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DSKX > SEC Filings for DSKX > Form 10-Q on 14-Nov-2012All Recent SEC Filings

Show all filings for DIVINE SKIN INC.

Form 10-Q for DIVINE SKIN INC.


14-Nov-2012

Quarterly Report


MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION.

Introductory Statements

This filing contains forward-looking statements, including statements regarding, among other things, our projected sales and profitability, our Company's growth strategies, our Company's future financing plans and our Company's anticipated needs for working capital. Actual events or results may differ materially from those discussed in forward-looking statements as a result of various factors, including, without limitation, the matters described in this filing generally. In light of these risks and uncertainties, there can be no assurance that the forward-looking statements contained in this filing will in fact occur. Forward-looking statements, which involve assumptions and describe our future plans, strategies and expectations, are generally identifiable by use of the words "may," "will," "should," "expect," "anticipate," "estimate," "believe," "intend" or "project" or the negative of these words or other variations on these words or comparable terminology.

Overview

Divine Skin, Inc. is a Florida corporation organized on January 26, 2007. Divine Skin, Inc. and its subsidiaries (collectively, the "Company" or "Divine Skin") develop, market and sell products for hair care, skin care and personal care needs. Through its predecessors, the Company has been developing and marketing hair care and personal care products for over ten years. The Company currently conducts business under the "Divine Skin" trade name and also under the "DS Laboratories" trade name. We own 100% of the outstanding common shares of DS Laboratories, Inc. (a Florida company), which was formed in January 2007 to secure the DS Laboratories trade name and has been essentially idle since its inception.

In January 2009, the Company acquired 100% of the outstanding shares of Sigma Development and Holding Co., Inc. for a nominal amount. Sigma was founded by our Vice President's father. Sigma was founded as an upscale brand addition to the Company's product portfolio. Sigma operated as a related but separate entity until the acquisition. Subsequent to the acquisition, Sigma operates as our wholly owned subsidiary. We currently distribute hair growth products, facial moisturizers and anti-aging facial cleansers through Sigma. In March 2009, Polaris Labs, Inc. was founded as our wholly owned subsidiary. Polaris was founded for marketing purposes to distribute Polaris branded versions of the Company's products through physicians and foreign distributors. We currently distribute hair care products through Polaris.

The Company currently maintains a network of specialty retailers and distributors across North America throughout Europe, Asia and South America. Divine Skin researches and formulates its own products and our current product offerings include hair care, skin care and personal care products. Our products are marketed to and sold through specialty retailers, spas, salons and other distributors. We utilize various third party manufacturers to produce our product on an order-by-order basis.

You should read the following discussion and analysis of our financial condition and results of operations together with our consolidated financial statements and the related notes appearing in this report. Some of the information contained in this discussion and analysis or set forth elsewhere in this registration statement, including information with respect to our plans and strategy for our business and related financing, includes forward-looking statements that involve risks and uncertainties. You should review the "Risk Factors" in our Form 10-K Annual Report for the year ended December 31, 2011, for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.

Significant Accounting Policies

Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. Note 2 of the Notes to Condensed Consolidated Financial Statements describes the significant accounting policies used in the preparation of the consolidated financial statements. Certain of these significant accounting policies are considered to be critical accounting policies, as defined below. A critical


accounting policy is defined as one that is both material to the presentation of our consolidated financial statements and requires management to make difficult, subjective or complex judgments that could have a material effect on our financial condition and results of operations. Specifically, critical accounting estimates have the following attributes: 1) we are required to make assumptions about matters that are highly uncertain at the time of the estimate; and 2) different estimates we could reasonably have used, or changes in the estimate that are reasonably likely to occur, would have a material effect on our financial condition or results of operations.

Estimates and assumptions about future events and their effects cannot be determined with certainty. We base our estimates on historical experience and on various other assumptions believed to be applicable and reasonable under the circumstances. These estimates may change as new events occur, as additional information is obtained and as our operating environment changes. These changes have historically been minor and have been included in the consolidated financial statements as soon as they became known. Based on a critical assessment of our accounting policies and the underlying judgments and uncertainties affecting the application of those policies, management believes that our consolidated financial statements are fairly stated in accordance with accounting principles generally accepted in the United States, and present a meaningful presentation of our financial condition and results of operations. We believe the following critical accounting policies reflect our more significant estimates and assumptions used in the preparation of our consolidated financial statements:

Accounts Receivable - Management makes critical judgments regarding the customer's credit worthiness when assigning credit limits and the payment terms granted. We base these judgments on available third party credit information, the customer's internal information, other suppliers experience with the customer and our own collection experience with the customer. While our collection efforts are effective in keeping our allowance for doubtful accounts at approximately 5% of accounts receivable or less, changes in economic conditions, changes in formulation of our product or other factors affecting us or our customers may affect our estimates and ultimate collections.

Inventory - Management makes critical judgments to avoid expiration and obsolescence in our inventory. To manage these issues management relies on production planning based on sales projections, monitoring production lot numbers and stability testing of new chemical components along with other techniques. As a result, an appropriate reserve for any estimated expiration or obsolescence has remained low. The average shelf life of our products is 31 months.

Intangible Asset - The Company holds an exclusive Brazilian Distribution. Management makes critical judgments in determining the long lived value of its intangible asset, which include estimates of the ultimate future returns these assets will provide based on projections and resulting net present value of future cash flows. Management has concluded that no impairment is necessary.

Results of Operations

The following discussion and analysis addresses the major factors that affected our operations and financial condition reflected in our condensed consolidated audited financial statements for the periods ended September 30, 2012 and September 30, 2011. This discussion is intended to supplement and highlight information contained in, and should be read in conjunction with, our financial statements and related notes and the selected financial data presented elsewhere in this filing.

Three Months Ended September 30, 2012 ("Q312-QTR") to the Three Months Ended September 30, 2011 ("Q311-QTR")

Revenues, net - Total net revenues increased $1,128,212 or 54.7%, from $2,062,178 (Q311-QTR) to $3,190,390 (Q312-QTR). Our product revenues represent primarily sales of Revita and Spectral DNC, which individually each exceeds 10% of total sales and collectively represent 34% of total sales. Other products, which individually exceed 5% of total sales, are Revita Cor and Spectral DNC-L, which collectively account for another 15% of total sales. We also sell "intro deals", which are an assortment of these primary products, as a means of introducing our products to new customers. Sales of intro deals accounted for another 9% of our total sales.


Revenues have increased primarily due to extensive marketing and sales efforts to expand our customer base, with our primary focus on expanding our distributors, both domestic and foreign. The Company conducts a significant portion of business with various distributors under exclusive distribution agreements. Revenues from two established distributors, who individually accounted for over 10% of our sales, in aggregate accounted for approximately 25.6% of the Company's total revenues during Q312-QTR. Sales returns and allowances as a percentage of sales has decreased from 19% for Q311-QTR to 5% for Q312-QTR This decrease was primarily due to reductions in allowances granted and reduce new account costs

Cost of Goods Sold - Total cost of goods sold increased $356,199 or 34.2%, from $1,042,808 (Q311-QTR) to $1,399,007 (Q312-QTR). The increase was directly the result a $570,416 increase in sales during Q312-QTR. The increase during Q312-QTR was partially offset ($214,217) by changes in product mix, increased efficiencies and reduced production costs as a result of improved purchasing.

Selling and Marketing Costs - Selling and marketing costs increased $236,741 or 32.6%, from $725,472 (Q311-QTR) to $962,213 (Q312-QTR). The increase is due to the following:

- Increases in:

$132,954 for marketing and promotion costs incurred to broaden awareness and understanding of our products and to promote sales,

$94,849 for travel and entertainment costs incurred to expand and promote sales and increased reimbursable travel and entertainment costs for sales consultants,

$17,767 for freight and shipping costs due to sales mix in a higher portion of accounts sold with freight included,

$39,381 for product development costs to pursue product improvements, and

$1,768 net, for other selling and marketing costs.

- Partially offset by decreases in:

$29,138 for consulting and commission costs due to staff reductions, and

$20,840 for warehouse expense due to efforts to reduce costs such as consolidation of shipments, negotiated discounts and procuring more cost effective carriers.

General and Administrative Costs - General and administrative costs increased $163,041 or 22.7%, from $717,463 (Q311-QTR) to $880,504 (Q312-QTR). The increase is due to the following:

- Increases in:

$31,032 for licenses and permits primarily for obtaining a license in Florida to transact in certain ingredients,

$25,247 for insurance as a result of increased costs of coverage due to our increased operations and sales along with expanded coverage such as D&O insurance which was not in place in the prior period,

$17,979 for bad debts is primarily due to increase sales but secondarily as a result of expanding our customer base to a broader range of customers,

$89,224 for personnel costs due to modest staffing increases and bonuses as a result of our expanding sales and operations groups, and


$18,557 for bank service charges as a result of expanded use to support increased sales.

- Partially offset by decreases in:

$10,543 for credit card fees as a result of a reduction in credit card transactions, and

$8,455 net, for various other general and administrative costs.

Other Income - Other income increased $7,766 or 242.4% from $3,204 income (Q311-QTR) to $10,970 income (Q312-QTR). The increase was considered negligible.

Net Loss - As a result of operational matters discussed above, Net Loss decreased $379,997 or 90.4% from a $420,361 Net Loss (Q311-QTR) to $40,364 Net Loss (Q312-QTR). In addition to the reasons discussed above, the decrease in net loss in the broader sense was driven by an increase in gross profit.

Nine Months Ended September 30, 2012 ("Q312-YTD") to the Nine Months Ended September 30, 2011 ("Q311-YTD")

Revenues, net - Total net revenues increased $2,028,864 or 30.5%, from $6,643,770 (Q311-YTD) to $8,672,634 (Q312-YTD). Our product revenues represent primarily sales of Revita and Spectral DNC, which individually each exceeds 10% of total sales and collectively represent 34% of total sales. Other products, which individually exceed 5% of total sales, are Revita Cor and Spectral DNC-L, which collectively account for another 15% of total sales. We also sell "intro deals", which are an assortment of these primary products, as a means of introducing our products to new customers. Sales of intro deals accounted for another 9% of our total sales.

Revenues have increased primarily due to extensive marketing and sales efforts to expand our customer base, with our primary focus on expanding our distributors, both domestic and foreign. The Company conducts a significant portion of business with various distributors under exclusive distribution agreements. Revenues from two existing distributors accounted for approximately 22% of the Company's total revenues during Q312-YTD.

Cost of Goods Sold - Total cost of goods sold increased $1,199,067 or 37.7%, from $3,181,103 (Q311-YTD) to $4,380,170 (Q312-YTD). The increase was primarily related to the increase in sales. In addition, during Q312-YTD, approximately $228,830 of the increase in cost of goods sold was attributable to changes in product mix, lost efficiencies resulting from a high portion of quarterly sales occurring at or near the end of each quarter and increased production costs. On average, the composition of cost of goods sold is: chemicals and raw material - 42%, packaging -27%, labor-28% and overhead - 3%.

Selling and Marketing Costs - Selling and marketing costs increased $563,284 or 28.6%, from $1,972,913 (Q311-YTD) to $2,536,197 (Q312-YTD). The increase is due to the following:

- Increases in:

$365,569 for marketing and promotion costs primarily to drive the increase in sales,

$172,393 for travel and entertainment costs incurred to expand and promote sales, and

$49,253 for product development as a result of increased efforts to improve the product.

- Partially offset by decreases in:

$23,931 net, for other selling and marketing costs.


General and Administrative Costs - General and administrative costs increased $440,954 or 20.3%, from $2,169,036 (Q311-YTD) to $2,609,990 (Q312-YTD). The increase is due to the following:

- Increases in:

$178,096 for professional fees for financial consultants, and to a lesser extent attorneys and accountants related to costs of fund raising, regulatory filings and reporting,

$161,804 for personnel costs due to increased staffing as a result of our expanding sales and operations groups,

$61,101 for insurance as a result of increased costs of coverage due to our increased operations and sales along with expanded coverage such as D&O insurance which wasn't in place in the prior period,

$25,385 for bad debt as a result of increased sales and relaxed credit terms to support sales,

$21,496 for credit card fees as a result of increased sales and increased use of credit cards as a mode of payment,

$32,703 for bank and wire charges supporting increased sales and operations, and

$19,937 net, for various other general and administrative costs.

- Partially offset by decreases in:

$59,568 for rent as a result of recording certain expenses and charges in the prior period which do not repeat in the current period.

Other Income - Other income decreased $5,852 or 54.2% from $10,789 income (Q311-YTD) to $4,973 expense (Q312-YTD). The decrease was primarily a result of additional interest expense resulting from the new credit facility.

Net Loss - As a result of operational matters discussed above, Net Loss increased $180,293 or 27.0% from a $668,493 Net Loss (Q311-YTD) to $848,786 Net Loss (Q312-YTD). In addition to the reasons discussed above, the increase in net loss in the broader sense was driven by increases in sales promotions and travel along with increases in corporate public relations and legal expenses. This results from our strategy to increase revenues by expanding our distributor base and corresponding market share.

Liquidity and Capital Resources

We had working capital of $6,546,217 at September 30, 2012. Our operating and capital requirements in connection with supporting our expanding operations and introducing new products have been and will continue to be significant to us. Since inception, our operational losses along with increased working capital required to grow our business, were satisfied through the initial contribution by our founders in 2007 and through subscriptions to purchase common shares under private placements which began in early 2009.

During the year ended December 31, 2011, the Company accepted an aggregate of $2,069,500 from 16 investors to subscribe for 8,039,281 shares of our common stock under a private placement pursuant to Section 4(2) of the Securities Act and Regulation S, promulgated there under. The private placement provides for issuance costs of 30% which amounted to $459,769. As a result, the Company netted $1,609,731 in proceeds from the subscription. Also during the year ended December 31, 2011, the Company closed on a Securities Purchase Agreement for an aggregate of $1,730,000 from 4 investors to subscribe for 6,178,572 shares of our common stock. The securities purchase agreement provided for issuance costs which amounted to $140,100 in cash and $24,674 in warrants. As a result, the Company netted $1,565,226 in proceeds. Furthermore, from August 17, 2012 through August 23, 2012, we received gross proceeds of $732,000 from three foreign investors in consideration of the issuance of 2,928,000 shares of our common stock. We received net proceeds of $585,600 from this private offering after payment of selling commissions, fees and other expenses.


On April 6, 2012, we closed on a $1.5 million credit facility provided by a financial institution. The credit facility provides for asset based lending collateralized by all of our assets. Advances are based on 80% of qualified accounts receivable and 40% of finished goods inventory. The credit facility provides for interest and bank fees, which currently aggregate to 8% (prime plus 3% plus 1.75% asset monitoring fees and other fees) per annum and expires March 24, 2014, and may be renewed under certain conditions. The credit facility is personally guaranteed by our Chief Executive Officer and, under certain conditions, may be called upon demand or in the event of default. Default events include, but are not limited to, failure to pay any amount due under the agreement, failure to perform any material term or covenant, any bankruptcy, any federal or state tax lien filed against our company, occurrence of any court order that restrains part of our business. The loan agreement also provides for certain covenants which requires us to maintain a life insurance policy on our chief executive officer for the benefit of the financial institution and precludes us from the following, except in the ordinary course of our business:
making distributions to shareholders, assigning, exchanging or disposing of collateral, permit or create any liens upon any collateral, pay any dividends, make any loans or advances, including to officers and employees, assume, guaranty, endorse or become directly or contingently liable, issue evidence of any indebtedness, any transactions with affiliates at less than favorable terms compared to market, the sale, transfer or dispose of substantially all of our assets or any operating subsidiary, entering into any transaction which results in a change of control of our company. We are currently in compliance with the covenants under the credit facility except that we are actively seeking to obtain a life insurance policy for our chief executive officer and the financial institution has granted us an extension through December 15, 2012 as we attempt to secure such policy. The Loan Agreement also provides for a referral fee of 4% per annum for 3 years. As of September 30, 2012 net advances amounted to $661,628.

Based on our current plans for the next 12 months, we anticipate that additional revenues earned from our expanded product lines and broadened distribution channels will be the primary organic source of funds for future operating activities in 2012. To fund continued expansion of our product lines and extend our reach to broader markets, including foreign markets, we may rely on bank borrowing, if available, our Loan Agreement and the private placement of securities.

Subsequent Events

Effective October 29, 2012, the Company, through its wholly-owned subsidiary Nutra Origin Inc., entered into a license agreement with LBK Group, Inc. to become the exclusive licensee of certain nutraceutical supplements and related intellectual property primarily under the brand "Nutra Origin". Under the terms of the agreement the Company has obtained an exclusive license for a period of ten years unless earlier terminated by either party in the event of default as defined under the agreement. In addition, commencing 36-months from the effectiveness of the license agreement, the Company may terminate the agreement without cause or penalty upon 60-days written notice to LBK. In consideration for the exclusive license, on the Effective Date, the Company issued LBK 7% of the issued and outstanding capital stock of Nutra Origin Inc. and paid LBK a fee of $94,307, representing fees payable to LBK under prior distribution arrangements between the parties. From the Effective Date and through May 15, 2013, the Company shall pay LBK a fee of $7,500 per month; from May 15, 2013 through the remainder of the term of the agreement, the Company shall pay LBK a fee of $8,500 per month; and in the event that the Company's sales of the Nutra Origin products exceed $5,000,000 per annum, then such monthly fee shall increase to $15,000 per month.

In connection with the license agreement, the Company, on the effective date of the license agreement, entered into a purchase agreement with LBK and acquired certain inventory, primarily consisting of Nutra Origin products, in consideration of $50,000, payable in shares of the Company's common stock, the price per share determined by the closing price of the Company's common stock as reported on the OTC Markets on the date immediately preceding the effective date of the license agreement. As such, the Company issued LBK 153,846 shares of restricted common stock of the Company.

Effective November 1, 2012, the Company purchased essentially 100% of the outstanding common stock of Divine Skin Laboratories, S.A DE C.V. ("DSMEXICO") from the sole shareholder pursuant to a Share Exchange Agreement. In accordance with Mexican law, Mexican companies must have two shareholder's therefore the principal seller will retain one share of common stock of DSMEXICO. DSMEXICO is in the business of selling, distributing and marketing DS Laboratories products throughout Mexico. The Company acquired DSMEXICO in order to obtain customers and vertically integrate its operations directly in the Mexican market. In consideration for the 100% interest in DSMEXICO, the Company issued 4,500,000 shares of the Company's common stock (valued


at $.333 per share) to DSMEXICO's sole shareholder. Following the closing date the sole shareholder shall receive up to an aggregate of an additional 1,500,000 shares of Divine Skin Common Stock (as adjusted for a stock split, recapitalization or similar transaction) if DSMEXICO achieves any of the following milestones within 4 years as follows:

(i)

500,000 shares of DSKX Common Stock in the event that annual net revenues of DSMEXICO are equal to or greater than $4,000,000 during any calendar year period;

(ii)

500,000 shares of DSKX Common Stock in the event annual net revenues of DSMEXICO are equal to or greater than $5,000,000 during any calendar year period following satisfaction of (i); and

(iii)

500,000 shares of DSKX Common Stock in the event annual net revenues of DSMEXICO are equal to or greater than $6,000,000 during any calendar year period following satisfaction of (ii).

The Company has delivered 4,500,000 shares and retains 1,500,000 shares as of September 30, 2012 which has been issued and is recorded as stock subscription receivable. The Company is also finalizing compensatory arrangements with management of DSMEXICO.

Cash Flows for the Nine Months Ended September 30, 2012

Cash Flows from Operating Activities

Operating activities used net cash for the nine months ended September 30, 2012 of $1,286,161. That amount has two primary components, Net Loss adjusted by non-cash items and changes in operating assets and liabilities. Net Loss adjusted by various items which impact net loss but do not impact cash during the period, such as issuance of warrants or stock for services and for depreciation and amortization resulted in net cash provided of $17,807. Changes in operating assets and liabilities reflect $1,303,968 of cash used for net changes in working capital items to support expanding sales as follows:

$769,330 used by an increase in accounts receivable as a result of increased sales,
$745,937 used by an increase in inventory to support increased sales,
$410,878 provided by an increase in accounts payable and accrued expenses as a result of increased credit availability from suppliers, and
199,578 used by a net increase in other current assets and liabilities.

Cash Flows used in Investing Activities

Our investing activities used $241,016 in net cash during the nine months ended September 30, 2012. Net cash used is primarily composed of the following:

$87,906 used to purchase equipment, primarily for production,
$48,287 used to purchase injection molds, and
$102,420 used to purchase additional brand rights.

Cash Flows from Financing Activities

Our financing activities provided $1,187,898 in net cash as a result of borrowings net of repayments under the asset based credit facility and a private placement of our common stock during the nine months ended September 30, 2012. During Q312-YTD, we received advances of $4,924,000 and made repayments totaling $4,321,702. Furthermore, during August 2012 we received gross proceeds of $732,000 from three foreign investors in consideration of the issuance of 2,928,000 shares of our common stock. We received net proceeds of $586,400 from . . .

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