We have established disclosure controls and procedures to ensure that the information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized, evaluated and reported, as applicable, within the time periods specified in the rules and forms of the Securities and Exchange Commission.

 

In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

 

 

MEDIFAST, INC. AND SUBSIDIARIES

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

 

Report of Independent Registered Public Accounting Firm		22
Consolidated Balance Sheets		23
Consolidated Statements of Operations		24
Consolidated Statements of Stockholders’ Equity		25
Consolidated Statements of Cash Flows		27
Notes to Consolidated Financial Statements		29

 

21

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

The Board of Directors and Stockholders of Medifast, Inc.

 

We have audited the accompanying consolidated balance sheets of Medifast, Inc. as of December 31, 2005 and 2006, and the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2006. 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 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. 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 audits provide a reasonable basis for our opinion.

 

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Medifast, Inc. at December 31, 2005 and 2006, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2006, in conformity with U.S. generally accepted accounting principles.

 

  

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Medifast, Inc.’s internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 15, 2007 expressed an unqualified opinion theron.

 

Bagell, Josephs, Levine & Company, LLC

Gibbsboro, New Jersey

March 15, 2007

 

22

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MEDIFAST, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

As of December 31, 2006 and 2005

		2006			2005
ASSETS
Current assets:
Cash and cash equivalents		$	1,085,000		$	1,484,000
Accounts receivable-net of allowance for doubtful accounts			448,000			985,000
of $100,000
Inventory			8,255,000			5,475,000
Investment securities			1,540,000			2,700,000
Deferred compensation			673,000			525,000
Prepaid expenses and other current assets			2,599,000			3,273,000
Note receivable - current			174,000
Current portion of deferred tax asset			90,000			-
Total current assets			14,864,000			14,442,000
Property, plant and equipment - net			14,020,000			9,535,000
Trademarks and intangibles - net			6,274,000			6,508,000
Deferred tax asset, net of current portion			367,000			-
Note receivable, net of current assets			1,355,000			-
Other assets			47,000			60,000
TOTAL ASSETS		$	36,927,000		$	30,545,000
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses		$	2,913,000		$	2,263,000
Income taxes payable			535,000			899,000
Dividends payable			-			-
Line of credit			1,256,000			633,000
Current maturities of long-term debt			548,000			561,000
Deferred tax liability - current						90,000
Total current liabilities			5,252,000			4,446,000
Other liabilities and deferred credits
Long-term debt, net of current portion			3,509,000			3,977,000
Deferred tax liability - non-current			-			101,000
Total liabilities			8,761,000			8,524,000
Stockholders' Equity:
Preferred stock, $.001 par value (1,500,000 authorized, no shares issued and outstanding)			-			-
Common stock; par value $.001 per share; 20,000,000 shares authorized;
13,631,898 and 12,782,791 shares issued and outstanding			14,000			13,000
Additional paid-in capital			26,629,000			21,759,000
Accumulated other comprehensive income			334,000			282,000
Retained earnings			6,231,000			1,149,000
			33,208,000			23,203,000
Less: cost of 249,184 and 210,902 shares of common stock in treasury			(1,686,000	)		(1,075,000	)
Less: Unearned compensation			(3,356,000	)		(107,000	)
Total stockholders' equity			28,166,000			22,021,000
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY		$	36,927,000		$	30,545,000

The accompanying notes are an integral part of these consolidated financial statements

 

23

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MEDIFAST, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

		Years Ended December 31,
		2006			2005			2004
Revenue		$	74,086,000		$	40,129,000		$	27,340,000
Cost of sales			(18,237,000	)		(10,161,000	)		(6,746,000	)
Gross profit			55,849,000			29,968,000			20,594,000
Selling, general, and administration			(47,737,000	)		(25,894,000	)		(17,590,000	)
Income from operations			8,112,000			4,074,000			3,004,000
Other income (expense):
Interest expense			(369,000	)		(317,000	)		(245,000	)
Interest income			175,000			158,000			154,000
Stock compensation exp			(533,000	)
Loss on sale of CCS			(323,000	)
Other income (expense)			276,000			15,000			(7,000	)
			(774,000	)		(144,000	)		(98,000	)
Income before provision for income taxes			7,338,000			3,930,000			2,906,000
Provision for income taxes			(2,256,000	)		(1,203,000	)		(1,159,000	)
Net income			5,082,000			2,727,000			1,747,000
Less: Preferred stock dividend requirement			-			(291,000	)		(18,000	)
Net income attributable to common shareholders		$	5,082,000		$	2,436,000		$	1,729,000
Basic earnings per share		$	0.40		$	0.20		$	0.16
Diluted earnings per share		$	0.38		$	0.19		$	0.14
Weighted average shares outstanding -
Basic			12,699,066			12,258,734			10,832,360
Diluted			13,482,894			12,780,959			12,413,424

The accompanying notes are an integral part of these consolidated financial statements

 

24

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MEDIFAST, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY AND ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

Years Ended December 31, 2006, 2005, and 2004

		Series B Preferred Stock						Series C  Preferred Stock						Common Stock
		Number of Shares			Stated Value Amount			Number of Shares			Stated Value Amount			Number of Shares			Par Value $0.001 Amount			Additional Paid-In Capital			Retained Earnings (deficit)
Balance, December 31, 2003			403,734			404,000			267,000			267,000			10,482,609			10,000			20,120,000			(3,016,000	)
Preferred converted to Common Stock			(103,120	)		(103,000	)		(67,000	)		(67,000	)		340,240						170,000
Options exercised to Common Stock															47,221			1,000			34,000
Warrants Converted to Common Stock															46,700						125,000
Conversion of debt to equity															55,400						28,000
Conversion of debt to equity out of Treasury																					114,000
Common stock issued to Consultants															15,500						93,000
Shares issued out of Treasury																					(135,000	)
Common Stock issued for Series “C” dividend															13,400						7,000			(7,000	)
Dividend paid in stock																								(11,000	)
Net Income																								1,747,000
Balance, December 31, 2004			300,614			301,000			200,000			200,000			11,001,070			11,000			20,556,000			(1,287,000	)
Preferred converted to Common Stock			(300,614	)		(301,000	)		(200,000	)		(200,000	)		1,001,228			1,100			500,000
Warrants Converted to Common Stock															2,000			-			2,000
Options excercised to common stock															138,335			100			190,000
Common Stock issued for Series “C” dividend															38,000			-			19,000			(19,000	)
Dividend paid in stock																								(11,000	)
Common stock issued for Series “B” dividend															521,158			600			260,000			(261,000	)
Common stock issued to Employees															81,000			100			271,000
Treasury shares issued to employees																		100			(39,000	)
Shares issued to officer with two year vesting period
Vesting of unearned compensation
Treasury shares repurchased
Net income																								2,727,000
Balance, December 31, 2005			0		$	0			0		$	0			12,782,791		$	13,000		$	21,759,000		$	1,149,000
Warrants converted to common stock															142,810			200			762,000
Common stock issued to Directors															10,750			100			69,000
Common stock issued to consultants															2,500			100			17,000
Dividend paid in stock
Options excercised to common stock															128,047			100			240,000
Options granted to CEO																					383,000
FASB 123R vesting																					41,000
Shares issued to executives with 5 & 6 year vesting period															565,000			600			3,374,000
Treasury shares issued to employees																		(100	)		(16,000	)
Net income																								5,082,000
Balance, December 31, 2006			0		$	0			0		$	0			13,631,898		$	14,000		$	26,629,000		$	6,231,000

 

The accompanying notes are an integral part of these consolidated financial statements

 

25

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MEDIFAST, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY AND ACCUMULATED OTHER COMPREHENSIVE INCOME

(LOSS) - (CONTINUED)

 

Years Ended December 31, 2006, 2005, and 2004

 

Consolidated Statement of Changes in Stockholders’ Equity and Accumulated Other Comprehensive Income (Loss)

Years Ended December 31, 2006, 2005, 2004

 

		Common Stock
		Accumulated other comprehensive income (loss )			Total			Treasury Stock			Unearned Compensation
Balance, December 31, 2003			(25,000	)		17,760,000			(683,000	)		-
Preferred converted to Common Stock
Options exercised to Common Stock						35,000			(31,000	)
Warrants Converted to Common Stock						125,000			(123,000	)
Conversion of debt to equity						28,000
Conversion of debt to equity out of Treasury						114,000			166,000
Common stock issued to Consultants						93,000			135,000
Shares issued out of Treasury						(135,000	)		135,000
Common Stock issued for Series “C” dividend
Dividend paid in stock						(11,000	)
Net Income			(14,000	)		1,733,000
Balance, December 31, 2004			(39,000	)		19,742,000			(536,000	)		-
Preferred converted to Common Stock									(124,000	)
Warrants Converted to Common Stock						2,000
Options excercised to common stock						190,000
Common Stock issued for Series “C” dividend
Dividend paid in stock						(11,000	)
Common stock issued for Series “B” dividend
Common stock issued to Employees						271,000
Treasury shares issued to employees						(39,000	)		38,000
Shares issued to officer with two year vesting period												(122,000	)
Vesting of unearned compensation												15,000
Treasury shares repurchased									(453,000	)
Net income			321,000			3,048,000
Balance, December 31, 2005		$	282,000		$	23,203,000			($1,075,000	)		($107,000	)
Warrants converted to common stock						763,000			(137,000	)
Common stock issued to Directors						69,000
Common stock issued to consultants						17,000
Dividend paid in stock
Options excercised to common stock						241,000			(490,000	)
Options granted to CEO						383,000						(383,000	)
FASB 123R vesting						41,000
Shares issued to executives with 5 & 6 year vesting period						3,374,000						(3,374,000	)
Vesting of unearned compensation												508,000
Treasury shares issued to employees						(16,000	)		16,000
Net income			52,000			5,133,000
Balance, December 31, 2006		$	334,000		$	33,208,000			($1,686,000	)		($3,356,000	)

The accompanying notes are an integral part of these consolidated financial statements

 

26

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MEDIFAST, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOW

Years Ended December 31,

 

		2006			2005			2004
Cash flows from Operating Activities:
Net income		$	5,082,000		$	2,727,000		$	1,747,000
Adjustments to reconcile net income to net cash provided by operating activities from operations:
Depreciation and amortization			2,396,000			1,741,000			1,210,000
Realized (gain) loss on investment securities			(79,000	)		10,000			19,000
Loss on sale of Consumer Choice Systems			323,000			-			-
Common stock issued for services			86,000			150,000			93,000
Vesting of unearned compensation			509,000			15,000			-
Stock options vested during year			40,000			-			-
Excess tax benefits from share-based payment arrangements			16,000			-			-
Net change in other accumulated comprehensive income (loss)			52,000			321,000			(14,000	)
Provision for bad debts			-			13,000			-
Deferred income taxes			(648,000	)		301,000			486,000
Changes in Assets and Liabilities:
Decrease (increase) in accounts receivable			379,000			65,000			(422,000	)
(Increase) in inventory			(3,138,000	)		(1,225,000	)		(1,263,000	)
(Increase) decrease in prepaid expenses and other current assets			675,000			(2,194,000	)		(143,000	)
(Increase) in deferred compensation			(148,000	)		(204,000	)		-
Decrease (increase) in other assets			13,000			10,000			(25,000	)
Increase (decrease) in accounts payable and accrued expenses			651,000			1,323,000			(460,000	)
Increase (decrease) in income taxes payable			(364,000	)		160,000			674,000
Net cash provided by operating activities			5,845,000			3,213,000			1,902,000
Cash Flows from Investing Activities:
Sale (purchase) of investment securities, net			1,237,000			(84,000	)		1,338,000
Purchase of building			-			-			(566,000	)
Purchase of property and equipment			(5,557,000	)		(1,672,000	)		(1,490,000	)
Purchase of intangible assets			(2,427,000	)		(276,000	)		(2,792,000	)
Net cash (used in) investing activities			(6,747,000	)		(2,032,000	)		(3,510,000	)
Cash Flows from Financing Activities:
Issuance of common stock, options and warrants			795,000			66,000			7,000
Increase in line of credit, net			623,000			561,000			314,000
Excess tax benefits from share-based payment arrangements			(14,000	)		-			-
Purchase of treasury stock			(420,000	)		(452,000	)		-
Proceeds from long-term debt			-			-			475,000
Principal repayments of long-term debt			(481,000	)		(473,000	)		(1,089,000	)
Dividends paid on preferred stock			-			(11,000	)		(11,000	)
Net cash provided by (used in) financing activities			503,000			(309,000	)		(304,000	)
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS			(399,000	)		872,000			(1,912,000	)
Cash and cash equivalents - beginning of the year			1,484,000			612,000			2,524,000
Cash and cash equivalents - end of year		$	1,085,000		$	1,484,000		$	612,000
Supplemental disclosure of cash flow information:
Interest paid		$	369,000		$	317,000		$	245,000
Income taxes		$	3,403,000		$	1,983,000		$	-
Supplemental disclosure of non cash activity:
Common stock issued to executives over 6-year vesting period		$	3,373,000		$	-		$	-
Common shares issued for options and warrants		$	591,000		$	-		$	-
Options vested during period		$	40,000		$	-		$	-
Conversion of preferred stock B and C to common stock		$	-		$	501,000		$	170,000
Common stock for services		$	86,000		$	150,000		$	93,000
Conversion of debt to equity		$	-		$	-		$	307,000
Preferred B and C Stock Dividends		$	-		$	287,000		$	7,000
Line of credit converted to long-term debt		$	-		$	369,000		$	-
Common stock issued for compensation to be earned upon vesting		$	-		$	122,000		$	-

 

The accompanying notes are an integral part of these consolidated financial statements

 

27

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MEDIFAST, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONT.)

 

		Years Ended December 31,
		2006			2005			2004
Supplemental disclosure of non cash activity:
Sale of Consumer Choice Systems
Inventory		$	358,000		$	-		$	-
Accounts Receivable			131,000			-			-
Intangible assets, net			1,337,000			-			-
Note receivable			(1,503,000	)		-			-
Loss on sale of Consumer Choice Systems			(323,000	)		-			-
		$	-		$	-		$	-

 

The accompanying notes are an integral part of these consolidated financial statements

 

28

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Medifast, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

December 31, 2006, 2005, 2004

1. BACKGROUND

Nature of the Business

Medifast, Inc. (the "Company", or "Medifast") is a Delaware corporation, incorporated in 1980. The Company’s operations are primarily conducted through five of its wholly owned subsidiaries, Jason Pharmaceuticals, Inc. ("Jason"), Take Shape for Life, Inc. (“TSFL”), Jason Enterprises, Inc., Jason Properties, LLC and Seven Crondall, LLC. The Company is engaged in the production, distribution, and sale of weight management and disease management products and other consumable health and diet products. Medifast, Inc.’s product lines include weight and disease management, and meal replacement products manufactured in a modern, FDA approved facility in Owings Mills, Maryland.

The Company is engaged in the manufacturing and distribution of Medifastâ and Hi-Energyâ branded and private label weight and disease management products. These products are sold through various channels of distribution, to include web, call center, independent health advisors, medical professionals, weight loss clinics, direct consumer marketing supported via the phone and the web. The processing, formulation, packaging, labeling and advertising of the Company’s products are subject to regulation by one or more federal agencies, including the Food and Drug Administration, the Federal Trade Commission, the Consumer Product Safety Commission, the United States Department of Agriculture, and the United States Environmental Protection Agency.

2. Summary of Significant Accounting Policies

Significant accounting policies followed in the preparation of the consolidated financial statements are as follows:

Principles of Consolidation and Basis of Presentation

The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Jason Pharmaceuticals, Inc., Take Shape For Life, Inc., Seven Crondall Associates, LLC, Jason Properties, LLC and Jason Enterprises, Inc. All inter-company accounts have been eliminated.

Cash and Cash Equivalents

For the purposes of the consolidated statements of cash flow, the Company considers all highly liquid debt instruments purchased with maturity of three months or less to be cash equivalents. At December 31, 2006, the Company had $979,000 in miscellaneous short-term investments through Merrill Lynch that are considered cash equivalents due to terms of maturity, and $106,000 in operating checking accounts.

At December 31, 2005, the Company had $789,000 in a money market account, $365,000 in miscellaneous short-term investments through Merrill Lynch that are considered cash equivalents due to terms of maturity, and $330,000 in operating checking accounts.

Accounts Receivable and Allowance for Doubtful Accounts

Accounts receivable are recorded net of reserves for sales returns and allowances, and net of provisions for doubtful accounts. Allowances for sales returns and discounts are based on an analysis of historical trends, and allowances for doubtful accounts are based primarily on an analysis of aging accounts receivable balances and on the creditworthiness of the customer as determined by credit checks and analysis, as well as the customer’s payment history.

Inventory

Inventory is stated at the lower of cost or market, utilizing the first-in, first-out method. The cost of finished goods includes the cost of raw materials, packaging supplies, direct and indirect labor and other indirect manufacturing costs.

Advertising

Advertising costs such as preparation, layout, design and production of advertising are deferred. They are expensed when the advertisement is first used, except for the costs of executory contracts, which are amortized as performance under the contract is received. Advertising costs deferred at December 31, 2006 and 2005, were $960,000 and $585,000 respectively. Advertising expense for the years ended December 31, 2006 and 2005 amounted to $14,300,000 and $3,784,000, respectively

 

29

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Property, Plant, and Equipment

 Property, plant and equipment are stated at cost less accumulated depreciation and amortization. The Company computes depreciation and amortization using the straight-line method over the estimated useful lives of the assets acquired as follows:

Building and building improvements		39 years
Equipment and fixtures		3 - 15 years
Vehicles		5 years

 

The carrying amount of all long-lived assets is evaluated periodically to determine whether adjustment to the useful life or to the unamortized balance is warranted. Such evaluation is based principally on the expected utilization of the long-lived assets and the projected undiscounted cash flows of the operations in which the long-lived assets are used.

Income Taxes

The Company accounts for income taxes in accordance with Statements of Financial Accounting Standards No. 109, “Accounting for Income Taxes,” which requires an asset and liability approach to financial accounting and reporting for income taxes. Deferred income taxes and liabilities are computed annually for differences between the financial statement and the tax basis of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized.

Earnings Per Common Share

Basic earnings per share is calculated by dividing net profit attributable to common stockholders by the weighted average number of outstanding common shares during the year. Basic earnings per share exclude any dilutive effects of options, warrants and other stock-based compensation, which are included in diluted earnings per share.

Revenue Recognition

Revenue is recognized for product sales upon shipment and passing of risk to the customer and when estimates of discounts, rebates, promotional adjustments, price adjustments, returns, and other potential adjustments are reasonably determinable, collection is reasonably assured and the Company has no further performance obligations. These estimates are presented in the financial statements as reductions to net revenues and accounts receivable which also include estimated sales returns, allowances and discounts.

Outbound shipping charges to customers and outbound shipping-related costs are netted and included in “cost of sales.”

Returns - Consistent with industry practice, the Company maintains a return policy that allows its customers to return product within a specified period (30 days). Because the period of payment generally approximates the period revenue was originally recognized, refunds are recorded as a reduction of revenue when paid. The Company’s estimate for returns is based upon its historical experience with actual returns. While such experience has allowed for reasonable estimation in the past, history may not always be an accurate indicator of future returns. The Company continually monitors its estimates for returns and makes adjustments when it believes that actual product returns may differ from the established accruals.

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 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 periods. Actual results could differ from those estimates.

30

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Fair Value of Financial Instruments

The carrying amounts reported in the consolidated balance sheets for cash, certificates of deposit, accounts receivable, accounts payable and accrued liabilities approximate fair value because of the immediate or short-term maturity of the financial instruments.

The Company believes that its indebtedness approximates fair value based on current yields for debt instruments with similar terms.

Concentration of Credit Risk

Financial instruments that potentially subject the Company to credit risk consist of cash, certificates of deposit, investment securities and trade receivables. Cash, money markets and investments exceed the federal insurance coverage by $2,610,000 and $2,248,000, respectively. The Company securities at December 31, 2006 and 2005, include amounts deposited with multiple financial institutions markets its products primarily to medical professionals, clinics, and Internet medical sales and has no substantial concentrations of credit risk in its trade receivables.

As of December 31, 2006 and 2005, the Company had two customers that individually represented over 10% of the accounts receivable and in the aggregate, approximately 12% and 21% of the accounts receivable, respectively.

Stock-Based Compensation

Effective January 1, 2006, the Company adopted the provisions of Financial Accounting Standards Board Statement of Financial Accounting Standard (“SFAS”) No. 123(R), “Share-Based Payments,” which establishes the accounting for employee stock-based awards. Under the provisions of SFAS No.123(R), stock-based compensation is measured at the grant date, based on the calculated fair value of the award, and is recognized as an expense over the requisite employee service period (generally the vesting period of the grant). The Company adopted SFAS No. 123(R) using the modified prospective method and, as a result, periods prior to December 31, 2005 have not been restated. The Company recognized stock-based compensation for awards issued under the Company’s stock option plans in other income/expenses included in the Condensed Consolidated Statement of Operations. Additionally, no modifications were made to outstanding stock options prior to the adoption of SFAS No. 123(R), and no cumulative adjustments were recorded in the Company’s financial statements.

Prior to December 31, 2005, the Company accounted for stock-based compensation in accordance with provisions of Accounting Principles Board Opinion No. 25 (“APB No. 25”), “Accounting for Stock Issued to Employees,” and related interpretations. Under APB No. 25, compensation cost was recognized based on the difference, if any, on the date of grant between the fair value of the Company’s stock and the amount an employee must pay to acquire the stock. The Company grants stock options at an exercise price equal to 100% of the market price on the date of grant. Accordingly, no compensation expense was recognized for the stock option grants in periods prior to the adoption of SFAS No. 123(R).

Unearned compensation represents shares issued to executives that will be vested over a 5-6 year period. These shares will be amortized over the vesting period in accordance with FASB 123(R). The expense related to the vesting of unearned compensation was $509,000 and $0 at December 31, 2006 and December 31, 2005, respectively. Expense related to vesting of options under FASB 123R was $40,000 and $0 at December 31, 2006 and December 31, 2005, respectively.

SFAS No. 123(R) requires disclosure of pro-forma information for periods prior to the adoption. The pro-forma disclosures are based on the fair value of awards at the grant date, amortized to expense over the service period. The following table illustrates the effect on net income and earnings per share as if the Company had applied the fair value recognition provisions of SFAS No. 123, “Accounting for Stock-Based Compensation”, for the period prior to the adoption of SFAS No. 123(R), and the actual effect on net income and earnings per share for the period after the adoption of SFAS No. 123(R).

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If compensation expense for the Company's stock-based compensation plans had been determined consistent with SFAS 123, the Company's net income and net income per share including pro forma results would have been the amounts indicated below:

		Years Ended December 31
		2006			2005			2004
Net income:
As reported			5,082,000			2,727,000			1,747,000
Add: Stock-based employee compensation expense included in net income, net of related tax effects			24,000
Deduct: Total stock-based employee compensation determined under fair value based method for all awards, net of related tax effects			(24,000	)		(280,000	)		(108,000	)
Net income, pro forma			5,082,000			2,447,000			1,639,000
Net income per share:
as reported:
Basic		$	0.40		$	0.20		$	0.16
Diluted		$	0.38		$	0.19		$	0.14
Pro forma:
Basic		$	0.40		$	0.20		$	0.15
Diluted		$	0.38		$	0.19		$	0.13

 

The pro forma effect on net income may not be representative of the pro forma effect on net income of future years due to, among other things: (i) the vesting period of the stock options and the (ii) fair value of additional stock options in future years.

For the purpose of the above table, the fair value of each option granted is estimated as of the date of grant using the Black-Scholes option-pricing model with the following assumptions:

		2006			2005			2004
Dividend yield			0.0	%		0.0	%		0.0	%
Expected volatility			0.70			0.70			0.40
Risk-free interest rate			4.50	%		4.50	%		4.50	%
Expected life in years			1-5			1-5			1-5

 

Recent Accounting Pronouncements

 

In February 2006, the FASB issued SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments, an amendment of FASB Statements No. 133 and 140.” SFAS No. 155 resolves issues addressed in SFAS No. 133 Implementation Issue No. D1, “Application of Statement 133 to Beneficial Interests in Securitized Financial Assets,” and permits fair value re-measurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation, clarifies which interest-only strips and principal-only strips are not subject to the requirements of SFAS No. 133, establishes a requirement to evaluate interests in securitized financial assets to identify interests that are freestanding derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation, clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives and amends SFAS No. 140 to eliminate the prohibition on a qualifying special-purpose entity from holding a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument. SFAS No. 155 is effective for all financial instruments acquired or issued after the beginning of the first fiscal year that begins after September 15, 2006. The Company is currently evaluating the effect the adoption of SFAS No. 155 will have on its financial position or results of operations.

 

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In March 2006, the FASB issued SFAS No. 156, “Accounting for Servicing of Financial Assets, an amendment of FASB Statement No. 140.” SFAS No. 156 requires an entity to recognize a servicing asset or liability each time it undertakes an obligation to service a financial asset by entering into a servicing contract under a transfer of the servicer’s financial assets that meets the requirements for sale accounting, a transfer of the servicer’s financial assets to a qualified special-purpose entity in a guaranteed mortgage securitization in which the transferor retains all of the resulting securities and classifies them as either available-for-sale or trading securities in accordance with SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities” and an acquisition or assumption of an obligation to service a financial asset that does not relate to financial assets of the servicer or its consolidated affiliates. Additionally, SFAS No. 156 requires all separately recognized servicing assets and servicing liabilities to be initially measured at fair value, permits an entity to choose either the use of an amortization or fair value method for subsequent measurements, permits at initial adoption a one-time reclassification of available-for-sale securities to trading securities by entities with recognized servicing rights and requires separate presentation of servicing assets and liabilities subsequently measured at fair value and additional disclosures for all separately recognized servicing assets and liabilities. SFAS No. 156 is effective for transactions entered into after the beginning of the first fiscal year that begins after September 15, 2006. The Company is currently evaluating the effect the adoption of SFAS No. 156 will have on its financial position or results of operations.

 

In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, Fair Value Measurements, (“FAS 157”). This Standard defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. FAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. The adoption of FAS 157 is not expected to have a material impact on the Company’s financial position, results of operations or cash flows.

The FASB also issued in September 2006 Statement of Financial Accounting Standards No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans — an amendment of FASB Statement No. 87, 88, 106 and 132(R), (“FAS 158”) . This Standard requires recognition of the funded status of a benefit plan in the statement of financial position. The Standard also requires recognition in other comprehensive income certain gains and losses that arise during the period but are deferred under pension accounting rules, as well as modifies the timing of reporting and adds certain disclosures. FAS 158 provides recognition and disclosure elements to be effective as of the end of the fiscal year after December 15, 2006 and measurement elements to be effective for fiscal years ending after December 15, 2008. The Company has not yet analyzed the impact FAS 158 will have on its financial condition, results of operations, cash flows or disclosures.

In September 2006, the Securities and Exchange Commission (“SEC”) issued Staff Accounting Bulletin (“SAB”) No. 108, “Quantifying Misstatements.” SAB 108 provides interpretative guidance on how public companies quantify financial statement misstatements. There have been two common approaches used to quantify such errors. Under an income statement approach, the “roll-over” method, the error is quantified as the amount by which the current year income statement is misstated. Alternatively, under a balance sheet approach, the “iron curtain” method, the error is quantified as the cumulative amount by which the current year balance sheet is misstated. In SAB 108, the SEC established an approach that requires quantification of financial statement misstatements based on the effects of the misstatements on each of the company’s financial statements and the related financial statement disclosures. This model is commonly referred to as a “dual approach” because it requires quantification of errors under both the roll-over and iron curtain methods. SAB 108 is effective for the first fiscal year ending after November 15, 2006. The adoption of SAB 108 did not have a material impact on the Company’s consolidated financial position and results of operations.

In June 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 prescribes a recognition threshold and measurement attribute for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return, and also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. The adoption of FIN 48 is not expected to have a material impact on the Company’s consolidated financial position and results of operations.

 

Investments

In accordance with FAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities”, securities are classified into three categories: held-to-maturity, available-for-sale and trading. The Company’s investments consist of debt and equity securities classified as available-for-sale securities. Accordingly, they are carried at fair value in accordance with FAS No. 115. Further, according to FAS No. 115 the unrealized holding gains and losses for available-for-sales securities are excluded from earnings and reported, net of deferred income taxes, as a separate component of stockholders’ equity, unless the loss is classified as other than a temporary decline in market value.

 

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Goodwill and Other Intangible Assets

In June 2001, the Financial Accounting Standards Board (“FASB”) issued Statement No. 142 “Goodwill and Other Intangible Assets”. This statement addresses financial accounting and reporting for acquired goodwill and other intangible assets and supersedes APB Opinion No. 17, “Intangible Assets”. It addresses how intangible assets that are acquired individually or with a group of other assets (but not those acquired in a business combination) should be accounted for in financial statements upon their acquisition. This Statement also addresses how goodwill and other intangible assets should be accounted for after they have been initially recognized in the financial statements. Upon the sale of Consumer Choice Systems, Inc. on January 17, 2006, the goodwill balance of $894,000 was removed from the Company’s books.

In addition, the Company has acquired other intangible assets, which include: customer lists, non-compete agreements, trademarks and patents. The non-compete agreements are being amortized over the legal life of the agreements ranging between 3 to 7 years. The customer lists are being amortized over a period ranging between 5 to 10 years based on management’s best estimate of the expected benefits to be consumed or otherwise used up. Trademarks and patents are regularly reviewed to determine whether the facts and circumstances exist to indicate that the useful life is shorter than originally estimated or the carrying amount of the assets may not be recoverable. The Company assesses the recoverability of its trademarks and patents by comparing the projected discounted net cash flows associated with the related asset, over their remaining lives, in comparison to their respective carrying amounts. Impairment, if any, is based on the excess of the carrying amount over the fair value of those assets. 

 

Comprehensive Income (Loss)

Comprehensive income (loss) is defined as the change in equity of a business enterprise during a period from transactions and other events and circumstances from non-owner sources, including unrealized gains and losses on marketable securities. The Company presents comprehensive income in its consolidated statements of stockholders equity.

 

Reclassifications

Certain amounts for the years ended December 31, 2005 and 2004 have been reclassified to conform to the presentation of the December 31, 2006 amounts. The reclassifications have no effect on net income for the years ended December 31, 2005 and 2004.

 

3. CASH, CASH EQUIVALENTS AND MARKETABLE SECURITES

The following summarizes cash, cash equivalents, and marketable securities:

		Cost			Accrued interest			Fair value
Cash and cash equivalents
Demand deposits		$	106,000		$	-		$	106,000
Money market accounts			979,000			-			979,000
December 31, 2006		$	1,085,000		$	-		$	1,085,000
Marketable Securities
Marketable securities		$	1,206,000		$	334,000		$	1,540,000
December 31, 2006		$	1,206,000		$	334,000		$	1,540,000
Cash and cash equivalents
Demand deposits		$	330,000		$	-		$	330,000
Money market accounts			1,154,000			-			1,154,000
December 31, 2005		$	1,484,000		$	-		$	1,484,000
Cash equivalents and marketable securities
Marketable securities		$	2,418,000		$	282,000		$	2,700,000
December 31, 2005		$	2,418,000		$	282,000		$	2,700,000

 

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4. INVENTORY

Inventory consists of the following at December 31, 2006 and 2005:

		2006			2005
Raw materials		$	1,872,000		$	1,906,000
Packaging			1,625,000			1,142,000
Finished goods			4,758,000			2,427,000
		$	8,255,000		$	5,475,000

 

5. PREPAID EXPENSES AND OTHER CURRENT ASSETS 

 

Prepaid expense and other current assets as of December 31, 2006 and 2005, consist of the following:

		2006			2005
Marketing and advertising			1,830,000			1,592,000
Taxes			-			779,000
Supplies			158,000			393,000
Insurance			519,000			294,000
Services						50,000
Other			92,000			165,000
			2,599,000			3,273,000

 

6. PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment as of December 31, 2006 and 2005, consist of the following:

		2006			2005
Land		$	650,000		$	650,000
Building and building improvements			7,182,000			6,871,000
Equipment and fixtures			10,805,000			5,583,000
Vehicle			43,000			19,000
			18,680,000			13,123,000
Less accumulated depreciation and amortization			4,660,000			3,588,000
Property, plant and equipment - net		$	14,020,000		$	9,535,000

Substantially all of the Company's property, plant and equipment are pledged as collateral for various loans (see Note Payable footnote).

Depreciation expense for the years ended December 31, 2006, 2005, and 2004 were $1,072,000, $835,000 and $804,000, respectively.

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7. TRADEMARKS AND INTANGIBLES

 

		As of December 31, 2006						As of December 31, 2005
		Gross Carrying Amount			Accumulated Amortization			Gross Carrying Amount			Accumulated Amortization
Customer lists		$	6,346,000		$	1,636,000		$	4,514,000		$	873,000
Non-compete agreements			840,000			840,000			840,000			566,000
Trademarks and patents			1,707,000			143,000			1,821,000			121,000
Goodwill			-						894,000			-
Total		$	8,893,000		$	2,619,000		$	8,069,000		$	1,560,000

 

Amortization expense for the years ended December 31, 2006, 2005 and 2004 was as follows:

 

		2006			2005			2004
Customer lists		$	966,000		$	479,000		$	244,000
Non-compete agreements			273,000			369,000			162,000
Trademarks and patents			85,000			58,000			-
Total trademarks and intangibles		$	1,324,000		$	906,000		$	406,000

 

On January 17, 2006 the Consumer Choice Systems division of the Company was sold which included the sale of $1,601,000 in gross intangible assets and $265,000 in accumulated amortization.

 

The estimated future amortization expense of trademarks and intangible assets is as follows:

 

For the years ending December 31,		Amount
2007		$	1,640,000
2008			1,615,000
2009			675,000
2010			600,000
2011			590,000

 

8. ACCOUNTS PAYABLE AND ACCRUED EXPENSES

 

Accounts payable and accrued expenses as of December 31, 2006 and 2005 consist of the following:

 

		2006			2005
Trade payables		$	2,214,000		$	1,695,000
Accrued payroll and related taxes			328,000			314,000
Sales commissions payable			371,000			254,000
Total		$	2,913,000		$	2,263,000

 

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9. COMMITMENTS AND CONTINGENCIES

The Company leases office space for its eleven corporately owned Medifast Weight Control Centers under lease terms ranging from one to five years with leases commencing in 2004, 2005, 2006 and 2007. Monthly payments under the leases range in price from $1,200 to $3,500. The Company is required to pay property taxes, utilities, insurance and other costs relating to the leased facilities.

The following is a schedule by years of future minimum rental payments required under operating lease that have initial or remaining non-cancelable lease terms in excess of one year as of December 31, 2006:

 

For the Years Ending December 31,
2007		$	253,000
2008			221,000
2009			215,000
2010			110,000
2011			70,000
Total minimum payments required		$	869,000

 

Rent expense for the years ended December 31, 2006, 2005, and 2004 was $116,000, $211,000, and $229,000, respectively.

There is no pending or threatened legal action that would have material adverse on the Company’s consolidated financial position, results or operations or cash flows in future years.

 

10. INCOME TAXES

Significant components of the income tax benefit for the years ended December 31 are as follows:

		2006			2005			2004
Current:
Federal		$	1,184,000		$	685,000		$	600,000
State			314,000			217,000			90,000
Total Current		$	1,498,000		$	902,000		$	690,000
Deferred:
Federal		$	657,000		$	261,000		$	408,000
State			101,000			40,000			61,000
Total deferred			758,000			301,000			469,000
Income tax expense		$	2,256,000		$	1,203,000		$	1,159,000

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A reconciliation between the provision for income taxes calculated at the U.S. federal statutory income tax rate and the consolidated income tax benefit in the consolidated statements of income for the years ended December 31 is as follows:

 

		2006			2005			2004
Provision at the U.S. federal statutory rate		$	2,492,000		$	1,272,000		$	1,087,000
State taxes, net of federal benefit			366,000			198,000			145,000
Intangible assets			(298,000	)		(153,000	)		(73,000	)
Other temporary differences			-			(98,000	)		-
Cost segregation study			(275,000	)		-			-
Permanent differences			(29,000	)		(16,000	)		-
Income tax expense		$	2,256,000		$	1,203,000		$	1,159,000

 

Medifast, Inc.’s deferred income taxes reflect the net tax effect of temporary differences between the bases of assets and liabilities for financial reporting purposes and their bases for income tax purposes. Significant components of the Company’s deferred tax liabilities and assets as of December 31 are as follows:

 

		2006			2005
Deferred tax assets
Intangible assets		$	330,000		$	-
Accounts receivable			37,000			-
Inventory overhead and write downs			49,000			-
Deferred compensation			41,000			-
Total deferred tax assets		$	457,000		$	-
Deferred Tax Liabilities
Intangible assets		$	-		$	(113,000	)
Accounts receivable			-			(37,000	)
Inventory overhead and write downs			-			(41,000	)
Total deferred tax liabilities		$	-		$	(191,000	)

 

The 2006 effective income tax rate of 30.7% differed from the federal statutory rate of 34% due to the amortization of intangible assets, a cost segregation study performed on fixed assets, as well as timing differences for other temporary and permanent differences, and state income taxes.

The 2005 effective income tax rate of 30.6% differed from the federal statutory rate of 34% due to the amortization of intangible assets, timing differences for other temporary and permanent differences, and state income taxes.

The 2004 effective income tax rate differed from the federal statutory rate due to state taxes, amortization of intangible assets, and for a net operating loss deduction carried forward from 2003.

 

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11. STOCK OPTION PLAN

On October 9, 1993 and as amended in May 1995, the Company adopted a stock option plan ("Plan") authorizing the grant of incentive and non-incentive options for an aggregate of 500,000 shares of the Company's common stock to officers, employees, directors and consultants. Incentive options are to be granted at fair market value. Options are to be exercisable as determined by the stock option committee.

In November 1997, June 2002 and July 2004, the Company amended the Plan by increasing the number of shares of the Company's common stock subject to the Plan by an aggregate of 200,000 shares, 300,000 shares and 250,000 shares respectively.

The Company has elected to continue to account for stock option grants in accordance with APB 25 and related interpretations. Under APB 25, where the exercise price of the Company's employee stock options equals the market price of the underlying stock on the date of grant, no compensation is recognized.

The following summarizes the stock option activity for the years ended December 31:

 

		2006						2005						2004
		Shares			Weighted Average Exercise Price			Shares			Weighted Average Exercise Price			Shares			Weighted Average Exercise Price
Outstanding at beginning of year			359,727		$	2.71			389,397		$	1.51			439,455.00		$	1.76
Options granted			100,000			6.25			333,333			2.64			30,000.00			8.60
Options reinstated			16,666			6.36			-			0.00			-			0.00
Options exercised			(128,147	)		(2.11	)		(138,335	)		(1.83	)		(47,221	)		(1.19	)
Options forfeited or expired			(26,667	)		(8.36	)		(224,668	)		(1.17	)		(32,837	)		(7.01	)
Outstanding at end of year			321,579		$	3.88			359,727		$	2.71			389,397.00		$	1.51
Options exercisable at year end			211,577		$	2.77			329,725		$	2.56			350,336.00		$	1.11

 

The weighted average fair value at date of grant for options granted during the years 2006, 2005, and 2004 were $6.25, $2.64, and $8.60, respectively.

In 2005, the Company incorrectly cancelled 75,000 options to a former consultant. The options were correctly added back to the 2005 and 2006 option schedule above. The omission from the schedule in prior year had no impact on earnings per share. During 2006, the former consultant exercised 25,000 options and 50,000 remain outstanding.

 

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The following table summarizes information about stock options outstanding and exercisable at December 31, 2006:

 

		Options Outstanding						Options Exercisable
Range of Exercise Prices		Number Outstanding			Weighted Average Contractual Life Remaining (in Years)			Weighted Average Exercise Price			Number Exercisable			Weighted Average Exercise Price
$0.50			50,000			1.0		$	0.50			50,000		$	0.50
$1.60			2,779			.7		$	1.60			2,779		$	1.60
$2.87			123,334			3.3		$	2.87			123,334		$	2.67
$3.83			23,334			3.9		$	3.83			13,332		$	3.83
$4.80			15,000			1.3		$	4.80			15,000		$	4.80
$6.25			100,000			4.1		$	6.25			-		$	6.25
$11.12			7,132			1.4		$	11.12			7,132		$	11.15
			321,579					$	3.88			211,577		$	2.77

12. LONG-TERM DEBT AND LINE OF CREDIT

Long-term debt as of December 31, 2006 and 2005, consist of the following:

		2006			2005
$3,539,000 ten year term loan secured by two buildings and land at a variable rate which was 7.1% at December 31, 2006. Due 2016		$	3,480,000		$	2,201,000
$200,000 five-year term loan secured by equipment fixed rate was 3% at December 31, 2006. Due 2008			49,000			90,000
$475,000 seven-year loan secured by the building and land at a variable rate at LIBOR plus 250 bps, which was 7.85 % on December 31, 2006. Due 2011			396,000			428,000
$366,000 three-year term loan secured by certain assets at LIBOR plus 250 basis points, which was at 7.82% at December 31, 2006. Due 2008			132,000			254,000
$1,256,000 ten-year reducing revolver line of credit rate at LIBOR plus 220 bps , which was 6.62% on December 31, 2006			-			1,506,000
$186,976 three-year term loan secured by 20,000 restricted common shares variable rate which was 10.25%			-			59,000
			4,057,000			4,538,000
Less current portion			548,000			561,000
		$	3,509,000		$	3,977,000

 

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Future principal payments on long-term debt for the next 5 years are as follows:

 

2007		$	548,000
2008			404,000
2009			386,000
2010			386,000
2011			386,000
Thereafter			1,947,000
		$	4,057,000

 

The Company has established a $5 million revolving line of credit at the LIBOR rate plus 1.30% with Mercantile Safe Deposit and Trust Company secured by substantially all of the assets of Jason Pharmaceuticals, Inc. The outstanding balance on this line was $1,256,000 and $633,000 at December 31, 2006 and 2005, respectively. Effective October 2, 2006, the 10-year revolver with an original balance of $1,256,000 was refinanced with the Company’s other building loan for a total of $3,539,000 with Mercantile Safe Deposit and Trust Company secured by two buildings and land at a variable rate which was 7.1% on December 31, 2006.

 

13. EMPLOYMENT AGREEMENTS 

The Board of Directors of Medifast, Inc. is in the process of implementing a management succession plan which will take place over the next 24 months. In doing so, they have had 3 key executive officers sign 6-year employment contracts to ensure that there will be minimal turnover in selected key management positions. The Executives associated with this succession plan include Michael S. McDevitt, President and Chief Financial Officer, Margaret MacDonald, VP of Operations and Brendan Connors, CPA, VP of Finance. Bradley T. MacDonald, the Executive Chairman of the Board of Directors and CEO has signed and executed a new 5 year employment agreement as the Executive Chairman of the Board of Directors and will provide on-going executive mentoring, financial and M&A advice, and new business development for the Company.

 

On February 8, 2006, three executive officers of the Company signed 6-year employment contracts. The officers received shares of common stock in varying amounts totaling 380,000 shares at $6.25 per share that will be vested over 6 years. In addition, Bradley T. MacDonald, Chairman and CEO signed a new 5-year employment agreement and was granted 100,000 stock options at $6.25 that will vest over 5 years beginning on February 8, 2007.

 

14. WARRANTS

 

During 2003, the Company issued 200,000 warrants to James Paradis and Anthony Burrascono, both affiliated with Villanova University and 200,000 warrants an investment banker, for advisory and consulting services provided to the Company. The warrants vest in five equal installments of 40,000 warrants per year over a five-year period. These are five-year warrants to purchase common shares at an exercise price of $4.80 per share. These warrants may be cancelled, with a 90-day notice, if the consultants fail to perform to the satisfaction of the Company. During 2005, 120,000 unvested warrants issued to James Paradis and Anthony Burrascono were cancelled. In 2006, James Paradis and Anthony Burrascano exercised 80,000 warrants at $4.80. In 2005, the Company incorrectly cancelled 80,000 warrants to a former consultant. The warrants were correctly added back to the 2005 and 2006 warrant schedule. The omission from the schedule in prior year had no impact on earnings per share. During 2006, the former consultant exercised 40,000 warrants and 120,000 remain outstanding.

During 2003, the Company issued 50,000 warrants to Consumer Choices Systems, Inc. (“CCS”) as part of the payment for the purchase of the assets of CCS. These warrants are three-year warrants to purchase common shares at an exercise price of $10.00 per share. Of this amount, 25,000 warrants were exercised in 2004. Of the remaining 25,000 warrants, 22,810 were exercised in 2006 and the remaining 2,190 expired.

During 2003, the Company issued 63,750 warrants and 18,750 warrants to Mainfield Enterprises, Inc. and Portside Growth & Opportunity Fund. These warrants are five-year warrants to purchase common shares at exercise prices of $16.78 per share, which was equal to one hundred fifteen percent (115%) of the five-day volume weighted average price, all pursuant to the terms of that certain Securities Purchase Agreement by and between the Company and Mainfield Enterprises, Inc. and Portside Growth & Opportunity Fund dated as of July 24, 2003.

 

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During 2006, there were 120,000 warrants exercised at $4.80 and 22,810 warrants exercised at $10. In addition, 2,190 warrants expired.

 

The fair value of these warrants was estimated using the Black-Scholes pricing model with the following assumptions: interest rate 4.5%, dividend yield 0%, volatility 0.70 and expected life of five years.

 

The Company has the following warrants outstanding for the purchase of its common stock:

 

					Years Ended December 31,
Exercise Price		Expiration Date			2006			2005			2004
$0.35			March, 2005			-			-			2,000
$4.80			January, 2009			120,000			240,000			360,000
$10.00			June, 2006			0			25,000			25,000
$16.78			July, 2008			82,500			82,500			82,500
						202,500			347,500			469,500
			Weighted average exercise price			9.68			8.02		$	7.16

As of December 31, 2006, 82,500 of the warrants are exercisable.

15. QUARTERLY RESULTS (Unaudited)

		First Quarter			Second Quarter			Third Quarter			Fourth Quarter
2006
Revenue		$	19,183,000		$	19,954,000		$	19,642,000		$	15,307,000
Gross Profit			14,405,000			15,101,000			14,937,000			11,406,000
Operating Income			3,054,000			2,541,000			1,970,000			547,000
Net Income			1,694,000			1,475,000			1,470,000			443,000
Earnings per common share - diluted (1)			0.13			0.11			0.11			0.03
2005
Revenue		$	8,326,000		$	10,555,000		$	10,985,000		$	10,264,000
Gross Profit			6,253,000			7,932,000			8,310,000			7,473,000
Operating Income			912,000			1,154,000			1,266,000			742,000
Net Income			507,000			753,000			607,000			849,000
Earnings per common share - diluted (1)			0.04			0.06			0.05			0.04

(1) - Earnings per common share is computed independently for each of the quarters presented; accordingly, in the sum of the quarterly earnings per common share may not equal the total computed for the year.

 

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16. DISPOSAL OF A BUSINESS SEGMENT

On January 17, 2006, Jason Enterprises, Inc., a wholly owned subsidiary of Medifast, Inc. sold certain assets of its Consumer Choice Systems division. Consumer Choice Systems distributes products focused on women's well being to include supplements for menopause relief and urinary tract infections. The sale price was $1.82 million which included $358,000 in inventory, $131,000 in receivables, and $1,337,000 in net intangible assets. Consumer Choice Systems was sold to a former Medifast, Inc. board member. The sale price was $1.8 million and will be recorded as a note receivable by Medifast, Inc. over a 10-year term. The loan is collateralized by 50,000 shares of Medifast, Inc. stock. The following table illustrates segment information from the date Consumer Choice Systems was purchased by Medifast, Inc. on June 11, 2003 through December 31, 2005.

 

		2005			2004			2003
Revenues, net		$	958,000		$	1,498,000		$	851,000
Cost of Sales			733,000			686,000			343,000
Gross Profit			225,000			812,000			508,000
Compensation and Professional Fees			290,000			213,000			254,000
Selling, General and Adminstrative Expenses			208,000			256,000			212,418
Depreciation and Amortization			209,000			90,000			95,000
Interest (net)			8,000			17,000			8,000
Net income (loss)			(490,000	)		236,000			(61,418	)
Earnings per share - basic			(0.04	)		0.02			(0.01	)
Earnings per share - diluted			(0.04	)		0.02			(0.01	)
Segment Assets			2,216,000			2,625,000			2,497,000
Fixed assets, net of depreciation			54,000			71,000			91,000
Inventory			293,000			391,000			470,000
Prepaid expenses			327,000			-			53,000
Accounts receivable			171,000			629,000			221,000
Intangible assets			443,000			635,000			635,500
Goodwill			893,500			893,500			893,500

 

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INDEX TO EXHIBITS

 

No.
3.1		Certificate of Incorporation of the Company and amendments thereto*
3.2		By-Laws of the Company*
10.1		1993 Stock Option Plan of the Company as amended*
10.3		Lease relating to the Company's Owings Mills, Maryland facility**
10.4		Employment agreement with Bradley T. MacDonald***
31.1		Certification of Chief Executive Officer pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2		Certification of Chief Financial Officer pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1		Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes- Oxley Act of 2002

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* Filed as an exhibit to and incorporated by reference to the Registration Statement on Form SB-2 of the Company, File No. 33-71284-NY.

** Filed as an exhibit to and incorporated by reference to the Registration Statement on Form S-4 of the Company, File No. 33-81524.

***Filed as an exhibit to 10KSB, dated April 15, 1999 of the Company, file No. 000-23016.

(b) Reports on Form 8-K

September 21, 2005 to report the Annual Meeting of Shareholders September 16, 2005

October 19, 2005, to report the repurchase of 110,000 shares of common stock

January 17, 2006, to report the sale of Consumer Choice Systems assets, the promotion of Michael S. McDevitt to Chief Financial Officer, and 2006 financial guidance

August 14, 2006, to report the acceptance by the New York Stock Exchange to list common shares on the NYSE

September 25, 2006, to report the results of the Annual Meeting of Shareholder on September 8, 2006

October 2, 2006, to announce the election of two new Board of Directors

March 1, 2007, to announce Michael S. McDevitt promoted to CEO, Margaret MacDonald promoted to President and COO, and Bradley T..MacDonald named Executive Chairman of the Board.

March 7, 2007, to announce full-year 2007 revenue and diluted earnings per share guidance

 

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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.

 

MEDIFAST, INC.

(Registrant)

 

BRADLEY T. MACDONALD
Bradley T. MacDonald Executive Chairman of the Board Dated: March 16, 2007

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the following persons on behalf of the Registrant and in the capacities and on the dates indicated have signed this Report below.

 

Name		Title		Date
/s/ BRADLEY T. MACDONALD		Chairman of the Board,		March 16, 2007
Bradley T. MacDonald		Director
/s/ GEORGE LAVIN		Director		March 16, 2007
George Lavin
/s/ MICHAEL C. MACDONALD		Director		March 16, 2007
Michael C. MacDonald
/s/ MARY T. TRAVIS		Director		March 16, 2007
Mary T. Travis
/s/ REV. DONALD F. REILLY, OSA		Director		March 16, 2007
Rev. Donald F. Reilly, OSA
/s/ MICHAEL J. MCDEVITT		Director		March 16, 2007
Michael J. McDevitt
/s/ JOSEPH D. CALDERONE		Director		March 16, 2007
Joseph D. Calderone
/s/ CHARLES P. CONNOLLY		Director		March 16, 2007
Charles P. Connolly
/s/ DENNIS M. MCCARTHY		Director		March 16, 2007
Dennis M. McCarthy

 

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