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MSLPD > SEC Filings for MSLPD > Form 10-K on 16-Apr-2012All Recent SEC Filings

Show all filings for MUSCLEPHARM CORP

Form 10-K for MUSCLEPHARM CORP


16-Apr-2012

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

This report and other reports filed by our Company from time to time with the United States Securities and Exchange Commission (collectively the "Filings") contain or may contain forward-looking statements and information that are based upon beliefs of, and information currently available to, our management as well as estimates and assumptions made by our management. Readers are cautioned not to place undue reliance on these forward-looking statements, which are only predictions and speak only as of the date hereof. When used in the filings, the words "anticipate," "believe," "estimate," "expect," "future," "intend," "plan," or the negative of these terms and similar expressions as they relate to us or our management identify forward-looking statements. Such statements reflect our current view with respect to future events and are subject to risks, uncertainties, assumptions, and other factors, including those set forth in the Risk Factors on page 10. Should one or more of these risks or uncertainties materialize, or should the underlying assumptions prove incorrect, actual results may differ significantly from those anticipated, believed, estimated, expected, intended, or planned.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, or achievements. Except as required by applicable law, including the securities laws of the United States, we do not intend to update any of the forward-looking statements to conform these statements to actual results.

Our financial statements are prepared in accordance with accounting principles generally accepted in the United States ("GAAP"). These accounting principles require us to make certain estimates, judgments and assumptions. We believe that the estimates, judgments and assumptions upon which we rely are reasonable based upon information available to us at the time that these estimates, judgments and assumptions are made. These estimates, judgments and assumptions can affect the reported amounts of assets and liabilities as of the date of the financial statements as well as the reported amounts of revenues and expenses during the periods presented. Our financial statements would be affected to the extent there are material differences between these estimates and actual results. In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require management's judgment in its application. There are also areas in which management's judgment in selecting any available alternative would not produce a materially different result. The following discussion should be read in conjunction with our consolidated financial statements and notes thereto appearing elsewhere in this report.

Plan of Operation

Headquartered in Denver, Colorado, MusclePharm is a rapidly expanding healthy life-style company that develops and distributes a full line of National Sanitation Foundation International and scientifically approved, nutritional supplements that are 100% free of any banned substances. Based on years of research, MusclePharm products are created through an advanced six-stage research protocol involving the expertise of top nutritional scientists and field tested by more than 100 elite professional athletes from various sports including the National Football League, mixed martial arts, and Major League Baseball. The Company's propriety and award winning products address all categories of an active lifestyle including muscle building, weight loss, and maintaining general fitness through a daily nutritional supplement regimen. MusclePharm is sold in over 120 countries and available in over 5,000 U.S. retail outlets, including GNC, Vitamin Shoppe, and Vitamin World. The Company also sells its products in over 100 online stores, including bodybuilding.com, amazon.com and vitacost.com.

Our primary focus at the current time is on the following:

(1) Increase our distribution and sales;

(2) Continue aggressive marketing campaign to further build upon our brand and market awareness;

(3) Conduct additional testing of the safety and efficacy of our products; and

(4) Hire additional key employees to continue to strengthen the Company.

Results of Operations

For the Year Ended December 31, 2011 Compared to the Year Ended December 31, 2010

Revenues

Net revenues from the sale of products were approximately $21 million for the year ended December 31, 2011, as compared to revenue from the sale of products of approximately $4.0 million for the year ended December 31, 2010. Sales activities during the year ended December 31, 2011, increased due to the increase in advertising and promotion efforts, as well as the change in the Company's manufacturers, which provided more consistent shipments to customers. The increase is also related to the significant capital spent on marketing with distributors and marketing and brand recognition with endorsements and sponsorships.

Cost of Sales

Cost of sales for the year ended December 31, 2011, were approximately $14.5 million or 69% of revenue, as compared to approximately $2.8 million or 69% of revenue for the year ended December 31, 2010. The cost of sales as a percentage of revenues decreased due to the change in manufacturers as we realized savings offered by quantity discounts.

Operating Expenses

Operating expenses for the year ended December 31, 2011, were approximately $22.6 million, as compared to approximately $19.5 million for the year ended December 31, 2010. The approximate $3.1 million increase is primarily due to an increase in adverting and promotion of approximately $2.2 million, an increase in stock based compensation - of approximately $3.7 million, an increase in depreciation expense of approximately $0.2 million and an increase in travel, meetings and entertainment of approximately $0.3 million, offset by a decrease in investment advisory services of approximately $2.4 million and a decrease in research and development costs of approximately $1.2 million.

Operating Loss

Operating loss for the year ended December 31, 2011 was approximately $16.2 million, as compared to approximately $18.3 million for the year ended December 31, 2010.

Interest Expense

Interest expense for the year ended December 31, 2011, was approximately $3.7 million, as compared to approximately $0.5 million for the year ended December 31, 2010. The increase in interest expense primarily relates to amortization of the debt discounts and debit issue costs of $3.5 million and interest charges incurred on our portfolio of debt instruments of approximately $0.2 million.

Other Expenses

Other expenses for the year ended December 31, 2011, were approximately $7 million, as compared to approximately $1.3 million for the year ended December 31, 2010. The $5.7 million increase in other expenses is primarily due to an increase in derivative expense of approximately $4.7 million, an increase in interest expense of approximately $3.2 million and increases in the losses on settlement of accounts payable of approximately $3.4 million, offset by changes in the fair value of derivative liabilities of approximately $5.3 million and licensing income of approximately $0.2 million.

Net Loss

Net loss for the year ended December 31, 2011, was approximately $23.3 million, or loss per share of $0.08, as compared to the net loss of approximately $19.6 million or loss per share of $0.48 for the year ended December 31, 2010.

Inflation did not have a material impact on the Company's operations for the period. Other than the foregoing, management knows of no trends, demands, or uncertainties that are reasonably likely to have a material impact on the Company's results of operations.

Liquidity and Capital Resources

The following table summarizes total current assets, liabilities and working capital at December 31, 2011, compared to December 31, 2010.

                                             December 31, 2011       December 31, 2010       Increase/Decrease
Current Assets                              $         4,016,833     $         2,494,441     $         1,522,392
Current Liabilities                         $        17,710,100     $         4,215,648     $        13,494,452
Working Capital (Deficit)                   $       (13,693,267 )   $        (1,721,207 )   $       (11,972,060 )

Our primary source of operating cash has been through the sale of equity and through the issuance of convertible secured promissory notes and other short term debt as discussed below.

At December 31, 2011, the Company had cash of $659,764 and working capital deficit of approximately $13.7 million, compared to cash of $43,700 and a working capital deficit of approximately $1.7 million at December 31, 2010. The working capital deficit increase of approximately $12.0 million is primarily due to an increase in accounts payable and accrued liabilities of approximately $6.1 million, an increase in derivative liabilities of approximately $6.4 million and an increase of debt, net of discounts of approximately $1 million, offset by an increase to prepaid sponsorships of approximately $0.2 million and an increase in accounts receivable of approximately $2.1 million.

Cash used in operating activities was approximately $5.8 million for the year ended December 31, 2011, as compared to cash used in operating activities of approximately $3.8 million for the year ended December 31, 2010. The increase in cash used in operating activities of approximately $2.0 million for the year ended December 31, 2011, compared to the year ended December 31, 2010, was primarily due to an increase of accounts receivable of approximately $2.1 million, an increase in the change in fair value of derivative liabilities of approximately $5.3 million, a decrease of stock issued for services of approximately $7.6 million, offset by an increase in warrants issued for services of approximately $2.0 million, an increase in the amortization of debt discount and debt issue costs of approximately $3.0 million, an increase in the loss on settlement of accounts payable of approximately $1.7 million, the increase on the loss on conversion of debt of approximately $1.7 million and the increase in derivative expense of approximately $4.7 million.

Cash used in investing activities was $831,511 for the year ended December 31, 2011, as compared to cash used in investing activities of $117,303 for the year ended December 31, 2010. The increase in cash used in investing activities represents purchases of property and equipment, and the build out of our gym facility. We also maintain a website (www.musclepharm.com), designed for customers and investors. Future investments in property and equipment, as well as further development of our Internet presence will largely depend on available capital resources.

Cash flows provided by financing activities were approximately $7.2 million for the year ended December 31, 2011, as compared to cash flows provided by financing activities of approximately $4.0 million for the year ended December 31, 2010. The approximately $3.3 million increase is due to the $4.5 million increase in proceeds from issuance of debt, offset by decreases in the proceeds from issuance of debt - related party of approximately $0.4 million, the decrease in the proceeds from the issuance of common stock and warrants - net of recapitalization payment of $0.6 million and the increase in the cash paid for debt issue costs of approximately $0.3 million.

                                                             December 31      December 31
Cash Flows From Financing Activities: For the Years Ended        2011             2010

Cash (cash overdraft)                                                   -          (17,841 )

Due to related party                                                    -          (27,929 )

Proceeds from issuance of debt                                  6,612,900        2,140,608

Proceeds from issuance of debt - related party                          -          358,077

Repayment of debt                                                 (75,285 )              -

Debt issuance costs                                              (263,283 )              -

Proceeds from issuance of preferred stock                         100,000                -

Losses incurred in connection with debt conversion prior
to maturity                                                       875,000        1,503,569

Net Cash Provided By Financing Activities                       7,249,332        3,956,484

Off-Balance Sheet Arrangements

Other than the operating leases, as of December 31, 2011, MusclePharm did not have any off-balance sheet arrangements.

Critical Accounting Policies

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.

Making estimates requires management to exercise significant judgment. It is at least reasonably possible that the estimate of the effect of a condition, situation or set of circumstances that existed at the date of the financial statements, which management considered in formulating its estimate could change in the near term due to one or more future non-conforming events. Accordingly, the actual results could differ significantly from estimates.

Accounts Receivable

MusclePharm performs ongoing evaluations of its customer's financial condition and generally does not require collateral. Management reviews accounts receivable periodically and reduces the carrying amount by a valuation allowance that reflects management's best estimate of amounts that may not be collectible. Allowances, if any, for uncollectible accounts receivable are determined based upon information available and historical experience.

Property and Equipment

Property and equipment are stated at cost less accumulated depreciation. Included in property and equipment are website development costs which represent capitalized costs of design, configuration, coding, installation, and testing of the Company's website. Depreciation is computed on the straight-line method over the asset's useful lives which range from three to five years. Maintenance and repairs are charged to expense as incurred; improvements and betterments are capitalized.

Long-Lived Assets

MusclePharm's primary long-lived assets are property and equipment. The Company assesses the recoverability of its long-lived assets whenever events and circumstances indicate the carrying value of an asset or asset group may not be recoverable from estimated future cash flows expected to result from its use and eventual disposition.

Fair Value Measurements

The Company follows guidance for fair value measurements which defines fair value, establishes a framework for using fair value to measure financial assets and liabilities on a recurring basis, and expands disclosures about fair value measurements. The Company also applies the guidance to non-financial assets and liabilities measured at fair value on a non-recurring basis, which includes goodwill and intangible assets. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company's assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on the reliability of the inputs as follows:

· Level 1 - Valuation is based upon unadjusted quoted market prices for identical assets or liabilities in active markets that the Company has the ability to access.

· Level 2 - Valuation is based upon quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in inactive markets; or valuations based on models where the significant inputs are observable in the market.

· Level 3 - Valuation is based on models where significant inputs are not observable. The unobservable inputs reflect the Company's own assumptions about the inputs that market participants would use.

Financial instruments consist of cash, accounts receivable, prepaid expenses, accounts payable and accrued expenses. The carrying amount of these financial instruments approximates fair value due to their short-term nature or the current rates at which the Company could borrow funds with similar remaining maturities. Unless otherwise noted, it is management's opinion that the Company is not exposed to significant interest, currency or credit risks arising from these financial statements.

Derivative Financial Instruments

Fair value accounting requires bifurcation of embedded derivative instruments such as conversion features in convertible debt or equity instruments, and measurement of their fair value for accounting purposes. In determining the appropriate fair value, the Company uses the Black-Scholes option-pricing model. In assessing the convertible debt instruments, management determines if the convertible debt host instrument is conventional convertible debt and further if there is a beneficial conversion feature requiring measurement. If the instrument is not considered conventional convertible debt, the Company will continue its evaluation process of these instruments as derivative financial instruments.

Revenue Recognition

The Company records revenue when all of the following have occurred: (1) persuasive evidence of an arrangement exists, (2) product has been shipped or delivered by the third party manufacturer, (3) the sales price to the customer is fixed or determinable, and (4) collectability is reasonably assured.

Depending on individual customer agreements, sales are recognized either upon shipment of products to customers or upon delivery. For one of our largest customers, which represent 15% of total revenue, revenue is recognized upon delivery. For all other customers, revenue is recognized upon shipment of the product. The Company records sales allowances and discounts as a direct reduction of sales. The Company recorded discounts of $359,182 and $152,664 for the years ended December 31, 2011 and 2010, respectively.

The Company grants volume incentive rebates to certain customers based on contractually agreed percentages ranging from 2.5% - 5.5% as a percentage of sales once a certain threshold has been met. The credits are recorded as a direct reduction to sales. Total volume incentive rebates granted for the years ended December 31, 2011 and 2010 were approximately $500,000 and $0, respectively.

The Company has an informal 7-day right of return for products. There were nominal returns in 2011 and 2010.

During the years ended December 31, 2011 and 2010, the Company had the following concentrations of revenues with customers:

                              Customer   2011      2010
                              A             40 %      42 %
                              B             15 %       9 %
                              C              - %      12 %

The Company does not manufacture or physically hold any inventory. Inventory is held and distributed by the Company's third party manufacturer.

Sponsorship and Endorsement Agreements

As a component of its marketing strategy, the Company enters into sponsorship and endorsement agreements with prominent athletes, trainers, and other high profile individuals that provide the Company ongoing sources of exposure to its products. The agreements sometimes specify certain contingencies that must be met to receive payments; others may require regular or periodic payments with no specified service or events that trigger payments under an agreement, or a combination of both. Agreements that are contingent upon the successful completion of an event prior to payment are considered unearned until the completion of the triggering event, and as such, no expense or liability is recorded until the successful completion of the triggering event. Where agreements are based on time and not on specific triggering events, the services are considered to be earned ratably over the period of the agreement, and as such expenses and liabilities are recorded ratably over the term of the agreement.

On September 1, 2011, the Company signed a sponsorship agreement with Zuffa Marketing, LLC, the owner of Ultimate Fighting Championship™ ("UFC™"). The Company is one of five primary sponsors with Dodge Trucks, Harley-Davidson, Bud Light and Tapout. The Company is the "Official Supplement Company of the UFC." The Company receives brand placement at UFC ™ events. Our agreement includes prominent logo placement on the mat, and our branding can be seen on Fox and pay-per-view worldwide.

Stock-Based Compensation

MusclePharm measures and recognizes compensation expense for all share-based awards made to employees and directors, including stock options and stock purchase warrants, based on estimated fair values. The Company must estimate the fair value of share-based awards on the grant date using an option pricing model. MusclePharm values share-based awards using the Black-Scholes option pricing model. The Black-Scholes model is highly complex and dependent on key estimates by management.

Recent Accounting Pronouncements

In May 2011, the FASB issued ASU No. 2011-04, which amended ASC Topic 820 to achieve common fair value measurements and disclosure requirements in U.S. GAAP and International Financial Reporting Standards ("IFRS"). The amendments in ASU No. 2011-05 result in common fair value measurement and disclosure requirements in U.S. GAAP and IFRSs. Consequently, the amendments change the wording used to describe many of the requirements in U.S. GAAP for measuring fair value and for disclosing information about fair value measurements. This amendment is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company does not anticipate this amendment will have a material impact on its financial statements.

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