable.
Item 2.
Item 2. Properties.
The Company leases two facilities in Southern California. We occupy approximately 10,000 total square feet of office, showroom, fabrication and warehouse space at 2210 South Ritchey Street, Santa Ana, California (Orange County) pursuant to four-year lease that expires on March 31, 2011. We currently pay monthly rent of $8,690 for the premises. We anticipate that the total annual rental expense for 2010 will be approximately $106,629. In February 2010, we opened a new showroom at 2707 Artesia Blvd, Redondo Beach, California (Los Angeles County), where we lease approximately 1,000 square feet of space at a monthly rent of $2,800. We anticipate that the total annual rental expense for 2010 will be approximately $25,200.
Management believes that our current facilities satisfy our current and anticipated future requirements but that alternative space is available upon comparable terms, if necessary.
Item 3.
Item 3. Legal Proceedings.
On December 5, 2008, a former employee of the Company filed a complaint in Superior Court against the Company and its principals, seeking compensatory damages, attorneys' fees, punitive damages and equitable relief in connection with our termination of the employee for what we deemed to be cause. In 2009, the Company paid its $12,500 share of the insurance deductible. In March 2010, the case was settled in arbitration, with no further liability for the Company.
Item 4.
Item 4. Reserved
PART II
Item 5.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
Market Information
As of April 8, 2010, there were 22,864,200 shares of our common stock outstanding held by 40 record holders and no outstanding shares of preferred stock. In addition, there are outstanding options to purchase an aggregate of 123,200 shares of common stock at a price of $.50 per share through September 24, 2010 that are held by 19 persons.
Our common stock is not traded or quoted on any exchange or inter-dealer quotation system. We will seek to identify a market maker to file an application with the Financial Industry Regulatory Authority, Inc. to initiate quotation of our common stock on the OTC Bulletin Board. We have not identified a market maker that has agreed to file such application.
We cannot assure you that a trading market for our common stock will ever develop. We have not registered our class of common stock for resale under the blue sky laws of any state and current management does not anticipate doing so. The holders of shares of common stock, and persons who may desire to purchase shares of our common stock in any trading market that might develop in the future, should be aware that, in addition to transfer restrictions imposed by federal securities laws, significant state blue sky law restrictions may exist which could limit the ability of stockholders to sell their shares and limit potential purchasers from acquiring our common stock.
Dividend Policy
To date, we have not declared or paid any cash dividends on our common stock. The payment of dividends, if any, is at the discretion of the Board of Directors and is contingent on many factors, including our revenues and earnings, capital requirements and financial conditions. We currently intend to retain all earnings, if any, for use in business operations. Accordingly, we do not anticipate declaring any dividends in the near future.
Equity Compensation Plan Information
As of the date of this Annual Report, we have not adopted any equity compensation plans.
Recent Sales of Unregistered Securities.
During the fourth quarter of the 2009 fiscal year, we did not issue any securities during the last fiscal year the sale of which was not disclosed in the other reports we filed under the Exchange Act during 2009.
Item 6.
Item 6. Selected Financial Data.
The information to be furnished under this Item 6 is not required of small reporting issuers.
Item 7.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion and analysis of financial condition and results of operations, together with our consolidated financial statements and related notes thereto appearing elsewhere in this prospectus. In addition to historical financial information, the following discussion contains forward-looking statements that reflect our plans, estimates, and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this prospectus, particularly in the section entitled “Risk Factors.”
General
We market and install a wide variety of attractive, durable, low-maintenance vinyl products, including fencing, patio covers, decking, railing and trim categories from our retail location in Santa Ana, California. During 2009, fencing products represented approximately 55% of our gross income (revenue) and patio covers represented approximately 35% of our gross income. Our products are used largely in renovation and remodeling by our customers who include homeowners and homeowner associations.
We differentiate our Company from others in the industry on the basis of the manner in which we market and sell our products and the level of service we offer our customers. Given that the purchase of our products represents a substantial investment in a customer's home, typically their most significant capital asset, we seek to connect with home owners' intrinsic desire to take the time to make an informed, value-driven purchasing decision. Throughout the sales process, we invest the time and effort to develop a relationship with a prospect, as opposed to home centers, specialized retail distributors and independent contractors that typically employ a hard-sell pitch and seek to make a sale only when a consumer is prepared to make a purchase.
Our marketing efforts are designed to capture information about prospective purchasers of exterior vinyl products early in the buying cycle. We maintain contact with them over the course of the decision-making process to educate and consult with them about vinyl products generally, the purchasing and installation process and the ownership experience. We seek to demonstrate to prospects that purchasing from us represents the best value for their money in that we provide a worry-free ownership experience that we believe is not available from other independent retailers, contractors or the national home improvement chains.
We believe that our business model can be replicated successfully throughout the country and that the fundamental elements of our proprietary sales and marketing techniques, which we believe are sophisticated when compared to our direct competitors, can be conveyed effectively through written materials and training to motivated entrepreneurs. We will seek to leverage our business model by initiating a franchise organization and establishing our Company and brand as the first national vinyl products retail chain.
Our existing and proposed business is subject to numerous substantial risks, including, among others, that we purchase all of our vinyl products from a single source; our future growth will, in large part, be dependent upon the success of our franchise program and our franchisees, and there are numerous risks associated with such model; the availability of disposable income and credit to homeowners; the availability of credit to prospective franchisees and general economic conditions.
Review of Annual Operations and Summary Operational Performance
The 2009 fiscal year was a momentous one for our Company as an organization. We successfully completed the registration of securities under the Securities Act. Equally as important, we embarked on the franchise phase of our business model, which management believes will allow us to develop a national presence and corporate brand. We believe that these initiatives will serve as the foundation for our future growth and enhance shareholder value in our Company.
Management believes that the economic recession that persisted throughout 2009 impacted both our results of operations and delayed the roll out of our franchise program.
Income for the 2009 year declined by 17% from 2008 to $3,447,733, a decrease of $710,127, and our gross profit decreased by 11% from 2008, while the gross profit percentage increased from 48.9% in 2008 to 52.7% in 2009 as we made personnel adjustments and implemented practices that allowed us to operate more efficiently.
Expenses in connection with the registration of our securities and our efforts to address corporate governance issues contributed to an increase in professional fees of approximately 21%. We expect that these costs will decline significantly during the 2010 fiscal year.
Home improvement spending declined for the third consecutive year in 2009. While low interest rates throughout the year made borrowing for home renovations attractive, credit availability remained challenging. Housing turn-over (sales of existing home and new housing starts), a significant driver and indicator of home improvement spending, declined during 2009. In addition, declining home prices and the tightening of lending standards made it more difficult and expensive for homeowners to finance home improvement and remodeling projects. Additionally, we believe that unstable home prices, near record levels of foreclosures and other distressed sales discouraged households from undertaking discretionary home projects during 2009. Our sales and results of operations suffered accordingly.
The recession and credit crunch also caused us to defer the roll out of our franchise program to mid 2010. We have been reluctant to commit the corporate resources, both personnel and financial, required to define, document and implement the program. We have made substantial headway toward completing the preparation of the foundation documents (pre-operating, operations, procedural and employee manuals; royalty payment forms, non-compete agreements, etc.). We continue to refine the financial parameters of the program, such as franchise pricing and royalty structures, and develop a strategy to attract potential franchisees. We expect to conclude our efforts in the next few months in advance of the submission of an application to register our franchise program in the State of California, which we expect to file during the second quarter. Our application also will encompass the franchise offering documents to be provided to prospective franchisees. We will not commence marketing franchises until we receive approval from the State of California and we cannot provide an estimate when approval would be granted.
During 2009, our Company was challenged in its efforts to comply with the corporate governance standards applicable to our operations since becoming subject to SEC laws and other regulations applicable to public companies in November 2008 when we completed the share exchange. We identified several weaknesses in our internal control over financial reporting and disclosure controls and procedures and have restated our financial statements for the 2008 fiscal year on two occasions, as described in the audited financial statements for 2008 included in this Annual Report. We learned a great deal about corporate governance and internal operations procedures during the last fiscal year. We have implemented numerous measures to remediate existing weaknesses and taken steps to improve our control environment and transform our corporate culture. During the year, we implemented the principles and standards presented in "Internal Control - Integrated Framework," issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). We engaged a new independent public accountant to audit the Company's financial statements for the 2009 year that is larger and has access to more resources than our prior auditor. In addition, we retained a new tax preparation firm that has substantially more experience and expertise than our former tax professional.
Restatement and Reclassification of Historical Consolidated Financial Statements
Restatements:
In April 2010, we determined that we should have recognized a compensation expense equal to the value of stock options we granted to employees in September 2008, as required by Financial Accounting Standard 123R ("FAS 123R"). We calculated that the options had an aggregate value of $67,000 using the Black-Scholes option pricing model. As a result of identifying the error, we concluded that accounting adjustments were necessary to correct the previously issued financial statements contained in our Annual Report on Form 10-K for the year ended December 31, 2008, that the financial statements contained in that report should no longer be relied upon, and that we would restate the financial statements for the period .
The restatement of the audited consolidated financial statements for the year ended December 31, 2008 to record a compensation expense for the employee stock options affected individual components of our Consolidated Balance Sheet as of December 31, 2008, and our Consolidated Statements of Operations, Consolidated Statement of Shareholders’ Equity and Consolidated Statement of Cash Flows for the year the ended. The restatement had no effect on reported earnings per share for that period and no impact on cash flows. The audited consolidated financial statements for the 2007 fiscal year were not affected in any way. The Company added a restatement footnote as "Note K" to the audited consolidated financial statements accompanying this Annual Report, titled "Reclassification and Restatement" which describes the restatement and demonstrates the impact of the restatement on each line item in our consolidated financial statements that was affected thereby.
In October 2009, we determined that we underreported our federal and state corporate income tax liability for the year ended December 31, 2008 by $30,000, an amount material to our financial statements. As a result of identifying the error, in November 2009, we concluded that accounting adjustments were necessary to correct the previously issued financial statements contained in our Annual Report on Form 10-K for the year ended December 31, 2008 and in our Quarterly Reports on Form 10-Q for the quarterly periods ended March 31, 2009 and June 30, 2009 and that the financial statements contained in those reports should no longer be relied upon. Accordingly, we restated those financial statements and filed an amendment to each of the foregoing reports that included amended and restated financial statements.
The restatement of the audited consolidated financial statements for the year ended December 31, 2008 to report the accurate amount of our federal and state corporate income tax liability affected individual components of our Consolidated Balance Sheet as of December 31, 2008, and our Consolidated Statements of Operations, Consolidated Statement of Shareholders’ Equity and Consolidated Statement of Cash Flows for the year the ended. The restatement had no effect on reported earnings per share for that period. The audited consolidated financial statements for the 2007 fiscal year were not affected in any way. The Company added a restatement footnote as "Note K" to the audited consolidated financial statements accompanying this Registration Statement, titled "Reclassification and Restatement" which describes the restatement and demonstrates the impact of the restatement on each line item in our consolidated financial statements that was affected thereby.
Reclassification: Through the quarterly period ended June 30, 2009, we had included as a component of Interest Expense, a line item in the statement of operations portion of our consolidated financial statements, the amount of credit card fees charged by credit card companies to our Company for accepting payments from our customers by credit card, and the amount of financing discounts, which represents the amount we receive from companies that finance a customer’s purchase of our products, which is less than the amount of our invoice to the customer (the difference being the financing discount). By letter dated April 22, 2009, the staff of the SEC alerted us to the fact that we may not have classified these two items correctly under generally accepted accounting principles in the United States, or US GAAP. In response to these comments, the board of directors concluded that credit card fees and financing discounts should be classified as selling, general and administrative expenses under US GAAP. The consolidated financial statements contained in the amended reports we filed as a result of the restatement also were reclassified to reflect the adjustments referred to above.
The reclassification of the audited consolidated financial statements for the years ended December 31, 2007 and 2008 to include credit card fees and financing discounts as selling, general and administrative expenses affected individual components of our Consolidated Statements of Operations for the years ended December 31, 2008 and 2007. This reclassification did not result in any change to our reported Consolidated Balance Sheets as of December 31, 2008 and 2007 or the Consolidated Statements of Cash Flows or Statement of Stockholders Equity for either of the years in the two-year period ended December 31, 2008 and had no effect on the reported consolidated net income or net earnings per share for either period (thought it did affect net operating income and net other income in each of 2007 and 2008 periods). We added a reclassification footnote as "Note K" to the audited consolidated financial statements accompanying this Registration Statement, titled "Reclassification and Restatement" which demonstrates the impact of the reclassification of each line item in our consolidated financial statements that was affected thereby.
Critical Accounting Policies and Estimates
We refer readers to Note A titled "Summary of Significant Accounting Policies" appearing on page F- 12 of the audited financial statements included with this Annual Report for a discussion of the critical accounting policies affecting our Company.
Results of Operations
Comparison of the Years Ended December 31, 2009 and 2008
Income: Income for the year ended December 31, 2009 was $3,447,732, a decrease of $710,128 or 17%, from $4,157,860 for the comparable period in 2008. The decrease was the result of current economic conditions, including tight credit markets. The decrease in income is a direct result of lower sales volume, principally related to lower consumer demand attributable to poor macroeconomic conditions, which includes suppressed home renovation and remodeling expenditures and lower housing starts as compared to 2008.
Cost of Goods Sold: Our contract with our vinyl supplier provides for significant discounts on raw materials we purchase. We benefitted materially from the discount for the 2009 and 2008 fiscal years. Our cost of goods sold for all periods reported in this Annual Report on Form 10-K is net of the discount we receive on the cost of raw materials.
Gross Profit: Gross profit decreased from $2,032,606 in 2008 to $1,816,230 in 2009, a decrease of $216,376 or 11%, while the gross profit percentage increased from 48.9% in 2008 to 52.7% in 2009. The decrease in gross profit was due to the 17% decrease in income due to current economic conditions, offset to some degree by addressing personnel problems in our fabrication and installation departments and improving operating procedures.
Expenses:
Advertising and marketing expense decreased $35,244 or 18% from $196,660 in 2008 to $161,416 in 2009, as we identified the proper mix of advertising media to attract customers and grow our business.
Selling, general and administrative expenses as restated (see above) decreased slightly from $442,930 in 2008 to $437,676 in 2009.
Payroll expenses as restated were $1,051,605 in 2008 and $995,334 in 2009, a decrease of $56,271 or 5 %. The was due primarily to the granting of employee stock options in 2008 that were valued at $67,000.
Professional fees increased from $199,933 in 2008 to $242,284 in 2009, an increase of $42,351 or 21 %. This was due primarily to increases in CFO services of $15,000; and legal, audit and filing fees relating to the annual audit and SEC filings of $23,000.
Rent expense was relatively unchanged between periods.
Income Taxes as restated (see above) were $80,000 in 2008, compared to $1,600 in 2009. This decrease resulted from 2009 having a loss before income taxes and thus requiring minimum state franchise taxes, whereas 2008’s taxes were applied separately to the Company and its wholly-owned subsidiary.
Liquidity and Capital Resources
Our current capital requirements are allocated principally among payroll; selling, general and administrative expenses; professional fees; rent; and advertising and marketing expenses. Historically, we have financed our business with cash flow from operations and borrowings under a revolving bank line of credit. We do not anticipate making any significant capital additions in 2010 other than in connection with the development and implementation of our franchise program.
We believe that our existing capital resources and liquidity position will be sufficient to satisfy all of our purposes over the next twelve months, including the development and implementation of the first phases of a franchise organization, as more fully described below under the heading "Capital Requirements."
Even in the event that the economic recession persists over the remainder of 2010 and we do not return to or exceed pre-recession sales levels during the current fiscal year, we are optimistic that we will have available the capital resources necessary from revenue and our line of credit to develop and implement the initial phases of our franchise program and other corporate purposes, as necessary.
If product sales do not rebound during the remainder of 2010 or if they decline significantly, we will seek to reduce overhead by discharging installers and administrative personnel. Since our sales personnel are remunerated by way of commissions only, a decline in sales results in a corresponding reduction in our sales commissions expense. A continued decline in sales would reduce income which would reduce the Company’s liquidity position. However, unless there is a further significant downturn in the economy and our sales, we believe that we can maintain or improve our current financial position.
Historically, our operating results, financial condition and liquidity position were enhanced significantly by virtue of substantial discounts we receive on vinyl products from our supplier to the retail market price at which such products are sold. Until October 2009, the discounts were conferred upon our achieving certain minimum quarterly purchases of products, which we had met in each prior quarter of our existence. In October 2009, our supplier eliminated the minimum purchase requirements that triggered the discount and we now receive the discount on all products we purchase from our supplier. We anticipate that our agreement will be renewed in September 2010 on materially similar terms.
The agreement with our vinyl products supplier includes other terms that may impact our liquidity and financial condition. For example, our supplier does not offer us any rebates or incentives, provisions that might be expected to be included in agreements of this nature. Moreover, we have a right of return but there is a 20% restocking fee; however, returns have not been significant, and restocking fees always have been waived by the supplier.
Cash Flows
Years Ended December 31, 2009 and 2008
Cash and Cash Equivalents
Our cash and cash equivalents were $114,901 at December 31, 2008, and decreased to $12,333 by December 31, 2009, as explained below.
Net cash provided by operating activities
Net cash used by operating activities was $93,331 for the year ended December 31, 2009, a decrease of $258,144 from $164,815 provided by operations for the year ended December 31, 2008. The decrease was primarily attributable to an increase in the net loss of $90,241, the non-cash charge for employee stock options of $67,000 in 2008, and a smaller increase in accounts payable and accrued expenses in 2009 of $116,403.
Net cash used in investing activities
Net cash used in investing activities was $20,988 for the year ended December 31, 2009, a decrease of $130,679 from $109,691 provided by operations for the year ended December 31, 2008. The decrease was primarily attributable to a $152,000 decrease in receivable from shareholders in 2008.
Net cash used in financing activities
Net cash provided in financing activities was $11,751 for the year ended December 31, 2009, compared to $293,857 used in financing activities for the year ended December 31, 2008, an increase of $305,608. The increase was attributable to a decrease in dividends of $330,000 paid to the principals of TVFC in 2008, net borrowings under our line of credit of $22,207, offset by a decrease in proceeds from the sale of common stock of $58,500.
Contractual Obligations and Off-Balance Sheet Arrangements
We have certain fixed contractual obligations and commitments. The table below summarizes our contractual obligations as of December 31, 2009 and for the future periods identified. The development of our franchise program, changes in our business needs and other factors may result in our incurring significant future obligations which would impact our cash and liquidity position and requirements. We cannot provide certainty regarding the timing and amounts of payments.
(1)
Capital Leases - Represents amounts due under purchase contracts for vehicles and equipment with interest rates varying from 4.9% to 6.9%.
(2)
Operating Leases - Represents non-cancellable leases for real property that expire in March 2011 (Santa Anna location) and March 2012 (Redondo Beach location).
(3)
TVFC has available to it a $100,000 line of credit. Borrowings under the line of credit totaled approximately $81,000 as of March 31, 2010. The interest rate is prime plus 3 percentage points (6.25% at December 31, 2009).
Off-Balance-Sheet Arrangements
We are not party to any off-balance sheet arrangements.
Capital Requirements
Over the next twelve months, we will commence building a franchise program. As described below, we expect that the net cost to us to implement the first two phases of our franchise program, including the fees of our franchise consultant and franchise license fees and costs for registration of our franchise program in the State of California, will not exceed an additional $50,000, as more fully described below. Once we receive approval from California to offer franchises, we expect to retain two or three additional employees to manage our franchise operations and we expect to require additional capital for such purpose.
In June 2009, we engaged a franchise consultant to assist with the development of the franchise program. We cannot estimate the costs associated with its deployment on a national basis. We are advised by our franchise consultant that the costs to develop and implement the program and maintain the organization are highly variable and are a function of numerous factors, such as the number of jurisdictions in which franchisees are located and the specific jurisdictions selected (which will bear on franchise registration fees to be paid); the geographical location of our franchises (close in proximity to each other or widely separated - which will bear on advertising and other costs); the extent of the advertising efforts we may employ and the additional infrastructure we may require to manage the organization.
We expect to implement our franchise program in phases. Our initial step encompasses the preparation, with the assistance and guidance of our franchise consultant, of the preponderance of the documentation required to develop and implement the program. This includes documents mandated by the government and internal organizational documentation. We have substantially completed the preparation of these documents. Thereafter, we will register to sell franchises in the State of California and expect to submit our application during the second quarter of 2010. We anticipate that we will expend an additional $5,000 on finalizing the documentation of our franchise program and submitting our franchise registration application to California. We expect to be in a position to offer franchises in California in the second half of 2010.
Initially, it is our intent to sell franchises in relatively close proximity to our principal offices in Orange County, California. We believe that we can more competently and efficiently manage, support and oversee the development of franchises closer to our home office. We expect that the success of our efforts in California will influence directly our decision as to when to commence offering franchises in other jurisdictions. Success will be measured not only by the number of franchises we sell and their performance but also by our ability to manage our operations and provide the level of support necessary to ensure the success of our franchisees.
As we have advanced through the process of establishing the parameters of our franchise program and have become more familiar with franchising generally, we have gained a sense of our internal requirements and the capital we will be required to allocate to the program once we begin to offer and sell franchises. For example, we believe that it will be necessary to add personnel to manage the administrative and accounting components of the program. Toward this end, we anticipate that we will hire two or three additional internal personnel in 2010 to manage the process and we will allocate capital to engage such personnel. Consideration as to future staffing requirements will be dictated by the growth and requirements of the program. We may seek to outsource facets of the development and operation of the franchise program to avoid the burdens of enlarging our infrastructure and to take advantage of the expertise of industry professionals. We may engage consultants to assist with franchise organizational matters, such as legal counsel to assist with preparation of franchise registration applications, and professionals who engage in franchisee recruitment, to whom we may pay finders' fees, and advertising.
Once a franchise program has been developed, we expect to allocate significant cash resources to advertising, both to recruit franchisees and to fund advertising on behalf of our franchisees, marketing staff, accounting staff and general and administrative expenses, as well as the costs and expenses of any outsourced operations. We cannot currently estimate the costs associated with these elements of the program, as they may vary significantly. However, we do not believe that the extent of the additional personnel or other infrastructure and other services we may require will necessarily correspond to the scale of the program so that there will not substantial additional expenses incurred as we enroll franchisees or enter into new jurisdictions. Future costs will be contingent on the performance of the program, the speed with which we determine to expand into additional jurisdictions into which we will offer franchises and the size of the organization.
It is our intention to fund the above described first phases of our franchise organization internally from capital generated from operating revenue from our existing retail locations and our line of credit (of which approximately $19,000 is available for use at April 5, 2010). We will seek to develop a program and organization within the constraints of our cash resources and take a conservative approach, growing as conditions, return on investment and available capital, among other factors, warrant. In the event that we have underestimated the costs associated with the development of our franchise program, that we encounter unanticipated costs, delays or difficulties, or that the recession deepens or extends significantly longer than economists anticipate, we may be required to seek external funding. As of December 31, 2009, we have incurred costs and expenses in connection with the development of our franchise program of approximately $37,000 and expect that we will expend no more than an additional $50,000 through the first two quarters of 2010. Thereafter, we will allocate capital as the program requires and as economic conditions improve and our sales and income recover.
In the event we require capital for any purpose, we may seek to secure third-party financing. The nature of the financing, debt or equity will be dependent upon current market conditions and availability. We cannot be certain that such capital will be available to us on favorable or acceptable terms, or at all.
Outlook
Demand for our products can be linked to changes in the health of the economy in general and the level of activity in home improvements and remodeling. These activity levels, in turn, are affected by housing turnover (sales of existing home and new housing starts) and such factors as consumer confidence, home equity values, home equity loan withdrawals, consumer spending habits, reasonably attainable consumer credit, income, interest rates and inflation. These factors have been in poor positions over the last eighteen (or more) months and indications are that they will remain that way in the near-term. For example, existing home sales were relatively flat in 2009 and during the first two months of 2010, while new housing starts during 2009 were the worst since World War II. We believe that these factors have resulted in decreased home improvement and remodeling spending, which caused our sales and results of operations to decline during 2009. We continue to manage our business on the basis that there will not be any significant improvements in market conditions during the foreseeable future.
While we expect that current business conditions will persist for the remainder of 2010, we continue to believe that our business model is fundamentally sound. We believe that the range of quality products we offer combined with our marketing approach will continue to attract customers and that we can return quickly to pre-recession sales levels at our retail location as the economy rebounds and that we will see growth in total sales and revenues as our new retail location ramps up marketing and sales efforts. We think that these key elements of our business will be attractive factors to franchisees and leads us to believe that our growth strategy, predicated on launching a national franchise program in 2010, will fill a niche that can generate significant growth over the longer term.
We continue to believe that the franchise model represents a promising prospect for significant growth of our Company. We believe that franchising has become an attractive option for baby boomers who desire to remain active after retirement or who have been squeezed out of current positions by mergers, downsizing and the declining economy. In fact, we believe that many of these people will make the best franchise owners given their business experience. We believe that the franchise industry will continue to grow both because more baby boomers are reaching retirement age every year and these people frequently have accumulated the savings required to launch an entrepreneurial business. However, we believe that the performance of our franchise program may depend, in part, on the availability of credit to prospective franchisees. Most franchises are acquired by franchisees utilizing a combination of personal investment and third-party financing. In light of current adverse economic conditions marked by tight credit, prospective franchisees may have difficulty obtaining the financing required to purchase a franchise from us. If credit is not available to these prospects, franchise sales may be sluggish or we may not sell any franchises, which would adversely affect our results of operations and liquidity and impact our ability to expand the franchise program into additional jurisdictions.
Until the advent of more promising economic conditions, we will take a conservative approach to our business generally and to the development of our franchise program specifically. We will be deliberate in the development of our franchise organization, to avoid over-extending our financial resources, and we will carefully plan when and how we penetrate new territories. We are hoping that the credit crisis will have abated to some degree by the time we are prepared to launch our franchise program in 2010 and that credit will be more readily available from private sources and from the government sector, such as through the Small Business Investment Company (SBIC), or that the Small Business Administration will be in a position to guarantee more loans to entrepreneurs, which would facilitate the acquisition of loans by our prospects.
Quantitative and Qualitative Disclosures About Market Risk
We do not use derivative financial instruments in our investment portfolio and have no foreign exchange contracts. Our financial instruments consist of cash and cash equivalents, trade accounts receivable and accounts payable.
Effects of Inflation
We do not believe that our sales or operating results have been materially impacted by inflation during the periods presented in our financial statements. There can be no assurance, however, that our sales or operating results will not be impacted by inflation in the future.
Recent Accounting Pronouncements
We refer readers to Note A titled "Summary of Significant Accounting Policies - Recently Adopted and Recently Enacted Accounting Pronouncements " appearing on page F- 12 of the audited financial statements included with this Annual Report for a discussion of the recently adopted accounting pronouncements affecting our Company.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The information to be furnished under this Item 7A is not required of small reporting issuers.
Item 8.
Item 8. Financial Statements and Supplementary Data.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and
Stockholders of Vinyl Products, Inc. (f/k/a Red Oak Concepts, Inc.):
We have audited the accompanying consolidated balance sheet of Vinyl Products, Inc. (the “Company”) as of December 31, 2009 and the related consolidated statements of operations, stockholders' equity and cash flows for the twelve month period then ended. The financial statements for the year ended December 31, 2008 were audited by other auditors whose report expressed an unqualified opinion on those statements. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Vinyl Products, Inc. as of December 31, 2009 and the results of its operations and cash flows for the period described above in conformity with accounting principles generally accepted in the United States of America.
/s/ M&K CPAS, PLLC
www.mkacpas.com
Houston, Texas
April 9,
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and
Stockholders of Vinyl Products, Inc. (f/k/a Red Oak Concepts, Inc.):
We have audited the accompanying consolidated balance sheets of Vinyl Products, Inc. (f/k/a Red Oak Concepts, Inc.) as of December 31, 2008, and the related statements of operations, shareholders’ equity, income, and cash flows for the year then ended. Vinyl Products, Inc.’s management is responsible for these financial statements. My responsibility is to express an opinion on these financial statements based on my audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Vinyl Products, Inc. (f/k/a Red Oak Concepts, Inc.) as of December 31, 2008, and the results of its operations and its cash flows for the year then in conformity with accounting principles generally accepted in the United States of America.
As discussed in Note K to the financial statements, the Company has restated its financial statements as of and for the year ended December 31, 2008 to correct errors in its accounting for stock options granted to employees.
VINYL PRODUCTS, INC. (f/k/a RED OAK CONCEPTS, INC.)
Consolidated Balance Sheets
December 31, 2009 and 2008 (Restated - Note K)
The accompanying notes are an integral part of these financial statements.
VINYL PRODUCTS, INC. (f/k/a RED OAK CONCEPTS, INC.)
Consolidated Statements of Operations
For the Years Ended December 31, 2009 and 2008 (Restated - Note K)
The accompanying notes are an integral part of these financial statements.
VINYL PRODUCTS, INC. (f/k/a RED OAK CONCEPTS, INC.)
Consolidated Statements of Shareholders' Equity
For the Years Ended December 31, 2009 and 2008 (Restated - Note K)
The accompanying notes are an integral part of these financial statements.
VINYL PRODUCTS, INC. (f/k/a RED OAK CONCEPTS, INC.)
Consolidated Statements of Cash Flows
For the Years Ended December 31, 2009 and 2008 (Restated - Note K)
The accompanying notes are an integral part of these financial statements.
VINYL PRODUCTS, INC. (f/k/a RED OAK CONCEPTS, INC.)
Notes to Consolidated Financial Statements
For the Years Ended December 31, 2009 and 2008 (Restated - Note K)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization - Vinyl Products, Inc. (“the Company”) was incorporated in the State of Delaware on May 24, 2007, under the name Red Oak Concepts, Inc. to serve as a vehicle for a business combination through a merger, capital stock exchange, asset acquisition or other similar business combination. The Company filed a registration statement on Form 10 under the Securities Exchange Act of 1934, as amended, to register its class of common stock on September 15, 2007, that was effective as of November 14, 2007. On December 4, 2007, the Company changed its jurisdiction of domicile by merging with a Nevada corporation titled Red Oak Concepts, Inc. On November 21, 2008, the Company changed its name to Vinyl Products, Inc. in connection with a reverse acquisition transaction with The Vinyl Fence Company, Inc. (“TVFC”), a California corporation.
On November 20, 2008, the Company entered into a Share Exchange Agreement (the “Exchange Agreement”) with TVFC. Pursuant to the terms of the Exchange Agreement, the Company acquired all of the outstanding capital stock of TVFC from the TVFC shareholders in exchange for 22,100,000 shares of the Company’s common stock. Because the acquisition was treated as a reverse acquisition, the financial statements of the Company have been retroactively adjusted to reflect the acquisition from the beginning of the reported periods. The stock exchange transaction has been accounted as a reverse acquisition and recapitalization of the Company whereby TVFC is deemed to be the accounting acquirer (legal acquiree) and the Company to be the accounting acquiree (legal acquirer). The basis of the assets, liabilities and retained earnings of TVFC has been carried over in the recapitalization, and earnings per share have been retroactively restated to reflect the reverse acquisition.
Pursuant to the Exchange Agreement, on November 21, 2008, the Company filed a Certificate of Amendment to its Articles of Incorporation with the Secretary of State for the State of Nevada to change its corporate name to “Vinyl Products, Inc.” to better reflect its business.
Business Activity
Vinyl Products, Inc. designs, fabricates and installs fencing, patio covers, gates, decking and railings made of co-extruded vinyl from its location in Santa Ana, California. The Company operates in one reportable segment, the domestic vinyl products industry.
Basis of Presentation and Principles of Consolidation
The Company maintains its accounting records on an accrual basis in accordance with generally accepted accounting principles in the United States of America ("U.S. GAAP").
The consolidated financial statements include the accounts of all controlled subsidiaries. All significant intercompany balances and transactions have been eliminated.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. The Company did not have any cash equivalents at December 31, 2009 and 2008.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.
Stock Based Compensation
The Company accounts for stock-based employee compensation arrangements using the fair value method in accordance with the accounting provisions relating to share-based payments (“Codification Topic 718”). The company accounts for the stock options issued to non-employees in accordance with these provisions. Stock options are valued using a Black-Scholes options pricing model which requires estimates such as expected term, discount rate and stock volatility.
Revenue Recognition
Customer deposits are recorded as a current liability when received. Under California law, the customer has three days in which to cancel a contract. Revenues are recognized when the installations of the products are complete. The related cost of goods sold includes materials, installation labor, and miscellaneous other costs. Revenue is always deferred until the price is fixed, our obligation to perform has been relieved and collectability is reasonably assured.
Advertising and Marketing Expense
The Company expenses all advertising and marketing costs as incurred.
Fair Value of Financial Instruments
In the first quarter of fiscal year 2009, the Company adopted Accounting Standards Codification subtopic 820-10, Fair Value Measurements and Disclosures ("ASC 820-10"). ASC 820-10 defines fair value, establishes a framework for measuring fair value and enhances fair value measurement disclosure. ASC 820-10 delays, until the first quarter of fiscal year 2009, the effective date for ASC 820-10 for all non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). The adoption of ASC 820-10 did not have a material impact on the Company's consolidated financial position or operations, but does require that the Company disclose assets and liabilities that are recognized and measured at fair value on a non-recurring basis, presented in a three-tier fair value hierarchy, as follows:
•
Level 1. Observable inputs such as quoted prices in active markets;
•
Level 2. Inputs, other than the quoted prices in active markets, that are observable either directly or indirectly; and
•
Level 3. Unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.
Accounts Receivable
The Company sells to individual homeowners and homeowner associations. The Company provides an allowance for doubtful accounts receivable equal to the estimated uncollectible amounts. That estimate is based on historical collection experience, current economic and market conditions and a review of the current status of each customer's trade accounts receivable. The allowance for doubtful accounts receivable was $9,946 and $0 at December 31, 2009 and 2008, respectively.
Inventory
Inventory is stated at the lower of average cost or market value. Inventory consists of raw materials and fabricated materials awaiting installation. Inventory is periodically reviewed to determine if it is marketable, obsolete or impaired. Inventory that is determined to not be marketable is written down to market value. Inventory that is determined to be obsolete or impaired is written off to expense at the time the impairment is identified.
Income Taxes
The Company accounts for income taxes using the asset and liability method, which requires the establishment of deferred tax assets and liabilities for the temporary differences between the financial reporting basis and the tax basis of the Company’s assets and liabilities at enacted tax rates expected to be in effect when such amounts are realized or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided to the extent deferred tax assets may not be recoverable after consideration of the future reversal of deferred tax liabilities, tax planning strategies, and projected future taxable income.
Restatements
The 2008 financial results have been restated. See Note K for details.
Impairment of Long-Lived Assets
Using the guidance of the Accounting Standards Codification, the Company reviews the carrying value of property and equipment for impairment whenever events and circumstances indicate that the carrying value of an asset may not be recoverable from the estimated future cash flows expected to result from its use and eventual disposition. In cases where undiscounted expected future cash flows are less than the carrying value, an impairment loss is recognized equal to an amount by which the carrying value exceeds the fair value of assets. The factors considered by management in performing this assessment include current operating results, trends and prospects, the manner in which the property is used, and the effects of obsolescence, demand, competition and other economic factors.
Property and Equipment
Property, plant and equipment are stated at cost less accumulated depreciation. The cost of property, plant and equipment is depreciated using the straight-line method over the estimated useful life of the asset. Long-lived assets are reviewed for impairment whenever in management's judgment conditions indicate a possible loss. Such impairment tests compare estimated undiscounted cash flows to the recorded value of the asset. If impairment is indicated, the asset is written down to its fair value or, if fair value is not readily determinable, to an estimated fair value based on discounted cash flows. Fully depreciated assets are retained in property, plant and equipment and accumulated depreciation accounts until they are removed from service. In case of disposals of assets, the assets and related accumulated depreciation are removed from the accounts, and the net amounts after proceeds from disposal are credited or charged to income.
Depreciation and amortization are computed using the straight-line method over the following estimated useful lives:
Vehicles
2 - 7 years
Furniture and Fixtures
7 - 15 years
Leasehold Improvements
4 - 8 years
Machinery and Equipment
5 - 15 years
Office and Computer Equipment
3 - 7 years
Signs
years
Property and equipment are carried at cost and consisted of the following at December 31, 2009 and 2008:
Recently Adopted and Recently Enacted Accounting Pronouncements:
In April 2008, the FASB issued ASC 350-10, "Determination of the Useful Life of Intangible Assets." ASC 350-10 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under ASC 350-10, "Goodwill and Other Intangible Assets." ASC No. 350-10 is effective for fiscal years beginning after December 15, 2008. The adoption of this ASC did not have a material impact on our consolidated financial statements.
In April 2009, the FASB issued ASC 805-10, "Accounting for Assets Acquired and Liabilities assumed in a Business Combination That Arise from Contingencies-an amendment of FASB Statement No. 141 (Revised December 2007), Business Combinations". ASC 805-10 addresses application issues raised by preparers, auditors and members of the legal profession on initial recognition and measurement, subsequent measurement and accounting and disclosure of assets and liabilities arising from contingencies in a business combination. ASC 805-10 is effective for assets or liabilities arising from contingencies in business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. ASC 805-10 will have an impact on our accounting for any future acquisitions and its consolidated financial statements.
In May 2009, the FASB issued ASC Topic 855, Subsequent Events. ASC Topic 855 established principles and requirements for evaluating and reporting subsequent events and distinguishes which subsequent events should be recognized in the financial statements versus which subsequent events should be disclosed in the financial statements. ASC Topic 855 also requires disclosure of the date through which subsequent events are evaluated by management. ASC Topic 855 was effective for interim periods ending after June 15, 2009 and applies prospectively. Because ASC Topic 855 impacts the disclosure requirements, and not the accounting treatment for subsequent events, the adoption of ASC Topic 855 did not impact our consolidated results of operations or financial condition. See Note K for disclosures regarding our subsequent events.
Effective July 1, 2009, we adopted the Financial Accounting Standards Board ("FASB") Accounting Standards Codification ("ASC") 105-10, Generally Accepted Accounting Principles-Overall ("ASC 105-10"). ASC 105-10 establishes the FASB Accounting Standards Codification (the "Codification") as the source of authoritative accounting principles recognized by the FASB to be applied by nongovernmental entities in the preparation of financial statements in conformity with U.S. GAAP. Rules and interpretive releases of the SEC under authority of federal securities laws are also sources of authoritative U.S. GAAP for SEC registrants. All guidance contained in the Codification carries an equal level of authority. The Codification superseded all existing non-SEC accounting and reporting standards. All other non-grandfathered, non-SEC accounting literature not included in the Codification is non-authoritative. The FASB will not issue new standards in the form of Statements, FASB Staff Positions or Emerging Issues Task Force Abstracts. Instead, it will issue Accounting Standards Updates ("ASUs"). The FASB will not consider ASUs as authoritative in their own right. ASUs will serve only to update the Codification, provide background information about the guidance and provide the bases for conclusions on the change(s) in the Codification. References made to FASB guidance throughout these consolidated financials have been updated for the Codification.
In August 2009, the FASB issued ASU No. 2009-05, Measuring Liabilities at Fair Value, which provides additional guidance on how companies should measure liabilities at fair value under ASC 820. The ASU clarifies that the quoted price for an identical liability should be used. However, if such information is not available, an entity may use the quoted price of an identical liability when traded as an asset, quoted prices for similar liabilities or similar liabilities traded as assets, or another valuation technique (such as the market or income approach). The ASU also indicates that the fair value of a liability is not adjusted to reflect the impact of contractual restrictions that prevent its transfer and indicates circumstances in which quoted prices for an identical liability or quoted price for an identical liability traded as an asset may be considered level 1 fair value measurements. This ASU is effective October 1, 2009. We are currently evaluating the impact of this standard, but would not expect it to have a material impact on our consolidated results of operations or financial condition.
NOTE B - COMMITMENTS/LEASES
The Company leases its 10,000 square foot facility under a non-cancellable lease arrangement that expires on March 31, 2011, with an option to renew for an additional two-year period. The lease is guaranteed by one of the Company’s shareholders. Future minimum payments under the current operating lease are as follows:
The Company also leases a 1,000 square foot sales office under a non-cancellable lease arrangement that expires on March 31, 2012, with options to renew for three additional one-year periods. Future minimum payments under these operating leases are as follows:
The Company has an available $100,000 line of credit with no stated maturity which it opened in January 2006. The interest rate is prime plus 3 percentage points, which rate was 6.25% at December 31, 2009. In 2009, the Company drew down $52,000 under its line of credit; the balance owed as of December 31, 2009 was $22,207. The line of credit is guaranteed by the President and Vice President.
NOTE C - LONG-TERM DEBT OBLIGATIONS
The Company acquired four vehicles under installment sales contracts with interest rates varying from 4.9% to 6.9%. Future principal payments under these agreements are as follows:
NOTE D - INCOME TAXES
Prior to 2008, the Company had elected to be taxed as a Subchapter S corporation, and as such the net income of the Company was passed through to the Company’s two shareholders. The Company is now a Subchapter C corporation and is subject to Federal and State income taxes.
The Company accounts for income taxes and the related accounts under the liability method. Deferred tax liabilities and assets are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted rate expected to be in effect during the year in which the basis differences reverse.
The provision for income taxes is comprised of the following:
Deferred income tax assets and liabilities consist of the following:
The Company estimates that it has an NOL carryfoward of approximately $120,000 that expires in 2029.
The NOL formerly associated with Red Oaks Concepts, Inc. was lost due to the change in control as a result of the reverse merger in 2008.
After evaluating any potential tax consequence from the former shell company and our own potential tax uncertainties, the Company has determined that there are no material uncertain tax positions that have a greater than 50% likelihood of reversal if the Company were to be audited. Our tax return for the year ended December 31, 2008 may be subject to IRS audit; prior to 2008 we filed S corporation tax returns taxed at the shareholder level.
NOTE E - Basic and Diluted Net Loss Per Common Share
Basic and diluted net loss per share calculations are calculated on the basis of the weighted average number of common shares outstanding during the periods presented. The per share amounts include the dilutive effect of common stock equivalents in years with net income. Basic and diluted loss per share is the same due to the anti dilutive nature of potential common stock equivalents.
2009 and 2008 information is not presented as the effect of all potential common stock equivalents would be anti-dilutive.
NOTE F - EMPLOYEE STOCK OPTION PLAN
On September 24, 2008, the Company granted stock options to employees to purchase 133,800 shares of common stock at $.50 a share, with immediate vesting. Four employees subsequently left the Company and their options for 5,400 shares were terminated. As of December 31, 2009, options to purchase 5,200 shares had been exercised, and options to purchase 123,200 remained unexercised. The options expire on September 23, 2010. The Company valued these options using a Black-Scholes valuation model with an estimated volatility of 39%, discount rate of 1.69% and an expected term of less than one year. The value of these grants was estimated to be approximately $67,000. The options were originally only disclosed with no compensation expense being recorded, see Note K - Restatement for a correction of this error.
NOTE G - THEFT LOSS
In connection with the preparation of unaudited financial statements for the quarter ended September 30, 2008, management of TVFC became aware of accounting irregularities that resulted in being unable to account for approximately $200,000 of inventory that TVFC had purchased that was not the subject of corresponding sales orders. During the course of TVFC's preliminary investigation of the matter, management discovered that certain employees were committing fraud against the company by stealing inventory and reselling it pursuant to fraudulent sales orders that were never submitted to the company. These employees were retaining the sale price of the inventory and, in some cases, using company employees to fabricate and install the products on company time using company vehicles.
During the last quarter of 2008, management believed that it had identified most if not all of the perpetrators of the fraud, and some of the instances in which inventory was stolen and the jobs to which the inventory was allocated. The fraud extended not only to the loss of the inventory and man hours for the labor associated with the jobs at which the inventory was applied, but also some degree of lost income that TVFC might have recognized if it had completed the jobs. However, since the sales prices for these fraudulent jobs were substantially below TVFC’s normal sales prices, management believes that it would not have been able to obtain many of these fraudulent sales as company sales.
Management has taken what it believes to be appropriate action to address the material weaknesses in internal control over financial reporting, including terminating three employees, making other personnel changes, and implementing improved physical and documentary controls and procedures. However, management does not expect that its disclosure controls and procedures or internal control over financial reporting will prevent all errors or all instances of fraud in the future. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Inherent limitations in all control systems include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple errors or mistakes. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and any design may not succeed in achieving its stated goals under all potential future conditions.
On December 5, 2008, one of the terminated employees referred to above filed a complaint in Superior Court against the company and its principals, seeking compensatory damages, attorneys' fees, punitive damages and equitable relief. In 2009, the Company paid its $12,500 share of the insurance deductible. In March 2010, the case was settled in arbitration, with no further liability for the Company.
NOTE H - SHAREHOLDERS’ EQUITY
Common Shares
The Company is authorized to issue 100,000,000 shares of $.0001 par value common stock, and had 22,864,200 shares outstanding at December 31, 2009 and 22,859,000 shares outstanding at December 31, 2008.
During 2008:
·
The Company issued options to employee to purchase 133,800 shares of common stock. These were valued at $67,000. See Note K - Restatement.
·
The Company issued 59,000 shares to accredited investors at a price of $1.00 per share.
·
Two of the shareholders of Red Oak Concepts, Inc. (see Note A) contributed to the capital of the Company all amounts of principal and interest due to them under promissory note totaling $29,900.
·
Prior to the reverse merger (see Note A), the Company paid dividends of $330,000 to the two founders of The Vinyl Fence Company, Inc.
During 2009, the Company employees exercised options for 5,200 shares for cash in the amount of $2,600 ($.50 per share).
Preferred Shares
The Company is authorized to issue 10,000,000 shares of $.0001 par value preferred stock. The Company has never issued any shares of preferred stock.
NOTE I - CONTINGENCIES
Lawsuits occur in the normal course of business, but the Company is not aware of any pending litigation at this time.
NOTE J - SUBSEQUENT EVENT
We have evaluated subsequent events through April 9, 2010; no events have occurred through this period that requires disclosure.
NOTE K - RESTATEMENT
The Company has restated its annual financial statements from amounts previously reported for periods ended December 31, 2008. The Company has determined that there were certain errors in the amounts as reported previously.
In 2008, the Company issued options to employees to purchase 133,800 shares of common stock (see Note F). These options should have been valued at $67,000 and reflected in the 2008 financial statements. Accordingly, the 2008 financial statements have been restated to reflect the correction of this error.
The following line items in the 2008 financial statements were affected:
Legend:
A - Amounts adjusted due to options issued in 2008 that were not expensed.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
Effective December 22, 2009, the client-auditor relationship between Vinyl Products, Inc. (the "Company") and Traci J. Anderson, CPA ("TJA") was terminated upon the dismissal of TJA as the Company’s independent registered accounting firm. Effective December 22, 2009, the Company engaged M&K CPAS, PLLC ("M&K") as its principal independent public accountant to audit the Company's financial statements for the year ending December 31, 2009. The decision to change accountants was recommended and approved by the Company's Board of Directors effective December 22, 2009.
There are not and have not been any disagreements between the Company and our independent accountants on any matter of accounting principles, practices or financial statement disclosure since our inception.
Item 9A.
Item 9A. Controls and Procedures.
We maintain disclosure controls and procedures that are designed to ensure that information we are required to disclose in the reports we file under the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to management, including our President (PEO) and Chief Financial Officer (PFO), as appropriate, to allow timely decisions regarding required disclosure.
Our management also is responsible for establishing and maintaining internal control over financial reporting which is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of our financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting includes policies and procedures that (i) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of our financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and (iii) provide reasonable assurance regarding the prevention or timely detection of the unauthorized acquisition, use or disposition of our assets that could have a material effect on our financial statements.
Our management does not expect that our disclosure controls and procedures or internal control over financial reporting will be effective in all instances. There are inherent limitations in all control systems that reflect both resource constraints and the human factor as it relates to the application of a control system, including the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple errors or mistakes. Controls also can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events and any design may not succeed in achieving its stated goals under all potential future conditions.
Evaluation of Disclosure Controls and Procedures
As of December 31, 2009, the Company’s management carried out an evaluation, under the supervision and with the participation of the Company’s Chief Executive Officer (principal executive officer, or PEO) and Chief Financial Officer (principal financial officer, or PFO), of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rules 13a-15 and 15d-15 under the Exchange Act), pursuant to Exchange Act Rule 13a-15. As a result of the material weaknesses we identified in our internal control over financial reporting described below, our PEO and PFO concluded that the Company's disclosure controls and procedures were not effective as of December 31, 2009.
Identification of Material Weaknesses in Controls and Procedures
In view of the two restatements and the reclassification of our financial statements for the 2008 year, as described under the heading Management's Discussion and Analysis of Financial Condition and Results of Operations - Restatement and Reclassification of Historical Consolidated Financial Statements, and in connection with the evaluation of our controls and procedures for the 2009 period, we have determined that we have numerous material weaknesses in our controls and procedures, as more fully described below.
A material weakness in internal control over financial reporting is defined in Section 210.1-02(4) of Regulation S-X as a deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the annual or interim financial statements will not be prevented or detected on a timely. A significant deficiency is a deficiency, or a combination of deficiencies, in internal control over financial reporting that is less severe than a material weakness, yet important enough to merit attention by those responsible for oversight of the Company's financial reporting.
Prior to our acquisition of The Vinyl Fence Company, Inc. ("TVFC") in November 2008, we were a "shell" company that had no operations and TVFC had operated its business as a private company. Accordingly, we were not subject to the rigorous rules and regulations relating to controls and procedures under the Sarbanes Oxley Act of 2002 or the Exchange Act.
A.
Failure to Institute Procedures to Accurately Compute Taxes; Reliance on Third-Party Professionals
In October 2009, we determined that we underreported our federal and state corporate income tax liability for the year ended December 31, 2008 by $30,000, an amount material to our financial statements. As a result of identifying the error, we concluded that accounting adjustments were necessary to correct previously issued financial statements and that the reports we filed with the SEC that included the financial statements that reported the erroneous information should no longer be relied upon. Accordingly, we restated the effected financial statements.
We determined that our failure to accurately compute our federal and state corporate income tax liability for the year ended December 31, 2008 was a result of the following weaknesses in our internal control over financial reporting:
·
Inadequate Expertise in the application of Federal and State Tax Laws as they Impact Financial Reporting: Our internal accounting personnel did not possess sufficient expertise in the application of federal and state tax laws as they apply to consolidation of an acquired business with a different fiscal year end.
·
Reliance on Third Party Professionals: We retained a certified public accountant to prepare our tax returns for the year ended December 31, 2008. We may not have adequately assessed this person's qualifications to ascertain his level of experience to render the services for which we retained him. Moreover, we did not adequately monitor this person's work and placed undue reliance on his expertise without confirming the accuracy of the finished product.
B. Failure to Record Compensation Expense Upon Grant of Options
In April 2010, in connection with auditing our financial statements for the 2009 fiscal year, our new independent accountant advised us that we had failed to recognize a compensation expense equal to the value of stock options we granted to employees in September 2008, as required by Financial Accounting Standard 123R ("FAS 123R"). The error had the effect of overstating income and understating paid-in capital by $67,000 (the fair value of the options calculated using the Black-Scholes option pricing model) for the 2008 period. As a result of identifying the error, we concluded that accounting adjustments were necessary to correct the previously issued financial statements for the 2008 year and that the financial statements for that period should no longer be relied upon. We have restated our financial statements for the 2008 period included with this Annual Report.
We determined that our failure to recognize a compensation expense equal to the value of stock options we granted to employees demonstrated the following weaknesses in our internal control over financial reporting:
·
Accounting and Finance Personnel Weaknesses - The Company lacks appropriate resources within the accounting function. Our accounting staff comprises two people and lacks the required infrastructure and expertise to meet the higher demands of being a public company. The Company lacks appropriate resources within the accounting function. This lack of resources has led to a lack of segregation of duties and insufficient attention to the internal control process over financial reporting.
·
Lack of an Audit Committee - We do not have an audit committee, resulting in ineffective oversight in establishing and monitoring of required financial reporting internal control procedures.
·
Reliance on Third-Party Professionals: We retained an auditing firm to audit our 2008 financial statements. We may not have adequately assessed this firm's qualifications to ascertain its level of experience to render the services for which we retained the firm. Moreover, we did not adequately monitor the firm's work and placed undue reliance on its expertise without confirming the accuracy of the finished product.
Remediation Plan for Material Weakness in Internal Control over Financial Reporting
In light of the foregoing, we have introduced and plan to implement a number of remediation measures to address the material weaknesses described above. Many of these measures are entity level in nature and we believe that the organizational and process changes we intend to adopt will improve our internal controls and governance environment. Management recognizes that many of these enhancements require continual monitoring and evaluation for effectiveness. The development of these actions is an iterative process and will evolve as the Company continues to evaluate and improve our internal controls over financial reporting. Initially, we may be foreclosed from implementing some of the more obvious measures, such as retaining additional accounting personnel who have particular areas of expertise, given our resource constraints. However, as we grow, we expect to adopt and implement those measures and to retain additional qualified personnel as management deems necessary to satisfy our control and governance requirements.
Specifically, we have:
·
Retained a new accounting firm to prepare the Company's tax reports and filings that has considerably more expertise and resources than our previous tax preparer.
·
Engaged a new independent accounting firm to audit our financial statements that is larger and has more greater resources at its disposal than our prior independent accountant.
Over the balance of the 2010 year, we will undertake an entity-level review of and test our control procedures and analyze the application of our controls and our control environment generally. In addition, we plan to establish an audit committee that we expect to seat prior to the end of the 2010 calendar year that will include a member who qualifies as an "audit committee financial expert," as such term is defined in Item 407(d)(5) of Regulation S-K. We expect that the audit committee will set a tone for effective entity-wide corporate governance; inspire rigorous, uniform application of our internal controls and provide ongoing oversight of the preparation and review of our financial statements. We expect that the audit committee will review and propose improvements to our entity level controls and procedures and other process level controls. We believe that the audit committee and our new financial professionals will substantially decrease the possibility of the occurrence of errors in our financial statements.
Management will review progress on these activities on a consistent and ongoing basis at the senior management level in conjunction with our Board of Directors. We also plan to take additional steps to elevate Company awareness about, and communication of, these important issues through formal channels such as Company meetings and training.
We cannot assure you at this time that the actions and remediation efforts we have taken or ultimately will implement will effectively remediate the material weakness described above or prevent the incidence of other significant deficiencies or material weaknesses in our internal control over financial reporting in the future
Management’s Report on Internal Control over Financial Reporting
As of the end of the period covered by this Annual Report, management conducted an evaluation of the effectiveness of our internal control over financial reporting using the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control-Integrated Framework. In view of the material weaknesses in the Company's internal control over financial reporting that existed as of December 31, 2009, management has concluded that the Company's internal control over financial reporting was not effective as of said date.
This Annual Report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the Company to provide only management’s report in this Annual Report.
Changes in Internal Controls
We believe that the material weaknesses we identified with respect to our disclosure controls and procedures also represented weaknesses in our internal control over financial reporting. During the three months ended December 31, 2009, we made changes to our internal control over financial reporting (as defined in Rules 13a-15 and 15d-15 under the Exchange Act) that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Item 9B.
Item 9B. Other Information.
None.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance.
The table sets forth information as of the date of this Annual Report with respect to our management:
Name
Age
Position
Gordon Knott
President and Director
Garabed Khatchoyan
Secretary and Director
Douglas Wells
Chief Financial Officer
The Company's directors are elected to hold office until the next annual meeting of stockholders and until their respective successors have been elected and qualified. The Company's officers serve at the pleasure of the board of directors.
Set forth below is biographical information concerning our directors and executive officers for at least the past five years.
Gordon Knott has served as a member of our board of directors and our president since our inception. Mr. Knott has in excess of twenty years of sales and sales management experience in the telecommunications industry servicing large national accounts. From 2000 to 2003 he was a senior account manager for CopperCom, Inc., a leading manufacturer and designer of a full suite of telecommunications products for the access network. As a national account representative, he was responsible for, among other things, sales of a broad line of products in California and Hawaii, capturing a significant opportunity with a wide range of hotels in Anaheim to provide all voice, Internet and video. From 1994 to 2000, he served as a national account manager for Convergent Communications / TIE Comm. Inc., a provider of data and telephone networking systems located in Irvine, California where he was responsible for sales in the company's western region and establishing new national accounts, among other things
Garabed (Gary) Khatchoyan served as a member of our board of directors and our corporate secretary since our inception. Gary has over 20 years experience in sales, business management and production management in the vinyl fence industry and can handle virtually any issue that arises in our business. From 1996 to 2002, he was associated with Quality Vinyl Products, a licensed fence contractor located in North Hollywood, California, where he was responsible for sales and marketing and training of fabrication and sales staff. Prior thereto has served in a variety of sales and marketing positions in Southern California.
Douglas Wells has served as the Chief Financial Officer of the Company since September 1, 2008. Since 2007, he has been the president and sole shareholder of CFO Services, Inc., a consulting firm that provides business advice and CFO-type services to several companies. From 2004 to August 2008, he was employed by Avitus Group, a professional employer organization, and provided CFO-type services to small business companies, including our Company. From 2001 to 2004, he was chief financial officer of Vital Imaging, Inc., which had eight medical imaging centers in the western U.S. From 1999 to 2001, he served as the chief financial officer of Care Network, Inc., a managed care company that provided workers compensation medical management services to other businesses. Prior to 1999, he served in various executive capacities with a number of companies. Mr. Wells was an audit partner with Arthur Andersen where he was in charge of its healthcare practice in Southern California. Mr. Wells is a Certified Public Accountant. Mr. Wells does not devote his full time to the business of the Company.
Section 16 Compliance
Section 16(a) of the Exchange requires officers, directors and persons who own more than 10% of a registered class of our equity securities of a company that has a class of common stock registered under the Exchange Act to file reports of ownership and changes in ownership with the Securities and Exchange Commission and to furnish us with copies of all forms filed pursuant to Section 16(a).
Based solely on a review of the copies of such reports furnished to us and written representations from our officers, directors and principal stockholders that no other reports were required, to our knowledge, we believe that our all persons required to file reports pursuant to Section 16(a) of the Exchange Act complied with all of the Section 16(a) filing requirements applicable to them with respect to 2009, except that the annual statements to report changes in beneficial ownership were filed late.
Board Committees
The board of directors has responsibility for establishing broad corporate policies and reviewing our overall performance rather than day-to-day operations. The primary responsibility of our board of directors is to oversee the general direction and management of our Company and, in doing so, serve the best interests of the Company and our stockholders. The board of directors selects, evaluates and provides for the succession of executive officers and, subject to stockholder election, directors. It reviews and approves corporate objectives and strategies, and evaluates significant policies and proposed major commitments of corporate resources. Our board of directors also participates in decisions that have a potential major economic impact on our Company. Management keeps the directors informed of Company activity through regular communication.
The board of directors is currently composed of 2 people. All board action requires the approval of a majority of the directors in attendance at a meeting at which a quorum is present. We will increase the size of our board of directors as we deem necessary to accommodate the growth of our business.
Board Determination of Independence
As of the date hereof, the Company has not adopted a standard of independence nor does it have a policy with respect to independence requirements for its Board members or that a majority of its board be comprised of "independent directors." As of the date hereof, none of our directors would qualify as "independent" under any recognized standards of independence.
Board of Directors Committees
We do not currently have a standing audit, nominating or compensation committee of the board of directors, or any committee performing similar functions. Our board of directors currently performs the functions of audit, nominating and compensation committees. As of the date of this Annual Report, no member of our board of directors qualifies as an “audit committee financial expert” as defined in Item 407(d)(5) of Regulation S-K promulgated under the Securities Act.
In our continuing efforts to enhance corporate governance, bolster our internal controls and procedures and eliminate accounting and other financial statement issues, we have determined to establish an audit committee before the close of the 2010 fiscal year. Initially, we expect that the composition of the audit committee will comprise both independent members and persons associated with our Company and will include an “audit committee financial expert” as defined in Item 407(d)(5) of Regulation S-K. We will keep investors apprised of our ongoing efforts, including when we adopt an audit committee charter and seat an audit committee.
The Board will consider establishing other independent committees of the board as and when we expand the board and circumstances necessitate.
Stockholder Communications
We do not presently provide a process for security holders to send communications to the board of directors. We expect to adopt a process for security holders to send communications to the board of directors prior to the call of the Company's next annual meeting of stockholders. We will disclose the stockholder communication process we adopt in the proxy statement we will mail to all stockholders prior to the next annual stockholders meeting.
Code of Ethics
We have adopted a Code of Ethics that applies to our principal executive officers and principal financial officer (or persons performing similar functions) that is designed to comply with Item 406 of Regulation S-K. A copy of our Code of Ethics will also be furnished, without charge, in print to any person who requests such copy by writing to the Company’s Secretary at: Vinyl Products, Inc., 2210 South Ritchey Street, Santa Ana, California 92705.
Item 11.
Item 11. Executive Compensation.
Executive Compensation
The following table shows information concerning all compensation paid for services to the Company in all capacities during the year ended December 31, 2009 as to the principal executive officer, principal financial officer, and each person whose total annual salary and bonus exceeded $100,000 at the end of the last fiscal year (the “Named Executive Officers”):
Summary Compensation Table
1.
During 2009, Mr. Knott received the total additional compensation referenced in column i, which consisted of: $5,950 paid into a health savings account, $250 for tax return preparation, $14,835 for vehicle leases and $9,936 in health insurance premiums.
During 2008, Mr. Knott received the total additional compensation referenced in column i consisting of: $165,000 paid as dividends by TVFC prior to the share exchange, $5,800 toward a health savings account, $980 for tax return preparation, $14,835 for vehicle leases and the conversion into salary of all amounts due by Mr. Knott under a certain promissory note evidencing monies he borrowed from the Company totaling $71,740.
2.
Through 2007, TVFC elected to be treated as a Subchapter S corporation under the Internal Revenue Code of 1986, as amended (the "Code"), and the amounts paid by the Company to the persons named in the table in column i represent profits distributed to its sole shareholders. As of January 1, 2008, the shareholders of TVFC revoked their intention to treat the Company as an "S" corporation and the Company is now treated as a "C" corporation under the Code. During 2007, Mr. Knott received a distribution from TVFC of $203,500 and Mr. Khatchoyan received a distribution from TVFC of $203,500. During 2006, Mr. Knott received a distribution from TVFC of $161,000 and Mr. Khatchoyan received a distribution from TVFC of $161,000.
3.
Includes $14,835 paid as an automobile allowance.
4.
During 2009, Mr. Khatchoyan received the total additional compensation referenced in column i, which consisted of: $5,950 paid into a health savings account, $250 for tax return preparation, $6,500 paid on his behalf to a tax consulting firm, $17,388 for vehicle leases and $10,150 in health insurance premiums.
During 2008, Mr. Khatchoyan received the total additional compensation referenced in column i consisting of: $165,000 paid as dividends by TVFC prior to the share exchange, $5,800 toward a health savings account, $17,388 for vehicle leases and the conversion into salary of all amounts due by Mr. Khatchoyan under a certain promissory note evidencing monies he borrowed from the Company totaling $81,844.
5.
Includes $16,600 paid as an automobile allowance.
6.
Payments to CFO Services, Inc., which is wholly owned by Douglas E. Wells.
Employment Contracts
We are not party to any employment agreements.
Other Compensatory Arrangements
We do not currently have any stock option, incentive, equity, non-equity or compensatory plans in place. We may adopt such plans when and if our board of directors deems them appropriate and will present any such plan adopted by our board for approval by our stockholders at the next annual meeting after the adoption thereof.
Outstanding Equity Awards at Fiscal Year-End
As of December 31, 2009, we had not approved any equity compensation plans and no awards of any kind were outstanding. None of our executive officers has ever received any equity awards, including, options, restricted stock or other equity incentives.
Compensation of Directors
During the 2008 and 2009 fiscal years, no member of our board of directors received any compensation solely for service as a director. We do not have any non-employee directors at this time and we have not adopted a policy for compensating or reimbursing non-employee directors that may join our board of directors.
We are not party to any compensation arrangement with any of our directors nor have we entered into any specific indemnification agreements with any member of our board, though our Articles of Incorporation and bylaws provide that we are required to indemnify our directors and officers to the fullest extent permitted by Nevada law, as described below.
Indemnification of Directors and Officers
Our articles of incorporation provide for the indemnification of our directors, officers, employees and agents to the fullest extent permitted by the laws of the State of Nevada. Section 78.7502 of the Nevada Revised Statutes permits a corporation to indemnify any of its directors, officers, employees or agents against expenses actually and reasonably incurred by such person in connection with any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative (except for an action by or in right of the corporation), by reason of the fact that such person is or was a director, officer, employee or agent of the corporation, provided that it is determined that such person acted in good faith and in a manner which he reasonably believed to be in, or not opposed to, the best interests of the corporation and, with respect to any criminal action or proceeding, had no reasonable cause to believe his conduct was unlawful.
Section 78.751 of the Nevada Revised Statutes requires that the determination that indemnification is proper in a specific case must be made by (a) the stockholders, (b) the board of directors by majority vote of a quorum consisting of directors who were not parties to the action, suit or proceeding or (c) independent legal counsel in a written opinion (i) if a majority vote of a quorum consisting of disinterested directors is not possible or (ii) if such an opinion is requested by a quorum consisting of disinterested directors.
Our bylaws provide that: (a) no director shall be liable to the Company or any of its stockholders for monetary damages for breach of fiduciary duty as a director except with respect to (i) a breach of the director’s loyalty to the Company or its stockholders, (ii) acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law, (iii) liability which may be specifically defined by law or (iv) a transaction from the director derived an improper personal benefit; and (b) the Company shall indemnify to the fullest extent permitted by law each person that such law grants to the Company power to indemnify.
Any amendment to or repeal of our articles of incorporation or by-laws shall not adversely affect any right or protection of any of our directors or officers for or with respect to any acts or omissions of such director or officer occurring prior to such amendment or repeal.
We may enter into indemnification agreements with each of our directors and officers that are, in some cases, broader than the specific indemnification provisions permitted by Nevada law, and that may provide additional procedural protection. As of the date of this Annual Report, we have not entered into any indemnification agreements with our directors or officers, but may choose to do so in the future. Such indemnification agreements may require us, among other things, to:
·
indemnify officers and directors against certain liabilities that may arise because of their status as officers or directors;
·
advance expenses, as incurred, to officers and directors in connection with a legal proceeding, subject to limited exceptions; or
·
obtain directors’ and officers’ insurance.
We are permitted to apply for insurance on behalf of any director, officer, employee or other agent for liability arising out of his actions.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.
The following table sets forth certain information, as of April 8, 2010 with respect to the beneficial ownership of our outstanding common stock by (i) any holder of more than five (5%) percent; (ii) each of our executive officers and directors and (iii) our directors and executive officers as a group. Except as otherwise indicated, each of the stockholders listed below has sole voting and investment power over the shares beneficially owned.
Beneficial ownership is determined in accordance with the rules of the Securities and Exchange Commission and generally includes voting or investment power with respect to securities. Securities that entitle a holder to acquire shares of common stock that are currently exercisable or exercisable within 60 days of April 8, 2010 are deemed to be beneficially owned by the person holding such securities for the purpose of computing the percentage of ownership of such person, but are not treated as outstanding for the purpose of computing the percentage ownership of any other person.
The applicable percentage ownership is based on 22,864,200 shares of common stock outstanding as of April 8, 2010. The business address of the stockholders set forth below is 2210 South Ritchey Street, Santa Ana, California 92705.
* Indicates less than one percent.
(1)
Mr. Wells owns these shares through The Wells Family Trust.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence.
Related Party Loans
On March 15, 2008, Gordon Knott and Garabed Khatchoyan, directors and officers of the Company, each executed a promissory note in favor of the Company entitling them to borrow up to $250,000 from the Company. The notes provided for interest at the rate of 5% per year and were due on March 15 2009. At March 15, 2008, Mr. Knott had borrowed the sum of $71,000 under the note, which had accrued interest equal to $740, and Mr. Khatchoyan had borrowed the sum of $81,000 under the note, which had accrued interest equal to $844. At March 15, 2008, the parties converted all amounts due under the notes, including accrued interest, into salary and cancelled the promissory notes.
Related Party Transactions
Douglas Wells, our chief financial officer, was employed by Avitus Group and provided CFO-type services to a number of companies. We utilized the services of Avitus Group from February 2006 through August 2008. During our engagement, we paid Avitus Group fees of $125,000. We discontinued utilizing these services when we engaged Mr. Wells to become our chief financial officer as of September 1, 2008.
Registration Rights
In connection with the share exchange, our officers and directors, who are our principal stockholders, were granted registration rights with respect to 300,000 shares of the common stock issued to them in that transaction. The shares were registered in a registration statement under the Securities Act that became effective on February 4, 2010.
Promoters and Certain Control Persons
Except as set forth in our discussion above, none of our directors or executive officers has been involved in any transactions with us or any of our directors, executive officers, affiliates or associates which are required to be disclosed pursuant to the rules and regulations of the SEC.
Policies and Procedures for Review, Approval or Ratification of Transactions with Related Persons
We did not previously have a formal policy concerning transactions with related persons. We are in the process of adopting a written related-person transactions policy that sets forth our policies and procedures regarding the identification, review, consideration and approval or ratification of “related-persons transactions.” For purposes of our policy only, a “related-person transaction” will be a transaction, arrangement or relationship (or any series of similar transactions, arrangements or relationships) in which we and any “related person” are participants involving an amount that exceeds $50,000. Transactions involving compensation for services provided to us as an employee, director, consultant or similar capacity by a related person will not be covered by this policy. A related person will be any executive officer, director or a holder of more than five percent of our common stock, including any of their immediate family members and any entity owned or controlled by such persons.
Under the policy, we expect that where a transaction has been identified as a related-person transaction, management must present information regarding the proposed related-person transaction to our board of directors for consideration and approval or ratification. The presentation will be expected to include a description of, among other things, the material facts, and the direct and indirect interests of the related persons, the benefits of the transaction to us and whether any alternative transactions are available. To identify related-person transactions in advance, we will rely on information supplied by our executive officers, directors and certain significant stockholders. In considering related-person transactions, our board of directors will take into account the relevant available facts and circumstances including, but not limited to:
·
the risks, costs and benefits to us;
·
the impact on a director’s independence in the event the related person is a director, immediate family member of a director or an entity with which a director is affiliated;
·
the terms of the transaction;
·
the availability of other sources for comparable services or products; and
·
the terms available to or from, as the case may be, unrelated third parties or to or from our employees generally.
Under the policy, we expect that in the event a director has an interest in the proposed transaction, the director must excuse himself or herself form the deliberations and approval. Our policy will require that, in determining whether to approve, ratify or reject a related-person transaction, our board of directors must consider, in light of known circumstances, whether the transaction is in, or is not inconsistent with, the best interests of our Company and our stockholders, as our board of directors determines in the good faith exercise of its discretion.
Item 14.
Item 14. Principal Accounting Fees and Services.
Effective December 22, 2009, we retained M&K CPAs, PLLC ("M&K") to be our independent registered public accounting firm is. Our independent registered public accounting firm prior to December 22, 2009 was Traci J. Anderson, CPAs ("TJA"). Set forth below are the fees and expenses invoiced by M&K and TJA for audit services and tax services provided to us in 2009 and 2008. The following table summarizes the approximate aggregate fees billed to us or expected to be billed to us by our independent registered accounting firms for our 2009 and 2008 fiscal years:
1. Represents the amount of fees invoiced to date.
2. TJA reviewed the financial statements included in our Quarterly Reports on Form-10 during the 2009 year and has not invoiced us for services rendered.
Audit Fees comprise the aggregate fees billed for professional services rendered for the audits of the Company's annual financial statements and for the reviews of the financial statements included in the Company's Quarterly Reports on Form 10-Q for the fiscal year.
Audit-Related Fees comprise the aggregate fees billed for audit-related services rendered for the Company. Audit-related fees generally include fees in support of the Company's filing of registration statements with the SEC and similar matters.
Tax Fees comprise the fees billed for tax-related services rendered for the Company for the 2009.
The Company has not established an audit committee nor adopted an audit committee charter. Rather, it is the responsibility of the entire board of directors to serve the functions of an audit committee and to pre-approve all audit and permitted non-audit services to be performed by the independent auditors, such approval to take place in advance of such services when required by law, regulation, or rule, subject to the de minimis exceptions for non-audit services described in Section 10A(i)(1)(B) of the Securities Exchange Act of 1934 that are approved by the board prior to completion of the audit.
PART IV
Item 15.
Item 15. Exhibits, Financial Statement Schedules.
(a) Financial Statements
The following financial statements are filed as part of this Annual Report:
The audited consolidated financial statements of Vinyl Products, Inc. and the report of independent registered public accounting firm thereon are set forth under Part II, Item 8 of this Annual Report.
(b) Exhibits.
The exhibits listed below are either included or incorporated by reference as indicated:
Exhibit No.
Exhibit Description
Location
Reference
2.1
Agreement and Plan of Merger October 10, 2007, among Red Oak Concepts, Inc., a Delaware corporation, Red Oak Concepts, Inc., a Nevada corporation, and the holders of all of the outstanding shares of common stock of each such corporation.
2.2
Share Exchange Agreement dated November 20, 2008
3.1
Certificate of Incorporation of Red Oak Concepts, Inc., a Delaware corporation.
3.2
By-laws of Red Oak Concepts, Inc., a Delaware corporation.
3.3
Articles of Incorporation of Red Oak Concepts, Inc., a Nevada corporation.
3.4
By-laws of Red Oak Concepts, Inc., a Nevada corporation.
3.5
Certificate of Amendment to Articles of Incorporation of Red Oak Concepts, Inc.
4.1
Specimen common stock certificate of Red Oak Concepts, Inc.
4.2
Registration Rights Agreement dated November 20, 2008 among the registrant and the recipients of the common stock received pursuant to the Share Exchange Agreement filed as Exhibit 2.1 hereto, the holders of the registrant's common stock immediately prior to the closing of the Share Exchange Agreement, the holders of certain options assumed by the registrant under the Share Exchange Agreement and the purchasers of shares of common stock in the registrant's private placement completed on November 24, 2008.
4.3
Lock Up/Leak Out Agreement dated November 20, 2008 between the registrant and each of Susan D. Zachmann, Katherine Daniels and Barbara Deadwiley.
4.4
Form of Lock Up/Leak Out dated November 20, 2008 between the registrant and each of Haber LLC, Themis LLC and Tailor Made Financial LLC.
4.5
Form of Subscription Agreement between the Registrant and the purchasers in the private offering of securities completed on November 24, 2008.
4.6
Registration Rights Agreement dated November 24, 2008 among the registrant and the purchasers of shares of common stock in the registrant's private placement completed on November 24, 2008.
4.7
Form of Option Agreement issued by The Vinyl Fence Company, Inc., the obligations of which were assumed by the registrant pursuant to the Share Exchange Agreement.
4.8
Specimen common stock certificate of Vinyl Products, Inc.
5.1
Opinion of Ruffa & Ruffa, P.C.
10.1
Lease agreement between AGA Partners and The Vinyl Fence Company, Inc., a California corporation dated January 31, 2005.
10.2
Fabricator Agreement dated November 11, 2003 between U.S. Polymers, Inc., and The Vinyl Fence Company, Inc. as amended and extended on August 29, 2008.
10.3
Professional Employer Agreement dated June 23, 2005 between Better Business Systems, Inc. (now Avitus Group) and The Vinyl Fence Company, Inc.
10.4
Form of demand promissory note executed by the registrant in favor of Gordon Knott.
10.5
Form of demand promissory note executed by the registrant in favor of Garabed Khatchoyan.
10.6
License Agreement dated June 17, 2009 between Franchise 123, Inc. and the registrant.
10.7
Form of Demand Promissory Note made by the registrant in favor of each of Susan Zachmann and Katherine Daniels in the principal amount of $124,950 on June 18, 2007.
10.8
Lease Agreement between 2407 Artesia LLS, a limited liability company, and The Vinyl Fence Company, Inc., a California corporation, dated January 18, 2010
14.1
Code of Business and Ethical Conduct
Subsidiaries of the Registrant
1.
Incorporated by reference to the registrant's filing on Form 10-SB as filed with the Securities and Exchange Commission on August 15, 2007.
2.
Incorporated by reference to the registrant's filing on Form 10-QSB for the three months ended December 31, 2007 as filed with the Securities and Exchange Commission on February 15, 2008.
3.
Incorporated by reference to the registrant's Current Report on Form 8-K as filed with the Securities and Exchange Commission on November 26, 2008.
4.
Previously filed with the registrant's Registration Statement on Form S-1 as filed with the Securities and Exchange Commission on March 27, 2009.
5.
Previously filed with Amendment No. 1 to Registration Statement on Form S-1 Filed with Securities and Exchange Commission on July 27, 2009.
6.
Previously filed as exhibit 4.2 to the registrant's filing on Form 10-SB as filed with the Securities and Exchange Commission on August 15, 2007 and incorporated herein by reference.
7.
Previously filed with Amendment No. 2 to Registration Statement on Form S-1 as filed with Securities and Exchange Commission on September 18, 2009.
8.
Filed herewith.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized on April 9, 2010.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on April 9, 2010.
Signature
Title
/s/ Gordon Knott
President, Principal Executive Officer and Director
Gordon Knott
/s/ Douglas E. Wells
Chief Financial Officer and Principal Accounting Officer
Douglas E. Wells
/s/ Garabed Khatchoyan
Secretary and Director
Garabed Khatchoyan