**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, DC 20549**

 

**FORM 10-Q**

 

| **(Mark One)**                                                                                                                |                                                                                                |   |
|-------------------------------------------------------------------------------------------------------------------------------|-----------------------------------------------------------------------------------------------------|--------|
|                                                                                                                          |
| **ý**                                                                                                                    | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT  OF 1934** |
|                                                                                                                          |                                                                                                |
| **For the quarterly period ended  March 31, 2003**                                                                       |
|                                                                                                                          |                                                                                                |   |
| **or**                                                                                                                        |
|                                                                                                                          |                                                                                                |   |
| **o**                                                                                                                         | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**       |
|                                                                                                                          |                                                                                                |   |
| **For the transition period from          to         ** |
|                                                                                                                          |                                                                                                |   |
| **Commission File Number: 33-7106-A**                                                                                         |
|                                                                                                                               |                                                                                                     |        |  |  |

 

**NATURADE, INC.**

(Exact name of registrant as specified in its charter)

 

| **Delaware**                                                     |   | **23-2442709**                         |
|------------------------------------------------------------------|--------|----------------------------------------|
| (State or other jurisdiction of  incorporation or  organization) |   | (I. R. S. Employer Identification No.) |
|                                                             |   |                                   |
| **14370 Myford Rd., Irvine, California 92606**                   |
| (Address of principal executive offices)  (Zip code)             |
|                                                             |   |                                   |
| **(714) 573-4800**                                          |
| (Registrant’s telephone number, including  area code)       |

 

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Indicate by check mark whether the registrant(1) has filed all reports required to be filed by Section 13 or 15(d)of the Securities Exchange Act of 1934 during the preceding 12 months (orfor such shorter period that the registrant was required to file such reports),and (2) has been subject to such filing requirements for the past90 days. Yes ýNo o

 

Indicate by check mark whether the registrantis an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes  o No  ý

 

Indicate the number of shares outstanding ofthe registrant’s common stock, as of the latest practicable date: 44,533,886shares as of May 13, 2003.

 

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**FORM 10-Q**

**QUARTERLY REPORT**

**Quarter Ended March 31, 2003**

**TABLE OF CONTENTS**

 
| PART I:    | FINANCIAL INFORMATION |                                                                                                                  |
|------------|-----------------------|-----------------------------------------------------------------------------------------------------------------------|
|       | Item 1.               | Financial Statements                                                                                                  |   |
|       |                  | Balance  Sheets as of March 31, 2003 (unaudited) and December 31, 2002 (audited)                                      |   |
|       |                  | Statements of Operations for the three  month periods ended March 31, 2003 (unaudited) and March 31, 2002 (unaudited) |   |
|       |                  | Statements of Cash Flows for the three  months ended March 31, 2003 (unaudited) and March 31, 2002 (unaudited)        |   |
|       |                  | Notes to Financial Statements                                                                                         |   |
|       | Item 2.               | Management’s Discussion and Analysis of  Financial Condition and Results of Operations                           |   |
|       | Item 3.               | Quantitative and Qualitative Disclosures  About Market Risk                                                           |   |
|       | Item 4.               | Controls and Procedures                                                                                               |   |
| PART II:   | OTHER INFORMATION     |                                                                                                                  |
|       | Item 1.               | Legal Proceedings                                                                                                     |   |
|       | Item 2.               | Changes in Securities                                                                                                 |   |
|       | Item 3.               | Defaults Upon Senior Securities                                                                                       |   |
|       | Item 4.               | Submission of Matters to a Vote of Security  Holders                                                                  |   |
|       | Item 5.               | Other Information                                                                                                     |   |
|       | Item 6.               | Exhibits and Reports on Form 8-K                                                                                      |   |
| SIGNATURES |

 

2

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**NATURADE, INC.**

 

**BalanceSheets****As of March 31, 2003 and December 31, 2002**

 
|                                                                                                                                                                                                                                                                                                          |   | **March 31,  2003** |      | **December  31, 2002** |   |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------|-----------|------------------------|--------|
|                                                                                                                                                                                                                                                                                                          |   | **(Unaudited)**     |      | **(Audited)**          |   |
| ASSETS                                                                                                                                                                                                                                                                                                        |   |                |      |                   |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| Current assets:                                                                                                                                                                                                                                                                                               |   |                |      |                   |   |
| Cash and cash equivalents                                                                                                                                                                                                                                                                                     |   | $                   | 401,779   |                   | $      | 722,583 |   |
| Accounts receivable, net                                                                                                                                                                                                                                                                                      |   | 1,183,797           |      | 1,427,058              |   |
| Inventories, net                                                                                                                                                                                                                                                                                              |   | 1,125,239           |      | 1,689,131              |   |
| Prepaid expenses and other current assets                                                                                                                                                                                                                                                                     |   | 256,493             |      | 105,135                |   |
| Total current assets                                                                                                                                                                                                                                                                                          |   | 2,967,308           |      | 3,943,907              |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| Property and equipment, net                                                                                                                                                                                                                                                                                   |   | 209,524             |      | 228,723                |   |
| Other assets                                                                                                                                                                                                                                                                                                  |   | 58,594              |      | 49,594                 |   |
| Total assets                                                                                                                                                                                                                                                                                                  |   | $                   | 3,235,426 |                   | $      | 4,222,224 |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| LIABILITIES  AND STOCKHOLDERS’ DEFICIT                                                                                                                                                                                                                                                                   |   |                |      |                   |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| Current liabilities:                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| Accounts payable                                                                                                                                                                                                                                                                                              |   | $                   | 2,584,169 |                   | $      | 2,750,477 |   |
| Accrued expenses                                                                                                                                                                                                                                                                                              |   | 527,821             |      | 604,194                |   |
| Current portion of Note Payable to Related  Party                                                                                                                                                                                                                                                             |   | 202,345             |      | 202,345                |   |
| Current portion of long-term debt                                                                                                                                                                                                                                                                             |   | 1,272,996           |      | 1,816,662              |   |
| Total current liabilities                                                                                                                                                                                                                                                                                     |   | 4,587,331           |      | 5,373,678              |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| Long-term portion of Notes Payable to  Related Parties, less current maturities                                                                                                                                                                                                                               |   |                |      |                   |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| Long-term debt, less current maturities                                                                                                                                                                                                                                                                       |   | 29,942              |      | 37,735                 |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| COMMITMENTS AND CONTINGENCIES                                                                                                                                                                                                                                                                                 |   |                |      |                   |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| REDEEMABLE CONVERTIBLE PREFERRED STOCK                                                                                                                                                                                                                                                                        |   |                |      |                   |   |
| Redeemable convertible preferred stock,  Series B, less discount of $1,642,857 at March 31, 2003, and $1,714,286 at  December 31, 2002, par value $0.0001 per share: authorized 50,000,000 shares;  issued and outstanding, 13,540,723 at March 31, 2003 and December 31, 2002  ($2,000,000 redemption value) |   | 382,666             |      | 256,112                |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| WARRANT                                                                                                                                                                                                                                                                                                       |   | 500,000             |      | 500,000                |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| STOCKHOLDERS’ DEFICIT:                                                                                                                                                                                                                                                                                   |   |                |      |                   |   |
| Common stock, par value $0.0001 per share;  authorized, 100,000,000 shares; issued and outstanding, 44,533,886 at March  31, 2003 and December 31, 2002                                                                                                                                                       |   | 4,453               |      | 4,453                  |   |
| Non-Voting Common stock, par value $0.0001  per share; authorized, 2,000,000 shares; issued and outstanding, 117,284 at  March 31, 2003 and December 31, 2002                                                                                                                                                 |   | 12                  |      | 12                     |   |
|                                                                                                                                                                                                                                                                                                          |   |                |      |                   |   |
| Additional paid-in capital                                                                                                                                                                                                                                                                                    |   | 18,987,458          |      | 18,987,458             |   |
| Accumulated deficit                                                                                                                                                                                                                                                                                           |   | (21,256,436         | )         | (20,937,224            | )      |
| Total stockholders’ deficit                                                                                                                                                                                                                                                                              |   | (2,264,513          | )         | (1,945,301             | )      |
| Total liabilities and stockholders’ deficit                                                                                                                                                                                                                                                              |   | $                   | 3,235,426 |                   | $      | 4,222,224 |   |

 

See accompanying notes to financialstatements.

 

3

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**NATURADE, INC**

 

**Statements of Operations for the Three-MonthPeriods****Ended March 31, 2003 and March 31, 2002**

 
|                                                                                        |   | **Three  Months  Ended  March 31, 2003** |      | **Three  Months  Ended  March 31, 2002** |   |
|---------------------------------------------------------------------------------------------|--------|------------------------------------------|-----------|------------------------------------------|--------|
|                                                                                        |   | **(Unaudited)**                          |      | **(Unaudited)**                          |   |
|                                                                                        |   |                                     |      |                                     |   |
| Net sales                                                                                   |   | $                                        | 3,866,055 |                                     | $      | 3,373,016 |   |
|                                                                                        |   |                                     |      |                                     |   |
| Cost of sales                                                                               |   | 2,078,236                                |      | 1,885,113                                |   |
|                                                                                        |   |                                     |      |                                     |   |
| Gross profit                                                                                |   | 1,787,819                                |      | 1,487,903                                |   |
|                                                                                        |   |                                     |      |                                     |   |
| Costs and expenses:                                                                         |   |                                     |      |                                     |   |
| Selling, general and  administrative expenses                                          |   | 1,933,129                                |      | 2,110,055                                |   |
| Depreciation and amortization                                                               |   | 19,198                                   |      | 23,263                                   |   |
|                                                                                        |   |                                     |      |                                     |   |
| Total operating costs and expenses                                                          |   | 1,952,327                                |      | 2,133,318                                |   |
|                                                                                        |   |                                     |      |                                     |   |
| Operating loss                                                                              |   | (164,508                                 | )         | (645,415                                 | )      |
|                                                                                        |   |                                     |      |                                     |   |
| Other expense:                                                                              |   |                                     |      |                                     |   |
| Interest expense                                                                            |   | 30,295                                   |      | 31,792                                   |   |
| Other expense (income)                                                                      |   | (2,944                                   | )         | (11,396                                  | )      |
|                                                                                        |   |                                     |      |                                     |   |
| Loss before provision for income taxes                                                      |   | (191,859                                 | )         | (665,811                                 | )      |
|                                                                                        |   |                                     |      |                                     |   |
| Provision for income taxes                                                                  |   | 800                                      |      | —                                   |   |
|                                                                                        |   |                                     |      |                                     |   |
| Net loss                                                                                    |   | $                                        | (192,659  | )                                        | $      | (665,811 | ) |
| Less:                                                                                       |   |                                     |      |                                     |   |
| Preferred Stock Dividend                                                                    |   | (55,124                                  | )         | (50,000                                  | )      |
| Deemed Dividend                                                                             |   | (71,429                                  | )         | (71,429                                  | )      |
|                                                                                        |   |                                     |      |                                     |   |
| Net loss applicable to common shares                                                        |   | $                                        | (319,212  | )                                        | $      | (787,240 | ) |
|                                                                                        |   |                                     |      |                                     |   |
| Basic and Diluted Loss per share                                                            |   | $                                        | (0.01     | )                                        | $      | (0.02 | ) |
|                                                                                        |   |                                     |      |                                     |   |
| Weighted Average Number of Shares used in  Computation of  Basic and Diluted Loss per Share |   | 44,533,886                               |      | 43,813,494                               |   |

 

See accompanying notes to financialstatements.

 

4

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**NATURADE, INC**

 

**Statementsof Cash Flows for the Three Months Ended****March 31, 2003 and March 31, 2002**

 
|                                                                                       |   | **Three  Months Ended  March 31, 2003** |     | **Three  Months Ended  March 31, 2002** |   |
|--------------------------------------------------------------------------------------------|--------|-----------------------------------------|----------|-----------------------------------------|--------|
|                                                                                       |   | **(Unaudited)**                         |     | **(Unaudited)**                         |   |
| Cash flows from operating activities:                                                      |   |                                    |     |                                    |   |
| Net loss                                                                                   |   | $                                       | (192,659 | )                                       | $      | (665,811 | ) |
| Adjustments to reconcile net loss to net  cash provided by (used in) operating activities: |   |                                    |     |                                    |   |
| Depreciation and amortization                                                              |   | 19,199                                  |     | 23,262                                  |   |
| Provision for bad debt expense                                                             |   | (111,257                                | )        | (473,222                                | )      |
| Provision for excess and obsolete  inventories                                             |   |                                    |     | (273,796                                | )      |
| Expense for stock options, warrants and  convertible debt                                  |   |                                    |     | 9,443                                   |   |
| Changes in assets and liabilities:                                                         |   |                                    |     |                                    |   |
| Accounts receivable                                                                        |   | 354,518                                 |     | 812,290                                 |   |
| Inventories                                                                                |   | 563,892                                 |     | 376,302                                 |   |
| Prepaid expenses and other current assets                                                  |   | (151,359                                | )        | 208,958                                 |   |
| Other assets                                                                               |   | (9,000                                  | )        | (14,000                                 | )      |
| Accounts payable and accrued expenses                                                      |   | (242,679                                | )        | (439,074                                | )      |
| Net cash provided by (used in) operating  activities:                                      |   | 230,655                                 |     | (435,648                                | )      |
|                                                                                       |   |                                    |     |                                    |   |
| Cash flows from financing activities:                                                      |   |                                    |     |                                    |   |
| Net borrowings under line of credit                                                        |   | (544,263                                | )        | (291,543                                | )      |
| Payments of long-term debt                                                                 |   | (7,196                                  | )        | (6,644                                  | )      |
| Proceeds from issuance of equity                                                           |   | —                                  |     | 2,483,052                               |   |
| Net cash (used in) provided by financing  activities:                                      |   | (551,459                                | )        | 2,184,865                               |   |
|                                                                                       |   |                                    |     |                                    |   |
| Net increase (decrease) in cash and cash  equivalents                                      |   | (320,804                                | )        | 1,749,217                               |   |
| Cash and cash equivalents, beginning of  period                                            |   | 722,583                                 |     | 55,388                                  |   |
| Cash and cash equivalents, end of period                                                   |   | $                                       | 401,779  |                                    | $      | 1,804,605 |   |
|                                                                                       |   |                                    |     |                                    |   |
|                                                                                       |   |                                    |     |                                    |   |
| **Supplemental Disclosures of Cash Flow  Information Cash paid during the period for:**    |   |                                    |     |                                    |   |
| Interest                                                                                   |   | $                                       | 30,405   |                                    | $      | 32,777 |   |
| Taxes                                                                                      |   | $                                       | 800      |                                    | $      | 800 |   |
|                                                                                       |   |                                    |     |                                    |   |
| **Non-cash financing activities:**                                                         |   |                                    |     |                                    |   |
| Conversion of notes payable to related  party to                                           |   |                                    |     |                                    |   |
| common stock                                                                               |   | $                                       | —   |                                    | $      | 5,315,702 |   |
| Surrender of preferred stock for  cancellation without                                     |   |                                    |     |                                    |   |
| conversion in exchange for common stock                                                    |   | $                                       | —   |                                    | $      | 125 |   |
| Discount related to redeemable convertible  preferred stock                                |   | $                                       | —   |                                    | $      | 2,000,000 |   |
| Preferred stock dividend accrued                                                           |   | $                                       | 55,124   |                                    | $      | 50,000 |   |
| Deemed dividend                                                                            |   | $                                       | 71,429   |                                    | $      | 71,429 |   |

 

See accompanying notes to financialstatements.

 

5

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**NATURADE, INC.**

**Notes to Financial Statements**

 

1.                                       The accompanyingunaudited financial statements have been prepared in accordance with accountingprinciples generally accepted in the United States for interim financialinformation and with the instructions to Form 10-Q and Article 10 ofRegulation S-X. Accordingly, they do not include all of the informationand footnotes required by accounting principles generally accepted in theUnited States for complete financial statements. The preparation of financialstatements in conformity with accounting principles generally accepted in theUnited States requires management to make estimates and assumptions that affectthe amounts reported in the financial statements and accompanying notes. Actualresults could differ from those estimates.

 

The results of operations for the interim periods shown in this reportare not necessarily indicative of results to be expected for the fiscal year.In the opinion of management, the information contained herein includes alladjustments necessary for fair presentation of the financial statements. Allsuch adjustments are of a normal recurring nature. These financial statementsdo not include all disclosures associated with the Company’s annual financialstatements on Form 10-K and accordingly, should be read in conjunctionwith such statements.

 

2.                                       Inventories arestated at the lower of weighted average cost or market. Weighted average costis determined on a first-in, first-out basis. Inventories at March 31,2003 and December 31, 2002 consisted of the following:

 
|                                               |   | **March 31,  2003** |      | **December 31,  2002** |   |
|----------------------------------------------------|--------|---------------------|-----------|------------------------|--------|
|                                               |   | **(Unaudited)**     |      | **(Audited)**          |   |
|                                               |   |                |      |                   |   |
| Raw Materials                                      |   | $                   | 184,364   |                   | $      | 224,033 |   |
| Finished Goods                                     |   | 1,012,976           |      | 1,537,199              |   |
| Subtotal                                           |   | 1,197,340           |      | 1,761,232              |   |
| Less: Reserve for Excess and Obsolete  Inventories |   | (72,101             | )         | (72,101                | )      |
|                                               |   |                |      |                   |   |
|                                               |   | $                   | 1,125,239 |                   | $      | 1,689,131 |   |

 

3.                                       The Companyrents property and equipment under certain noncancellable operating leasesexpiring in various years through 2006. Future minimum commitments underoperating leases as of March 31, 2003 are as follows:

 

| **Year**              |   | **Amount** |      |
|-----------------------|--------|------------|-----------|
|                  |   |       |      |
| 2003 (April-December) |   | $          | 313,100   |   |
| 2004                  |   | 414,305    |      |
| 2005                  |   | 427,624    |      |
| 2006                  |   | 283,056    |      |
|                  |   |       |      |
| Total                 |   | $          | 1,438,085 |   |

 

4.*                                       CreditAgreement with Majority Shareholder—*In August 1999, the Companyentered into a Credit Agreement (the “Credit Agreement”) with Health Holdingsand Botanicals, LLC (“Health Holdings”), the majority stockholder of theCompany. The Credit Agreement allows for advances (the “Advances”) of$4 million at an interest rate of 8% per annum with a due date ofJuly 31, 2004. During the year ended December 31, 2001, HealthHoldings agreed to convert interest earned from October 1, 2000 to September 30,2001 of $342,406 to the outstanding principal amount as a payment-in-kindresulting in a balance at December 31, 2001 of $4,496,193. As part of the *Private Equity Transaction* onJanuary 2, 2002 as described more fully in Note 7, Health Holdingsconverted into Common

 

6

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Stock all of the Company’s Credit Agreement debt due to HealthHoldings, plus accrued interest of $67,013 for a total debt conversion of$4,563,206.

 

5.                                       *Loan Agreement with Majority Shareholder and OtherInvestors—*In August 2000, the Company entered into a LoanAgreement (the “Loan Agreement”) with Health Holdings and other investors (the“Lender Group”). The Loan Agreement allowed for advances (the “Loan Advances”)of up to $1.2 million at an interest rate of 8% per annum with due datesof September 11, 2002 for $50,000 and August 31, 2003 for theremaining balance outstanding. Interest only payments were to be required on aquarterly basis. On June 13, 2001, two investors converted their totaldebt of $150,000 plus accrued interest of $2,400 into Common Stock, receiving atotal of 476,250 shares of the Company’s Common Stock based on the then fairmarket value of $0.32. As part of the *PrivateEquity Transaction* on January 2, 2002 as described more fullyin Note 7, Health Holdings converted into Common Stock all of theCompany’s Loan Agreement debt due to Health Holdings, plus accrued interest of$11,051 for a total debt conversion of $752,496.

 

The Loan Agreement furtherprovided that the Lender Group could elect to convert all or any part of theLoan Advances into shares of the Company’s Common Stock at a conversion priceequal to the lower of (a) the average closing bid of the Company’s CommonStock for the ten trading days prior to the making of a Loan Advance or(b) the average closing bid of the Company’s common stock for the tentrading days prior to the date of receipt of notice of conversion. On August 8,2002, one investor (a member of the Board of Directors) converted debt of$50,000 which was due September 11, 2002 plus accrued interest of $427 intoCommon Stock, receiving a total of 720,392 shares of the Company’s common Stockbased on the then fair market value of $0.07.

 

On April 14, 2003, the Company entered into a loan agreement (the “LoanAgreement”) with Health Holdings and Botanicals, LLC, a principal shareholderof the Company, and certain other lenders (the “Lender Group”), pursuant towhich the Lender Group has agreed to lend the Company $450,000 and, subject tothe discretion of the Lender Group, up to an additional $300,000.  All advances under the Loan Agreement bearinterest at the rate of 15% per annum, are due on December 31, 2004, aresecured by substantially all of the assets of the Company, and are subordinatedto the Company’s indebtedness to Wells Fargo Business Credit, Inc. (“WellsFargo”).  The advances under the LoanAgreement will be used for the Company for working capital and generalcorporate purposes.  In consideration ofthe extension of credit under the Loan Agreement, Wells Fargo waived alldefaults of the Company as of December 31, 2002 under the Credit and SecurityAgreement dated as of February 27, 2000 and amended the agreement to, amongother things, reduce the covenants regarding minimum net income and minimumbook net worth and increased the interest rate to the prime rate plus 4.5%.

 

6.*                                       Lineof Credit—* On January 27, 2000, the Company entered into a three yearCredit and Security Agreement with Wells Fargo Business Credit, Inc. (WellsFargo) that initially allowed for maximum borrowings of up to $3,000,000, basedon certain percentages of eligible accounts receivable and inventories asdefined. As more fully described in Note 7, *PrivateEquity Transaction*, on December 20, 2001, terms of the Credit andSecurity Agreement were modified to include waiving the enforcement of existingdefaults as of December 20, 2001, increasing the credit available to theCompany to a maximum of $4,500,000 with an inventory maximum subline of$2,000,000, increasing the floating rate to the prime rate plus 2% andextending the maturity date to December 31, 2003. On September 19, 2002, the terms of the Credit and Security Agreementwere modified to include waiving the enforcement of existing defaults, reducingthe credit availability of the Company to a maximum of $4,325,000, requiringthat the Company maintain certain minimum levels of cash, and reducing thecovenants regarding minimum net income and minimum book net worth.  In consideration of the extension ofcredit under the Loan Agreement on April 14, 2003, Wells Fargo waived alldefaults of the Company as of December 31, 2002 under the Credit and SecurityAgreement dated as of February 27, 2000 and amended the agreement to, amongother things, reduce the covenants regarding minimum net income and minimumbook net worth and increased the interest rate to the prime rate plus 4.5%.Borrowings under the Credit and Security Agreement, which totaled $1,242,735 atMarch 31, 2003, are collateralized by substantially all assets of the Company.At March 31, 2003 the prime rate was 4.25% and the interest charge under theCredit and Security Agreement was 8.75%. The Credit and Security Agreementcontains covenants, which, among other things, require that certain financial ratiosbe met. As of March 31, 2003, the Company was in compliance with all covenants.

 

7

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7.*                                       PrivateEquity Transaction—* On January 2, 2002, the Company privately sold13,540,723 shares of Series B Convertible Preferred Stock (the “shares”) for $2million, and warrants to purchase an additional 33,641,548 shares of Series BConvertible Preferred Stock at an aggregate exercise price of $3.5 million (the“Warrants”), for $500,000. The shares and Warrants were purchased by WestgateEquity Partners, L.P. (“Westgate”). The Series B Convertible Preferred Stockbears dividends at a rate of 10% per annum, which will accumulate and compoundsemi-annually if not paid in cash. On the seventh anniversary of its issuance, theSeries B Convertible Preferred Stock will be automatically redeemed by theCompany at the original issuance price plus accrued and unpaid dividends,provided the Company is legally able to do so. Two members of the Board ofDirectors of the Company were elected exclusively by the holders of the SeriesB Convertible Preferred Stock voting as a separate class.

 

The Company may redeem the Series BConvertible Preferred Stock at any time prior to December 31, 2004 if theCompany receives a bona fide offer from a third party to invest equity capitalin the Company and the holders of the Series B Convertible Preferred Stockdo not make a Qualified Counter-Offer. A “Qualified Counter-Offer” is a written offer for an equity investmentin the Company that will yield gross proceeds in excess of the third party’soffer (but need not exceed $3,500,000), and which either (A) is accomplishedthrough the exercise of some or all of the Warrants, or (B) will providecapital on the same or better terms as the third party offer.  The Series B Convertible Preferred Stock hada beneficial conversion feature of $2,000,000, which was recorded as a discountand is being amortized over seven years.

 

As part of this transaction, Health Holdingsagreed to convert all of the Company’s outstanding debt to Health Holdings,including accrued interest (approximately $5,316,000), and to surrender all ofHealth Holdings’ Series A Convertible Preferred Stock (1,250,024 shares) forcancellation without conversion, in exchange for 35,989,855 shares of theCompany’s common stock. Furthermore, the warrants that Health Holdings holds topurchase up to 600,000 shares of Common Stock have been modified to beexercisable for Non-Voting Common Stock at an exercise price of $1 per share.

 

As part of this transaction, the Companyentered into a Management Services Agreement under which certain principals ofWestgate or its affiliates will provide management and consulting services tothe Company and amended and extended the employment agreement with the Company’sCEO. Also, on December 20, 2001 as part of this transaction and effective onits completion, Wells Fargo agreed to modify terms of its Credit and SecurityAgreement with the Company, to include waiving the enforcement of existingdefaults, increasing credit available to the Company to a maximum of$4,500,000, increasing the floating rate to the prime rate plus 2% andextending the maturity date to December 31, 2003, as more fully described underFootnote 6.

 

Under theterms of the Private Equity Transaction, if Westgate exercises the warrants infull, Westgate would hold a total of 47,182,271 shares of Series B ConvertiblePreferred Stock which would be convertible into the same number of shares ofCommon Stock, or 51% of the Company’s Common Stock on a fully diluted basis.

 

After thecompletion of the Private Equity Transaction, Westgate asserted that theCompany’s representations and warranties concerning the Company’scapitalization in the Purchase Agreement were inaccurate in that they omittedto disclose the fact that certain outstanding promissory notes of the Companyin an amount of $252,345 (the “Convertible Notes”) were convertible into sharesof the Common Stock of the Company at the market price of the Common Stock onthe date of conversion.  ConvertibleNotes in the amount of $50,000 have been converted into 720,392 shares ofCommon Stock to date, and $202,345 in Convertible Notes remain outstanding andwere convertible into 3,372,417 shares as of April 14, 2003.

 

The Company and Westgate agreed to resolvethis dispute by adjusting the conversion formula for the Series B Convertiblepreferred Stock.  In addition, Westgateand Health Holdings agreed that (i) the Company may issue additional options topurchase up to 1,250,000 shares of Common Stock to employees in accordance withthe Naturade, Inc. 1998 Incentive Stock Option Plan, and (ii) Health Holdingswill grant to Westgate a proxy to vote

 

8

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1.041 shares of Common Stock owned by HealthHoldings for each share of Common Stock issued on exercise of the new options.

 

The net proceeds of the transactions havebeen used by the Company for working capital and general corporate purposes.

 

*8.**                                      StockBased Compensation*

 

*Employee**Stock Option Plan**–***In February 1998, theCompany adopted an Incentive Stock Option Plan (the “Plan”) to enableparticipating employees to acquire shares of the Company’s common stock. ThePlan provided for the granting of incentive stock options up to an aggregate of850,000 shares, as amended. In October 2001, the Company amended the Plan byincreasing to 2,000,000 the number of shares of the Company’s common stockwhich may be subject to awards granted pursuant to the Plan. The actual numberof incentive stock options that may be granted to employees is determined bythe Compensation Committee based on the parameters set forth in the Plan. Underthe terms of the Plan, incentive stock options may be granted at not less than100% of the fair market value at the date of the grant (110% in the case of 10%shareholders). Incentive options granted under the Plan vest over a four-yearperiod from the date of grant. The Company has granted 832,000 incentiveoptions under the Plan at the weighted average exercise price per share of $0.45as of March 31, 2003. These options expire seven years from the date of grant.

 

*Director StockOptions**–*** In October 1999, 87,500options were issued to each of two then new board members at an exercise priceof $1.03.

 

*Warrants**–***On January 2,2002, the Company sold warrants to purchase 33,641,548 shares of Series BConvertible Common Stock. The aggregate purchase price of the warrants was$500,000 and the aggregate exercise price is $3.5 million. This transaction isdescribed more fully in Note 7, *Private Equity Transaction.*

 

In 1999, theCompany granted 600,000 warrants in conjunction with certain financingagreements. These warrants expire ten years from the date of grant. As part ofthe *Private Equity Transaction*described in Note 7, the holders of the warrants agreed they would beexercisable for Non-Voting Common Stock.

 

As part of arestructuring of the Company in 1991, equity holders exchanged their shares fornew common stock and Class A and Class B Warrants. The Class A Warrants expiredat December 31, 1996. The Class B Warrants allowed for the purchase of oneshare of common stock for $1.25 per share. Between December 31, 1999 andJanuary 14, 2000, 588 warrants were exercised. On January 15, 2000, theremaining 324,520 unexercised Class B warrants expired.

 

A summary ofthe Company’s outstanding stock options and warrants activity is as follows:

 
|                             |   | **Number of  Shares** |   | **Weighted  Average  Exercise  Price per  Share** |   | **Number  Exercisable** |       | **Weighted   Average  Exercise  price** |   |
|----------------------------------|--------|-----------------------|--------|---------------------------------------------------|--------|-------------------------|------------|-----------------------------------------|--------|
| Outstanding at December 31, 2002 |   | 34,473,548            |   | $                                                 | 0.12   |                    | 34,321,423 |                                    | $      | 0.11 |   |
| Granted                          |   | 0                     |   |                                              |   |                    |       |                                    |   |
| Exercised                        |   | 0                     |   |                                              |   |                    |       |                                    |   |
| Expired                          |   | (20,000               | )      | $                                                 | 3.30   |                    |       |                                    |   |   |
| Outstanding at March 31, 2003    |   | 34,453,548            |   | $                                                 | 0.11   |                    | 34,311,673 |                                    | $      | 0.12 |   |

 

9

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The followingtable summaries information about stock options and warrants outstanding atMarch 31, 2003

 
| **Range of  Exercise Prices** |       | **Options  and  Warrants  Outstanding** |       | **Weighted  Average  Remaining  Contract Life  In Years** |   | **Weighted  Average  Exercise  Price** |   | **Options  and  Warrants  Exercisable** |       | **Average  Exercise Price  for Exercisable  Options and  Warrants** |   |
|-------------------------------|------------|-----------------------------------------|------------|-----------------------------------------------------------|--------|----------------------------------------|--------|-----------------------------------------|------------|---------------------------------------------------------------------|--------|
| $                             | 0.104      |                                    | 33,641,548 |                                                      | 2      |                                   | $      | 0.10                                    |       | 33,641,548                                                          |   | $ | 0.10 |   |
| $                             | 0.15-.875  |                                    | 589,500    |                                                      | 2      |                                   | $      | 0.31                                    |       | 479,625                                                             |   | $ | 0.26 |   |
| $                             | 1.03 -1.13 |                                    | 222,500    |                                                      | 1      |                                   | $      | 1.08                                    |       | 190,250                                                             |   | $ | 1.11 |   |
|                          |       |                                    |       |                                                      |   |                                   |   |                                    |       |                                                                |   |
|                          |       | 34,453,548                              |       |                                                      |   | $                                      | 0.11   |                                    | 34,311,423 |                                                                | $      | 0.12 |   |

 

Pursuant toSFAS 123, the Company has elected to continue using the intrinsic value methodof accounting for stock-based awards granted to employees and directors inaccordance with APB Opinion No. 25 and related interpretations in accountingfor its stock option plan. Had the compensation cost for the Company stockoption plan been determined based on the fair value at the grant dates forawards under the plan consistent with the method of SFAS 123, the Company’s netloss and loss per share would have been the pro forma amounts presented below:

 
|                                                                                                                                                |   | **Three  Months Ended  March 31, 2003** |     | **Three  Months Ended  March 31, 2002** |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------------|----------|-----------------------------------------|--------|
|                                                                                                                                                |   |                                    |     |                                    |   |
| Net loss: As reported                                                                                                                               |   | $                                       | (192,658 | )                                       | $      | (665,811 | ) |
|                                                                                                                                                |   |                                    |     |                                    |   |
| Add:  Stock-based employee compensation expense  included in reported net loss, net of related tax effects                                     |   | 0                                       |     | 0                                       |   |
| Deduct:  Total stock-based employee compensation  expense determined under fair value based method for all awards, net of  related tax effects |   | (74,036                                 | )        | (83,427                                 | )      |
|                                                                                                                                                |   |                                    |     |                                    |   |
| Pro forma                                                                                                                                           |   | $                                       | (266,694 | )                                       | $      | (749,238 | ) |
|                                                                                                                                                |   |                                    |     |                                    |   |
| Basic and Diluted                                                                                                                                   |   |                                    |     |                                    |   |
| Net loss per share: As reported                                                                                                                     |   | $                                       | (0.01    | )                                       | $      | (0.02 | ) |
| Pro forma                                                                                                                                           |   | $                                       | (0.01    | )                                       | $      | (0.02 | ) |

 

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9.                                       *Segment Reporting -* Operating segments aredefined as components of an enterprise about which separate financialinformation is available that is evaluated regularly by the Company’s chiefdecision-maker, or decision-making group, in deciding how toallocate resources and in assessing performance.

 

The Company’s reportable operating segments include health foodspecialty stores and mass market categories. The Company does not allocateoperating expenses to these segments, nor does it allocate specific assets tothese segments. Therefore, segment information reported includes only sales,cost of sales and gross profit.

 

Operating segment data for the three months ended March 31, 2003and March 31, 2002 was as follows:

 
|                              |   | **Distribution Channels** |      |            |   |
|-----------------------------------|--------|---------------------------|-----------|-----------------|--------|
|                              |   | **Health Food**           |      | **Mass Market** |   | **Total** |   |
|                              |   |                      |      |            |   |   |   |
| Three months ended March 31, 2003 |   |                      |      |            |   |   |   |
| Sales                             |   | $                         | 2,026,425 |            | $      | 1,839,630 |   | $ | 3,866,055 |   |
| Cost of Sales                     |   | 1,057,821                 |      | 1,020,415       |   | 2,078,236 |   |
| Gross Profit                      |   | $                         | 968,604   |            | $      | 819,215 |   | $ | 1,787,819 |   |
| Three months ended March 31, 2002 |   |                      |      |            |   |   |   |
| Sales                             |   | $                         | 1,865,558 |            | $      | 1,507,458 |   | $ | 3,373,016 |   |
| Cost of Sales                     |   | 1,005,502                 |      | 879,611         |   | 1,885,113 |   |
| Gross Profit                      |   | $                         | 860,056   |            | $      | 627,847 |   | $ | 1,487,903 |   |

 

Sales are attributed to geographic areas based on the location of theentity to which the products were sold. Geographic segment data for the threemonths ended March 31, 2002 and March 31, 2001 was as follows:

 
|                              |   | **United States** |      | **International** |   | **Total** |   |
|-----------------------------------|--------|-------------------|-----------|-------------------|--------|-----------|--------|
|                              |   |              |      |              |   |      |   |
| Three months ended March 31, 2003 |   |              |      |              |   |      |   |
| Sales                             |   | $                 | 3,788,115 |              | $      | 77,940    |   | $ | 3,866,055 |   |
| Cost of Sales                     |   | 2,031,583         |      | 46,653            |   | 2,078,236 |   |
| Gross Profit                      |   | $                 | 1,756,532 |              | $      | 31,287    |   | $ | 1,787,819 |   |
| Three months ended March 31, 2002 |   |              |      |              |   |      |   |
| Sales                             |   | $                 | 3,304,419 |              | $      | 68,597    |   | $ | 3,373,016 |   |
| Cost of Sales                     |   | 1,839,616         |      | 45,497            |   | 1,885,113 |   |
| Gross Profit                      |   | $                 | 1,464,803 |              | $      | 23,100    |   | $ | 1,487,903 |   |

 

11

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During the three months ended March 31, 2003 and 2002, the Companyhad sales to customers in excess of 10% of the Company’s total net sales as shownin the table below.

 

**Major Customer Table**

 
|           |   | **Customer One** |    | **Customer Two** |   | **Customer Three** |   |
|----------------|--------|------------------|---------|------------------|--------|--------------------|--------|
|           |   | **Sales**        |    | **% of Sales**   |   | **Sales**          |   | **% of Sales** |   | **Sales** |   | **% of Sales** |   |
|           |   |             |    |             |   |               |   |   |   |   |   |   |   |
| March 31, 2003 |   | $                | 960,100 |             | 24.8   |               | $      | 761,900 |   | 19.7 |   | $ | 561,800 |   | 14.5 |   |
| March 31, 2002 |   | $                | 547,600 |             | 16.2   |               | $      | 603,900 |   | 17.9 |   | $ | 655,000 |   | 19.4 |   |

 

10.                                 *Guarantees-*In November 2002, the FinancialAccounting Standards Board (“FASB”) issued FASB Interpretation Number (“FIN”)45 *“Guarantor’s Accounting and DisclosureRequirements for Guarantees, including Indirect Guarantees of Indebtedness ofOthers-an interpretation of FASB Statements No. 5,57 and 107 and recission ofFIN 34.”*The following is a summary of the Company’s agreements thatthe company has determined is within the scope of FIN 45.

 

Under its bylaws, the Company has agreed to indemnify its officers anddirectors for certain events or occurrences arising as a result of the officeror director’s serving in such capacity. The term of the indemnification period is for the officer’s ordirector’s lifetime.  The maximumpotential amount of future payments the Company could be required to make underthese indemnification agreements is unlimited. However, the Company has a directors and officer liability insurancepolicy that limits its exposure and enables it to recover a portion of anyfuture amounts paid.  As a result of itsinsurance policy coverage, the Company believes the estimated fair value ofthese indemnification agreements is minimal and has no liability recorded forthese agreements as of March 31, 2003.

 

The Company enters into indemnification provisions under (i) itsagreements with other companies in its ordinary course of business, typicallybusiness partners, contractors, and customers, landlords and (ii) its agreementswith investors.  Under these provisionsthe Company generally indemnifies and hold harmless the indemnified party forlosses suffered or incurred by the indemnified party as a result of theCompany’s activities or, in some cases, as a result of the indemnified party’sactivities under the agreement.  Theseindemnification provisions often include indemnifications relating torepresentations made by the Company with regard to intellectual propertyrights.  These indemnificationprovisions generally survive the termination of the underlying agreement.  In addition, in some cases, the Company hasagreed to reimburse employees for certain expenses and to provide salarycontinuation during short-term disability. The maximum potential amount of future payments the Company could berequired to make under these indemnification provisions is unlimited.  The Company has not incurred material coststo defend lawsuits or settle claims related to these indemnification provisions.  As a result, the Company believes theestimated fair value of these provisions is minimal.  Accordingly, the Company has no liabilities recorded for theseagreements as of March 31, 2003.

 

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**ITEM 2. Management’s Discussion and Analysisof Financial Condition and Results of Operations**

 

*This discussion contains “forward-lookingstatements” within the meaning of Section 27A of the Securities Act of1933, as amended, and Section 21E of the Securities Exchange Act of 1934,as amended. Although the Company believes that the expectations reflected insuch forward-looking statements are reasonable, such statements are inherentlysubject to risk and the Company can give no assurances that such expectationswill prove to be correct. Such forward-looking statements involve risks anduncertainties, and actual results could differ from those described herein.Future results may be subject to numerous factors, many of which are beyond thecontrol of the Company. Such risk factors include, without limitation, therisks set forth below under “Risk Factors.” The Company undertakes noobligation to publicly release the result of any revisions to theseforward-looking statements that may be made to reflect events or circumstancesafter the date hereof or to reflect the occurrence of unexpected events.*

 

All comparisons below are for the three-month period ended March 31,2003 (“1Q’03) compared to the three-months ended March 31, 2002 (“1Q’02”).

 

## *General*

 

The Company is a branded natural products marketing company focused onhigh growth, innovative products designed to nourish the health and well-beingof consumers. The Company concentrates on the rapidly expanding soy food marketwhich reached sales of almost $2.5 billion in 2002 and is expected to grow 15%to 20% per year reaching $5 to $6 billion by 2005 according to Soyatechmarket research dated February 2001. The Company has purposely avoided thevitamin category which has been flat, while the herbal category has experienced15% to 25% declines per year since the late nineties. The Company’s productsinclude Naturade Total Soy, a full line of nutritionally complete mealreplacements available in several flavors of powders, ready-to-drink productsand bars, Naturade Soy protein boosters, Aloe Vera 80 health and beauty careproducts and other niche dietary supplements. The Company’s products are soldin supermarkets (e.g., Kroger, Fred Meyer, Safeway and Albertson’s), massmerchants (e.g., Wal*Mart, Kmart and Target), club stores (e.g., Sam’s Clubsand Costco), drug stores (e.g., CVS, Eckerd and Rite-Aid), natural foodsupermarkets (e.g., Whole Foods and Wild Oats) and over 5,000 independenthealth food stores.

 

### *CriticalAccounting Policies and Use of Estimates*

 

In preparing the financial statements, theCompany is required to make estimates and judgments which affect the results ofits operations and the reported value of assets and liabilities. Actual resultsmay differ from these estimates. The Company believes that the followingsummarizes critical accounting policies which require significant judgments andestimates in the preparation of its financial statements.

 

***Revenue Recognition***.Sales are recognized upon shipment and passage of title. The Company accruesfor estimated returns at the time of sale. In December 1999, theSecurities and Exchange Commission issued Staff Accounting Bulletin 101,Revenue Recognition (“SAB 101”). SAB 101 summarizes certain of the SEC staff’sviews in applying generally accepted accounting principles to selected revenuerecognition issues in financial statements. Implementation of SAB 101 wasrequired by the fourth quarter of 2000. The implementation of SAB 101 did nothave a material impact on the Company’s financial condition or results ofoperations.

 

***Inventory Valuation***.Merchandise inventories are stated at the lower of cost (first-in, first-outbasis) or market. The Company considers cost to include the direct cost offinished goods provided by co-packers as well as the cost of those componentssupplied to the co-packers. The Company regularly reviews aged and excessinventories to determine if the carrying value of such inventories exceedsmarket value with a reserve recorded to reduce the carrying value to marketvalue if necessary.

 

***Accounts ReceivableValuation***. Accounts receivable is stated net ofapplicable reserves for returns and allowances, billbacks and doubtfulaccounts. The Company regularly reviews accounts receivable to determine if thereserve amounts are appropriate by considering historical customer buyingpatterns, invoice aging, specific promotions and seasonal factors.

 

13

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*Results of Operations*

 

*Net Sales.*

 

Total net sales for 1Q’03 increased $493,039,or 15%, to $3,866,055 from $3,373,016 for 1Q’02, primarily as a result of newdistribution growth in the mass market and in managements opinion, a reductionin the decline in the health food market overall.

 

*Mass Market Net Sales.*  For 1Q’03, mass market net sales increased$332,172 or 22.0% to $1,839,630 from $1,507,458 for 1Q’02, primarily as aresult of new distribution sales initiated in 2002 converting into repeat(turn) business in 1Q’03, combined with increased penetration into club storessuch as Sam’s Club and BJ’s Wholesale.

 

*Health Food Net Sales.*  For 1Q’03, health food net sales increased$160,867, or 8.6%, to $2,026,425 from $1,865,558 for 1Q’02. This increase was aresult of the increased distributionby a distributor who newly assumed thedistribution of a major retail account, coupled with continued success inintroducing existing and new products into additional retail outlets.

 

*Channels of Distribution***On a percent of net sales basis, the breakdown ofsales between the mass market and health food channels for 1Q’03 was 52.4% forthe health food channel and 47.6% for the mass market channel compared to 55.3%in the health food channel and 44.7% in the mass market channel in 1Q’02.  Management believes the Company’s strategyto increase mass distribution is responsible for these positive results.

 

For 1Q’03, domestic net sales increased $483,696 or 14.6%, to$3,788,115 from $3,304,419 for 1Q’02 primarily due to the previously mentionedincrease in new distribution in the mass market and increased health foodsales.  For 1Q’03, international salesincreased $9,343, or 13.6%, to $77,940 from $68,597, as Company efforts to gainnew distribution in Canada have begun to produce results.

 

*Gross Profit*

 

Gross profit as a percentage of net sales for1Q’03 increased 2.1% to 46.2% of net sales, from 44.1% for 1Q’02. The increasewas due to lower product cost related to the increased sales mix of thereformulated Naturade Total Soy® product formula coupled with increasedwarehouse efficiency due to more consistent order flow.

 

*Selling, General and Administrative Expenses*

 

Selling, general and administrative expenses(“S, G &A”) for 1Q’03 decreased $176,926 to $1,933,129 or 50.0% of netsales from $2,110,055 or 62.6% of net sales for 1Q’02. This decrease isprimarily due to a $243,810 decrease in overhead expenses, principally frommanpower and consulting fee reductions, partially offset by a $63,884 increasein brand expenses related to higher net sales in 1Q’03. As a percent of sales,brand expenses were 15.0% and 18.7%, respectively, for 1Q’03 and 1Q’02. Thedecrease in brand expenses, as a percent of net sales, is primarily due to theCompany’s strategy to control overall costs and match brand expenses withproven sales opportunities.

 

*Interest Expense*

 

Interest expense for 1Q’03 decreased $1,497compared to 1Q’02 due to lower borrowing levels combined with lower base costof money.

 

14

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*Liquidityand Capital Resources*

 

The Company provided cash of $230,655 fromoperating activities in the three months ended March 31, 2003, compared to ause of cash of $435,648 in operating activities for the three months endedMarch 31, 2002. This increase in cash provided from operating activities isprimarily due to the Company’s inventory reduction program, which reducedinventories $563,892, and to collection efforts that reduced net accountsreceivable $243,261, partially offset by operating losses for the three monthsended March 31, 2003 compared to the three months ended March 31, 2002.

 

The Company’s working capital decreased $190,252from ($1,429,771) at December 31, 2002 to ($1,620,023) at March 31, 2003.This decrease was largely due to the decreases in inventory and receivablescoupled with extended vendor terms.

 

Cash used in investment activities during thethree months ended March 31, 2003 and March 31, 2002 was $0.

 

The Company’s cash used by financingactivities was $551,459 for the three months ended March 31, 2003 compared tocash provided by financing activities of $2,184,865 for the three months endedMarch 31, 2002. The March 31, 2003 amount was the result of net pay downs onthe Company’s line of credit.  TheMarch 31, 2002 amount was the result of the $2.5 million from thePrivate Equity Transaction, conversion into equity of the Health HoldingsCredit Agreement and Loan Agreement debt, and a decrease in borrowings underthe Credit and Security Agreement. See Notes 4, 5 and 7 to the FinancialStatements.

 

As of March 31, 2003, the Company was incompliance with all of the covenants of the Credit and Security Agreement withWells Fargo.

 

The accompanying financial statements havebeen prepared on a going-concern basis, which contemplates therealization of assets and the satisfaction of liabilities in the normal courseof business. At March 31, 2003, the Company has an accumulated deficit of$21,256,436, a net working capital deficit of $1,620,023, a stockholders’capital deficiency of $2,265,513, and has incurred recurring net losses. Thesefactors, among others, raise substantial doubt about the Company’s ability tocontinue as a going concern. The financial statements do not include anyadjustments that might result from the outcome of this uncertainty. TheCompany’s independent auditors qualified their opinion on the Company’sDecember 31, 2002 financial statements by including an explanatory paragraph inwhich they expressed substantial doubt about the Company’s ability to continueas a going concern

 

The Company believes that its existing cashbalances and financing arrangements will provide it with sufficient funds tofinance its operations during the next twelve months, provided that Wells Fargodoes not exercise its right to terminate, or demand immediate payment of allamounts outstanding under the Credit and Security Agreement. However, theCompany may seek to raise additional funds through the sale of public orprivate equity and/or debt financings or from other sources. No assurance canbe given that additional financing will be available in the future or that, ifavailable, such financing will be obtainable on terms acceptable to the Companyor its stockholders.

 

15

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***Impactof Contractual Obligations and Commercial Commitments***

 

The following summarizes the Company’scontractual obligations at March 31, 2003 and the effects such obligations areexpected to have on liquidity and cash flow in future periods.

 
| **Contractual**                                  |   | **Payments  Due by Period** |      |
|--------------------------------------------------|--------|-----------------------------|-----------|
| **Obligations**                                  |   | **Total**                   |      | **Less  than 1 Year** |   | **1-3  Years** |   | **4-5  Years** |   | **After  5 Years** |   |
|                                             |   |                        |      |   |   |   |   |   |   |   |   |
| Long-Term Debt                                   |   | $                           | 1,505,284 |   | $ | 1,475,342 |   | $ | 29,942 |   | $ | 0 |   | $ | 0 |   |
| Capital Lease Obligations                        |   | $                           | 0         |   |   |   |   |   |   |   |   |   |
|                                             |   |                        |      |   |   |   |   |   |   |   |   |
| Operating Leases                                 |   | $                           | 1,438,085 |   | $ | 313,100 |   | $ | 1,124,985 |   | $ | 0 |   | $ | 0 |   |
| Unconditional Purchase Obligations               |   | $                           | 0         |   |   |   |   |   |   |   |   |   |
| Other Long-Term Obligations                      |   | $                           | 0         |   |   |   |   |   |   |   |   |   |
| Total Contractual Cash Obligations               |   | $                           | 2,943,369 |   | $ | 1,788,442 |   | $ | 1,154,927 |   | $ | 0 |   | $ | 0 |   |
| Series B Convertible Redeemable Preferred  Stock |   | $                           | 2,000,000 |   | $ | 0 |   | $ | 0 |   | $ | 0 |   | $ | 2,000,000 |   |
|                                             |   | $                           | 4,943,369 |   | $ | 1,788,442 |   | $ | 1,154,927 |   | $ | 0 |   | $ | 2,000,000 |   |

 

*Recently Issued Statements of FinancialAccounting Standards.*

 

In January2003, the Financial Accounting Standards Board (“FASB”) issued FASBInterpretation No. 46, *Consolidation ofVariable Interest Entities,* an interpretation of Accounting ResearchBulletins (“ARB”) No. 51, *ConsolidatedFinancial Statements* (“FIN 46”). FIN 46 clarifies the application of ARB No. 51 to certain entities inwhich equity investors do not have the characteristics of a controllingfinancial interest or do not have sufficient equity at risk for the entity tofinance its activities without additional subordinated financial support fromother parties.  The Company does notbelieve the adoption of FIN 46 will have a material impact on its financialposition and results of operations.

 

In December2002, the FASB issued Statement of Financial Accounting Standards No. 148, *Accounting for Stock-Based Compensation — Transitionand Disclosure* (“FAS 148”), which amends Statement of FinancialAccounting Standards No. 123, *Accounting forStock-Based Compensation* (“FAS 123”). FAS 148 provides alternativemethods of transition for a voluntary change to the fair value based method ofaccounting for stock-based employee compensation. In addition, FAS 148 amendsthe disclosure requirements of FAS 123 to require more prominent and morefrequent disclosures in financial statements of the effects of stock-basedcompensation. The transition guidance and annual disclosure provisions of FAS148 are effective for fiscal years ending after December 15, 2002. The interimdisclosure provisions are effective for financial reports containing condensedfinancial statements for interim periods beginning after December 15, 2002. Theadoption of FAS 148 did not have a material impact on the Company’sconsolidated balance sheet or results of operations as the Company intends tocontinue to account for its equity based compensation plans using the intrinsicmethod.  The Company provided theinterim disclosures required by FAS 148 in the first quarter of 2003.

 

In November2002, the FASB issued Interpretation No. 45, *Guarantor’sAccounting and Disclosure Requirements for Guarantees, Including IndirectGuarantees of Indebtedness to Others*, an interpretation of FASBStatements No. 5, 57 and 107 and a rescission of FASB Interpretation No. 34.This interpretation elaborates on the disclosures to be made by a guarantor inits interim and annual financial statements about its obligations underguarantees issued. The interpretation also clarifies that a guarantor isrequired to recognize, at inception of a guarantee, a liability for the fairvalue of the obligation undertaken. The initial recognition and measurementprovisions of the interpretation are applicable to guarantees issued ormodified after December 31, 2002 and are not expected to have a material effecton the Company’s financial statements. The disclosure requirements areeffective for financial statements of interim and annual periods ending afterDecember 31, 2002. The Company adopted this Statement as of January 1, 2003 andit had no material impact on its financial statements.

 

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In June 2002, the FASB issuedFAS No. 146, *Accounting for Costs Associatedwith Exit or Disposal Activities*, which addresses accounting forrestructuring and similar costs. FAS No. 146 supersedes previous accountingguidance, principally Emerging Issues Task Force (“EITF”) Issue No. 94-3. TheCompany will adopt the provisions of SFAS No. 146 for restructuring activitiesinitiated after December 31, 2002. FAS No. 146 requires that the liability forcosts associated with an exit or disposal activity be recognized when theliability is incurred. Under EITF No. 94-3, a liability for an exit cost wasrecognized at the date of a company’s commitment to an exit plan. FAS No. 146also establishes that the liability should initially be measured and recordedat fair value. Accordingly, FAS No. 146 may affect the timing of recognizingfuture restructuring costs as well as the amount recognized.

 

In May 2002, the FASB issued FAS 145, *Rescissionof FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, andTechnical Corrections.* FAS 145 eliminates Statement 4 (and Statement64, as it amends Statement 4), which requires gains and losses fromextinguishments of debt to be aggregated and, if material, classified as anextraordinary item, and thus, also the exception to applying Opinion 30 iseliminated as well. This statement is effective for years beginning after May,2002 for the provisions related to the rescission of Statements 4 and 64, andfor all transactions entered into beginning May, 2002 for the provision relatedto the amendment of Statement 13.  Theadoption of SFAS 145 did not have a material impact on the Company’s operationsand financial position.

 

*Risk Factors*

 

The short and long-term success of theCompany is subject to certain risks, many of which are substantial in nature.Stockholders and prospective stockholders in the Company should considercarefully the following risk factors, in addition to other informationcontained herein. This Form 10-Q contains forward-looking statements whichare subject to a variety of risks and uncertainties. The Company’s actualresults could differ materially from those anticipated in these forward-lookingstatements as a result of various factors, including those set forth below.

 

***Future losses andability to continue as a going concern***

 

Naturade’s independent accountants havequalified their opinion on the Company’s December 31, 2002 financialstatements, expressing substantial doubt concerning the Company’s ability tocontinue as a going concern. At March 31, 2003, the Company had anaccumulated deficit of $21,256,436, net working capital deficit of $1,620,023and a stockholders’ capital deficiency of $2,265,513. The Company anticipatesthat it will incur net losses for the foreseeable future and will need accessto additional financing for working capital and to expand its business.Moreover, as of December 31, 2002, the Company was in default of theminimum book net worth and minimum net income covenants in the Credit andSecurity Agreement with its principal lender and only recently received awritten waiver of such default. Without a waiver of any future defaults thatmay occur, or a modification of the Credit and Security Agreement, the lendercould terminate the agreement and demand immediate payment of the full amountof indebtedness. Management has taken a number of steps to address thissituation, including the Private Equity Transaction completed onJanuary 2, 2002, the Loan Agreement entered into on April 14, 2003 underwhich the Company can borrow, subject to certain conditions, $450,000 and canborrow up to an additional $300,000 at the discretion of the lenders and effortsto decrease operating losses by expanding sales and reducing costs.Nevertheless, the Company expects to incur operating losses for some time inthe future and cannot give assurance that additional financing will beavailable when needed or that it will obtain needed waivers or modifications ofthe Credit and Security Agreement. If unsuccessful in those efforts, Naturadecould be forced to cease operations and investors in Naturade’s Common Stockcould lose their entire investment.

 

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***Dependence oncurrent and ongoing financing***

 

The Company’s success is dependent on itscurrent financing as well as new financing to support its working capitalrequirements and fund its operating losses. Starting in 2000, the Companyembarked on a strategy to rollout the Naturade Total Soy® product line to themass market, which requires a high level of marketing expenditures. Althoughthe Company obtained $2.5 million as part of the Private EquityTransaction on January 2, 2002, and entered into the Loan Agreement as ofApril 14, 2003 under which the Company can borrow $450,000 and can borrow up toan additional $300,000 at the discretion of the lenders, the Company may nothave adequate financial resources to fund this strategy. Further, no assurancecan be given that the Company will have access to additional funds or, if fundscan be obtained, that the terms on which they can be obtained will besatisfactory. In such event, the Company’s business and results of operations,and its ability to continue as a going concern, will be materially adverselyaffected.

 

***Future Sales ofEquity Securities Could Dilute the Company’s Common Stock***

 

The Company may seek to obtain new financingfrom various sources, including the sale of its securities. Future sales ofCommon Stock or securities convertible into Common Stock at or below recentmarket prices could result in dilution of the Common Stock. In addition, theconversion of the 13.5 million shares of Series B ConvertiblePreferred Stock originally sold to Westgate Equity Partners, L.P. (“Westgate”),for $2 million, together with conversion of the 35,989,555 shares ofSeries B Convertible Preferred Stock issuable on exercise of warrants heldby Westgate, which have an exercise price of approximately $0.104 per share(and, including the original cost of the warrant, a total consideration ofapproximately $0.119 per share), has resulted in dilution of the Common Stock.The perceived risk of dilution may cause some of the Company’s stockholders tosell their shares, which could further reduce the market price of the CommonStock.

 

***Naturade may faceinterruption of production and services due to increased security measures inresponse to terrorism***

 

Naturade’s business depends on the free flowof products and services through the channels of commerce. Recently, inresponse to terrorist activities and threats aimed at the U.S., transportation,mail, financial and other services have been slowed or stopped altogether.Further delays or stoppages in transportation, mail, financial or otherservices could have a material adverse effect on the Company’s business,results of operations and financial condition. Furthermore, the Company mayexperience an increase in operating costs, such as costs for transportation,insurance and security, as a result of the terrorist activities and potentialactivities. The Company may also experience delays in receiving payments frompayers that have been affected by terrorist activities and potentialactivities. The U.S. Economy in general is being adversely affected by theterrorist activities and potential activities and any economic downturn couldadversely impact the Company’s results of operations, impair its ability toraise capital or otherwise adversely affect its ability to grow its business.

 

***Impact of governmentregulation***

 

The Company’s operations, properties andproducts are subject to regulation by various foreign, federal, state and localgovernment entities and agencies, including the FDA and FTC. Among othermatters, such regulation is concerned with statements and claims made inconnection with the packaging, labeling, marketing and advertising of theCompany’s products. The governmental agencies have a variety of processes andremedies available to them, including initiating investigations, issuingwarning letters and cease and desist orders, requiring corrective labeling oradvertising, requiring consumer redress, seeking injunctive relief or productseizure, imposing civil penalties and commencing criminal prosecution.

 

As a result of the Company’s efforts tocomply with changes in applicable statutes and regulations, the Company hasfrom time to time reformulated, eliminated or relabeled certain of its productsand revised certain aspects of its sales, marketing and advertising programs.The Company may be subject in the future to additional laws or regulationsadministered by federal, state, local or foreign regulatory authorities, therepeal or amendment of laws or regulations which the Company considersfavorable, such as DSHEA, or more stringent interpretations of current laws orregulations. The

 

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Company cannot predict the nature of future laws, regulations,interpretations or applications, nor can the Company predict what effectadditional governmental regulations or administrative orders, when and ifpromulgated, would have on the Company’s business in the future. Such futurelaws and regulations could, however, require the reformulation of products tomeet new standards, the recall or discontinuance of products that cannot bereformulated, the imposition of additional record keeping requirements,expanded documentation of product efficacy, expanded or modified labeling andscientific substantiation, including health warnings or restrictions onbenefits described for our products. Any of or all of such requirements couldhurt sales of our products or increase our costs, resulting in material harm tothe Company’s results of operations and financial condition.

 

***Technologicalchanges***

 

The Company currently is engaged indeveloping nutraceuticals, which are characterized by extensive and costlyresearch efforts and rapid technological progress and change. New processdevelopments are expected to continue at a rapid pace in both industry andacademia. The Company’s future success will depend on its ability to developand commercialize its existing product candidates and to develop new products.There can be no assurance that the Company will successfully complete thedevelopment of any of its existing product candidates or that any of its futureproducts will be commercially viable or achieve market acceptance. In addition,research and development and discoveries by others could render some or all ofthe Company’s programs or potential product candidates uncompetitive orobsolete.

 

***Dependence oncontinued business from the Company’s key customers***

 

The Company’s three largest customerstogether account for 59.1% of sales revenue for the three-month period endedMarch 31, 2003. One mass market customer, Wal*Mart and Sam’s Club, representedapproximately 24.8% of Naturade’s total sales, and two health food distributorsaccounted for 34.2% of total sales for the three-month period ended March 31,2003. The loss of such customers could have a material adverse effect on theCompany’s results of operations. From time to time, major customers of Naturadehave experienced financial difficulties. Naturade does not have long-termcontracts with any of its customers and, accordingly, there can be no assurancethat any customer will continue to place orders with Naturade to the sameextent it has in the past, or at all.

 

***Dependence onthird-party manufacturers***

 

The use of contract manufacturers and theresulting loss of direct control over production could result in the Company’sfailure to receive timely delivery of products of acceptable quality. Althoughthe Company believes that alternative sources of contract manufacturingservices are available, the loss of one or more contract manufacturers couldhave a material adverse effect on the Company’s results of operations until analternative source is located and has commenced producing the Company’sproducts.

 

Although the Company requires that itscontract manufacturers comply with FDA manufacturing guidelines, Naturadecannot assure that these third-party companies will always act in accordance tothese regulations. If the manufacturing facilities used by the Company’sthird-party manufacturers did not meet those standards, the production of theCompany’s products could be delayed until the necessary modifications are madeto comply with those standards or alternate manufacturers are located.Furthermore, the potential exists for circumstances to arise which would requireNaturade to seek out alternate manufacturers who operate in compliance with theFDA’s requirements.

 

***Competition***

 

The market for nutraceutical products ishighly competitive. Many of the Company’s competitors have substantiallygreater capital resources, research and development capabilities, andmanufacturing and marketing resources, capabilities and experience than theCompany. The Company’s competitors may succeed in developing products that aremore effective or less costly than any products that may be developed by theCompany.

 

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***Dependence onqualified personnel***

 

The Company’s success is dependent upon itsability to attract and retain qualified sales, marketing, scientific andexecutive management personnel. To commercialize its products and productcandidates, the Company must maintain and expand its personnel, particularly inthe areas of product sales and marketing. The Company faces intense competitionfor such personnel from other companies, academic institutions, governmententities and other research organizations. There can be no assurance that theCompany will be successful in hiring or retaining qualified personnel.Moreover, managing the integration of such new personnel could pose significantrisks to the Company’s development and progress and increase its operatingexpenses.

 

***Variability ofquarterly results***

 

The Company has experienced, and expects tocontinue to experience, variations in its net sales and operating results fromquarter to quarter. The Company believes that the factors which influence thisvariability of quarterly results include the timing of the Company’sintroduction of new product lines, the level of consumer acceptance of eachproduct line, general economic and industry conditions that affect consumerspending and retailer purchasing, the availability of manufacturing capacity,the timing of trade shows, the product mix of customer orders, the timing ofplacement or cancellation of customer orders, the weather, transportationdelays, the occurrence of chargebacks in excess of reserves and the timing ofexpenditures in anticipation of increased sales and actions of competitors.Accordingly, a comparison of the Company’s results of operations from period toperiod is not necessarily meaningful, and the Company’s results of operationsfor any period are not necessarily indicative of future performance.

 

***Product liabilityexposure***

 

Product liability risk is inherent in thetesting, manufacture, marketing and sale of the Company’s products and productcandidates, and there can be no assurance that the Company will be able toavoid significant product liability exposure. The Company may be subject tovarious product liability claims, including, among others, that its productsinclude inadequate instructions for use or inadequate warnings concerningpossible side effects and interactions with other substances. The Companycurrently maintains a general liability insurance policy and a productliability insurance policy. There can be no assurance that the Company will beable to maintain insurance in sufficient amounts to protect the Company againstsuch liabilities at a reasonable cost. Any future product liability claimagainst the Company could result in the Company paying substantial damages,which may not be covered by insurance and may have a material adverse effect onthe business and financial condition of the Company.

 

***Naturade may not beable to identify suitable strategic partners to realize the Company’s growthstrategy.***

 

In addition to internal expansion of itsexisting business, Naturade has a strategy to expand its business externally byidentifying compatible companies for strategic alliances and strategicinvestments in Naturade. Naturade may not succeed in identifying thesepotential strategic partners or may be unable to conclude agreements with them.If so, Naturade’s future growth may be limited, and it may be unable to achieveprofitability.

 

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***Expanding theCompany’s sales in the mass market has increased branding costs and resulted inless stable demand for the Company’s products.***

 

Naturade, traditionally a marketer for thehealth food market, has recently built a presence in the mass market. Whileyielding increased revenue, selling to the mass market has also resulted insignificant new costs and risks for Naturade. Mass market sales require greater expenditures for branding.  Mass market brand expenses were 15.3% of netsales as compared to health food brand expenses of 11.5% of net sales.  Compared to sales in the health food market,the aggregate volume of mass market orders can vary significantly from periodto period and tends to be more sensitive to short term or local variations inmarket conditions. The instability can make planning difficult and can causeunexpected reductions in sales, or in orders that exceed Naturade’s short-termcapacity, in either case resulting in lost revenue. Failure to manage the costsand risks associated with the mass market could cause material adverse harm toNaturade’s business.

 

***The dietarysupplement industry as a whole is experiencing a decline in sales.***

 

Naturade’s business consists primarily ofselling natural products and functional foods, including soy protein basedproducts. While Naturade’s sales decreased in 2002, the soy foods category as awhole has recently experienced increased sales. Other categories of dietarysupplements have experienced reduced sales in recent periods after severalyears of dramatic growth. In particular, revenues in both the herbal and healthfood store categories have significantly declined. There can be no assurancethat this general consumer trend will not be experienced by Naturade’s productcategories as well. Even if Naturade is successful in increasing sales withinits market category, a decline in the overall market for natural products orfunctional foods could have a material adverse affect on Naturade’s business.

 

***Effect of adversepublicity***

 

The Company’s products are formulated withvitamins, minerals, herbs and other ingredients that the Company regards assafe when taken as suggested by the Company and that scientific studies havesuggested may involve health benefits. While the Company conducts extensivequality control testing on its products, the Company generally does not conductor sponsor clinical studies relating to the benefits of its products. TheCompany is highly dependent upon consumers’ perception of the overall integrityof its business, as well as the safety and quality of its products and similarproducts distributed by other companies which may not adhere to the samequality standards as the Company. The Company could be adversely affected ifany of the Company’s products, or any similar products distributed by othercompanies, should prove or be asserted to be harmful to consumers or shouldscientific studies provide unfavorable findings regarding the effectiveness ofsuch products. The Company’s ability to attract and retain distributors couldbe adversely affected by negative publicity relating to it or to other directsales organizations or by the announcement by any governmental agency ofinvestigatory proceedings regarding the business practices of the Company orother direct sales organizations.

 

***IntellectualProperty Protection***

 

Our success depends in part on our ability topreserve our trade secrets and know-how, and operate without infringing on theproperty rights of third parties. The Company does not have any patents, and asa result another company could replicate one or more of Naturade’s products.The Company’s policy is to pursue registrations for all of the trademarksassociated with its key products. The Company relies on common law trademarkrights to protect its unregistered trademarks as well as its trade dressrights. Common law trademark rights generally are limited to the geographicarea in which the trademark is actually used, while a U.S. federal registrationof a trademark enables the registrant to stop the unauthorized use of the trademarkby any third party anywhere in the U. S. The Company intends to register itstrademarks in certain foreign jurisdictions where the Company’s products aresold. However, the protection available, if any, in such jurisdictions may notbe as extensive as the protection available to the Company in the U.S.

 

Currently, the Company has 18 U.S. trademarksas well as a California registration of one trademark. The Company alsomaintains trademark registrations in approximately eleven foreign countries.Because of its limited financial resources, the Company cannot in all casesexhaustively monitor the marketplace for trademark violations. It will evaluateand pursue potential infringement on a case-by-case basis in accordance withits business needs and financial resources. If

 

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the Company is not aware of some infringing uses or elects not topursue them, the value of its trademarks could be substantially weakened. Ifthe Company takes action to enforce its property rights, litigation may benecessary. Any such litigation could be very costly and could distract theCompany’s personnel. Due to limited financial resources, Naturade may be unableto pursue some litigation matters. In matters it does pursue, Naturade canprovide no assurance of a favorable outcome. An unfavorable outcome in anyproceeding could have a material adverse effect on the Company’s business,financial condition and results of operations.

 

***Introduction of newproducts***

 

Each year, the Company introduces newproducts to meet consumer demands and counter competitive threats. These newproducts include product line extensions, such as new flavors to currentlyexisting products, as well as new formulations or configurations, such asready-to-drink products and bars. The Company experiences significant costs informulating new products, designing packaging and merchandising. While theCompany conducts extensive market research to determine consumer trends in boththe mass market and health food market, there can be no assurance that theCompany’s new products will be accepted by consumers and retailers. Inaddition, there can be no assurance that once new products are initiallydistributed to mass market and health food retailers, there will be repeatorders for these new products. Furthermore, expensive introductory retailercharges for additional shelf space may negate any initial increase in sales.

 

***Stock Price***

 

The market price of the Company’s CommonStock is likely to be volatile and could be subject to significant fluctuationsin response to the factors such as quarterly variations in operating results,operating results which vary from the expectations of securities analysts andinvestors, changes in financial estimates, changes in market valuations ofcompetitors, announcements by the Company or its competitors of a materialnature, loss of one or more customers, additions or departures of keypersonnel, future sales of Common Stock and stock market price and volumefluctuations. Also, general political and economic conditions such asrecession, or interest rate or currency rate fluctuations may adversely affectthe market price of the Company’s Common Stock.

 

***Closely ControlledStock***

 

At March 31, 2003, Westgate Equity Partners,L.P. beneficially owned approximately 52.0% of the Company’s Common Stock,Health Holdings beneficially owned 45.3% of the Company’s Common Stock, andexecutive officers and directors of the Company as a group beneficially owned98.9% of the Company’s Common Stock. Shares “beneficially owned” include sharesthat a person owns or has a right to acquire within 60 days, eitherdirectly or through affiliates. Accordingly, Westgate Equity Partners, LLC andHealth Holdings have the ability to control the outcome on all mattersrequiring stockholder approval, including, but not limited to, the election andremoval of directors, any merger, sale, consolidation or sale of substantiallyall of the assets of the Company, and to control the Company’s management andaffairs.

 

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**ITEM 3. Quantitative and QualitativeDisclosures About Market Risk**

 

The Company’s earnings are affected by fluctuations in the value of theU.S. dollar as compared to foreign currencies as a result of internationalpurchases. As a result, the Company bears the risk of exchange rate gains orlosses that may result in the future as a result of this financing structure.The Company’s exposure to market risk for changes in interest rates relatesprimarily to the Company’s long-term debt.

 

The Company’s long-term debt primarilyconsists of a $4.5 million line of credit originally entered into onJanuary 27, 2000 and amended on April 14, 2003 and a $252,345 LoanAgreement with investors, after giving affect to the Health Holdings debt-toequity conversion on January 2, 2002 as part of the Private EquityTransaction as described more fully in Note 7 to the Financial Statements.The $4 million Credit Agreement with the majority shareholder of theCompany was converted into equity on January 2, 2002 as part of thePrivate Equity Transaction. The line of credit bears interest at prime rateplus 4.5%. The Loan Agreement bears interest at 8% per annum with due dates ofSeptember 11, 2002 for $50,000 and of August 2003 for the remainingbalance. However, given the fixed interest rate on the Loan Agreement, interestrate changes generally will have no effect on the interest rates under the LoanAgreement or on the Company’s results of operations. Given the variableinterest rate on the line of credit, the impact of interest rate changes on theline of credit could have a material impact on the Company’s results ofoperations. For 1Q’03, the interest expense on the line of credit was $24,728.If the interest rate on the line of credit for 1Q’03 had increased by onepercent to prime rate plus 5.5%, this would result in an interest expense of$27,554 for 1Q’03.

 

##### **ITEM 4. Controls and Procedures**

 

(a)           Evaluationof disclosure controls and procedures.

 

Within the 90 days prior to the filingdate of this report, the Chief Executive Officer and the Chief FinancialOfficer of the Company, with the participation of the Company’s management,carried out an evaluation of the effectiveness of the Company’s disclosurecontrols and procedures pursuant to Exchange Act Rule 13a-14.  Based upon that evaluation, the ChiefExecutive Officer and the Chief Financial Officer believe that, as of the dateof the evaluation, the Company’s disclosure controls and procedures areeffective in making known to them material information relating to the Company(including its consolidated subsidiaries) required to be included in thisreport.

 

Disclosure controls and procedures, no matterhow well designed and implemented, can provide only reasonable assurance ofachieving an entity’s disclosure objectives. The likelihood of achieving such objectives is affected by limitationsinherent in disclosure controls and procedures.  These include the fact that human judgment in decision-making canbe faulty and that breakdowns in internal control can occur because of humanfailures such a simple errors or mistakes or intentional circumvention of theestablished process.

 

(b)           Changes in internalcontrols.

 

There were no significant changes in the Company’s internal controls orin other factors that could significantly affect internal controls, known tothe Chief Executive Officer or the Chief Financial Officer, subsequent to thedate of the evaluation

 

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**PARTII. Other Information**

 

**ITEM1. Legal Proceedings**

 

NONE

 

**ITEM2. Changes in Securities**

 

NONE

 

**ITEM3. Defaults upon Senior Securities**

 

NONE.

 

**ITEM4. Submission of Matters to a Vote of Security Holders**

 

*Action by Written Consent to Amend Certificate of Designation of SeriesB Convertible Preferred Stock*

 

On April 14, 2003, holders of 92% of theCommon Stock of the Company and 100% of the Series B Convertible PreferredStock of the Company (the “Series B Preferred”) voted all of their shares bywritten consent to approve an amendment to the Certificate of Designation ofthe Series B Preferred (the “Certificate of Designation”).  The amendment has the effect of (i)modifying the antidilution conversion formula for the Series B Preferredto provide additional shares of Common Stock upon conversion, to compensate fordilution that may result from the convertibility of certain promissory notes ofthe Company; (ii) clarifying the treatment of fractional shares resulting fromthe operation of the conversion formula for the Series B Preferred, and (iii)correcting an erroneous cross reference in the Certificate of Designation.Taking such action requires all of the following: (i) the affirmative vote of more than 50% of the shares of the Company,with each share of Common Stock having one vote and each share of Series BPreferred having a number of votes equal to the number of sharesof Common Stock into which it could be converted on the date of the writtenconsent; (ii) the affirmative vote of more than 50% of the shares of CommonStock voting as a separate class, and (iii) the affirmative vote of more than50% of the shares of Series B Preferred voting as a separate class.

 

The foregoing description of the amendment tothe Certificate of Designation is qualified in its entirety by reference to thetext of the amendment, which is filed with this Report as Exhibit A to Exhibit99.2, Action by Consent of Stockholders. The complete Certificate of Designation, as amended, is filed with thisReport as Exhibit 3.5.

 

*Action by Written Consent to Amend Certificate of Incorporation*

 

On April 14, 2003, holders of 92% of theCommon Stock of the Company and holders of 100% of the Series B Preferred votedall of their shares by written consent to approve an amendment to theCertificate of Incorporation of the Company. The amendment has the effect of increasing the Company’s authorizedshares of Common Stock from 100,000,000 shares to 150,000,000 shares. Takingsuch action requires the affirmative vote of more than 50% of the shares of theCompany, with each share of Common Stock having one vote and each share ofSeries B Preferred having a number of votes equal to the number of shares ofCommon Stock into which it could be converted on the date of the writtenconsent.

 

The foregoing description of the amendment tothe Certificate of Incorporation is qualified in its entirety by reference tothe text of the amendment, which is filed with this Report as Exhibit B toExhibit 99.2, Action by Consent of Stockholders.  The company’s Certificate of Incorporation, as so amended, isfiled with this Report as Exhibit 3.1.

 

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*Action by Written Consent of Holders of Series B Convertible PreferredStock Consenting to New Indebtedness*

 

On April 14, 2003, holdersof 100% of the Series B Preferred voted all of their shares by written consentto consent to new indebtedness of the Company pursuant to a loan transactionwhereby the Company may borrow up $450,000 pursuant to subordinated securedpromissory notes issued to a principal stockholder of the Company and certainother lenders, secured by substantially all of the assets of the Company.  Pursuant to Section B.2 of theCertificate of Designation, such action requires the affirmative vote of morethan 50% of the shares of Series B Preferred.

 

**ITEM5. Other Information**

 

NONE

 

**ITEM6. Exhibits and Reports on Form 8-K**

 

(a)                                  Exhibits

 
| **Exhibit No.** |   | **Description**                                                                                              |
|-----------------|--------|--------------------------------------------------------------------------------------------------------------|
| 3.1             |   | Certificate of Incorporation, as amended                                                                     |
| 4.4             |   | Certificate of Designation of Series B  Convertible Preferred Stock, dated December 20, 2001, as amended     |
| 99.1            |   | Certification Pursuant to 18 U.S.C. 1350,  Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 99.2            |   | Action by Unanimous Written Consent of the  Stockholders of Naturade, Inc., dated April 14, 2003             |

 

(b)           Reportson Form 8-K:

 

On April 25, 2003 the Company filed aForm 8-K reporting the Seventh Amendment to the Credit and SecurityAgreement and Waiver with Wells Fargo Business Credit and the Company’s earningrelease for the year ended December 31, 2002.

 

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###### **S I G N A T U R E S**

 

Pursuant to the requirements of theSecurities Exchange Act of 1934, the Registrant has duly caused this report tobe signed on its behalf by the undersigned hereunto duly authorized.

 
|   |   | NATURADE, INC. |   |
|--------|--------|---------------------|--------|
|   |   | (Registrant)        |   |

 
| DATE: May 15, 2003 | By     |                                     |
|-------------------------|--------|------------------------------------------|
|                    |   | /s/ Bill D. Stewart                      |   |
|                    |   | Bill D. Stewart  Chief Executive Officer |

 
| DATE: May 15, 2003 | By     |                                          |
|-------------------------|--------|-----------------------------------------------|
|                    |   | /s/Stephen M. Kasprisin                       |   |
|                    |   | Stephen M. Kasprisin  Chief Financial Officer |

 

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**CERTIFICATION**

 

I, Bill D. Stewart, certify that:

 

1.                                       I have reviewedthis quarterly report on Form 10-Q of Naturade, Inc.;

 

2.                                       Based on myknowledge, this quarterly report does not contain any untrue statement of amaterial fact or omit to state a material fact necessary to make the statementsmade, in light of the circumstances under which such statements were made, notmisleading with respect to the period covered by this quarterly report;

 

3.                                       Based on myknowledge, the financial statements, and other financial information includedin this quarterly report, fairly present in all material respects the financialcondition, results of operations and cash flows of the registrant as of, andfor, the periods presented in this quarterly report;

 

4.                                       The registrant’sother certifying officers and I are responsible for establishing andmaintaining disclosure controls and procedures (as defined in Exchange ActRules 13a-14 and 15d-14) for the registrant and we have:

 

a)                                      designed suchdisclosure controls and procedures to ensure that material information relatingto the registrant, including its consolidated subsidiaries, is made known to usby others within those entities, particularly during the period in which thisquarterly report is being prepared;

 

b)                                     evaluated theeffectiveness of the registrant’s disclosure controls and procedures as of adate within 90 days prior to the filing date of this quarterly report (the“Evaluation Date”); and

 

c)                                      presented in thisquarterly report our conclusions about the effectiveness of the disclosurecontrols and procedures based on our evaluation as of the Evaluation Date;

 

5.                                       The registrant’sother certifying officers and I have disclosed, based on our most recentevaluation, to the registrant’s auditors and the audit committee ofregistrant’s board of directors (or persons performing the equivalentfunction):

 

a)                                      all significantdeficiencies in the design of operation of internal controls which couldadversely affect the registrant’s ability to record, process, summarize andreport financial data and have identified for the registrant’s auditors anymaterial weaknesses in internal controls; and

 

b)                                     any fraud, whetheror not material, that involves management or other employees who have asignificant role in the registrant’s internal controls; and

 

6.                                       The registrant’sother certifying officers and I have indicated in this quarterly report whetheror not there were significant changes in internal controls or in other factorsthat could significantly affect internal controls subsequent to the date of ourmost recent evaluation, including any corrective actions with regard tosignificant deficiencies and material weaknesses.

 
| Date: May 15, 2003 |                      |   |
|--------------------|---------------------------|--------|
|               | /s/ Bill D. Stewart       |   |
|               | Bill D. Stewart           |   |
|               | *Chief Executive Officer* |   |

 

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**CERTIFICATION**

 

I, Stephen M. Kasprisin, certify that:

 

1.                                       I have reviewedthis quarterly report on Form 10-Q of Naturade, Inc.;

 

2.                                       Based on myknowledge, this quarterly report does not contain any untrue statement of amaterial fact or omit to state a material fact necessary to make the statementsmade, in light of the circumstances under which such statements were made, notmisleading with respect to the period covered by this quarterly report;

 

3.                                       Based on myknowledge, the financial statements, and other financial information includedin this quarterly report, fairly present in all material respects the financialcondition, results of operations and cash flows of the registrant as of, andfor, the periods presented in this quarterly report;

 

4.                                       The registrant’sother certifying officers and I are responsible for establishing andmaintaining disclosure controls and procedures (as defined in Exchange ActRules 13a-14 and 15d-14) for the registrant and we have:

 

a)                                      designed suchdisclosure controls and procedures to ensure that material information relatingto the registrant, including its consolidated subsidiaries, is made known to usby others within those entities, particularly during the period in which thisquarterly report is being prepared;

 

b)                                     evaluated theeffectiveness of the registrant’s disclosure controls and procedures as of adate within 90 days prior to the filing date of this quarterly report (the“Evaluation Date”); and

 

c)                                      presented in thisquarterly report our conclusions about the effectiveness of the disclosurecontrols and procedures based on our evaluation as of the Evaluation Date;

 

5.                                       The registrant’sother certifying officers and I have disclosed, based on our most recentevaluation, to the registrant’s auditors and the audit committee ofregistrant’s board of directors (or persons performing the equivalentfunction):

 

a)                                      all significantdeficiencies in the design of operation of internal controls which couldadversely affect the registrant’s ability to record, process, summarize andreport financial data and have identified for the registrant’s auditors anymaterial weaknesses in internal controls; and

 

b)                                     any fraud, whetheror not material, that involves management or other employees who have asignificant role in the registrant’s internal controls; and

 

6.                                       The registrant’sother certifying officers and I have indicated in this quarterly report whetheror not there were significant changes in internal controls or in other factorsthat could significantly affect internal controls subsequent to the date of ourmost recent evaluation, including any corrective actions with regard tosignificant deficiencies and material weaknesses.

 
| Date: May 15, 2003 |                      |   |
|--------------------|---------------------------|--------|
|               | /s/ Stephen M. Kasprisin  |   |
|               | Stephen M. Kasprisin      |   |
|               | *Chief Financial Officer* |   |

 

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