UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C. 20549









FORM
10-K







x      ANNUAL
REPORT PURSUANT TO SECTION 13 OR 15(d)


OF THE
SECURITIES EXCHANGE ACT OF 1934




For the
year ended December 31, 2009




OR




o        TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d)


OF THE
SECURITIES EXCHANGE ACT OF 1934




Commission
File No. 0-12991







PC
GROUP, INC.


(Exact
Name of Registrant as Specified in its Charter)




Delaware
              
              11-2239561(State
      or Other Jurisdiction of
                Incorporation
      or Organization)
              
              (I.R.S.
      Employer
                Identification
      Number)




419
Park Avenue South, Suite 500


New
York, New York 10016


(Address
of Principal Executive Offices) (Zip Code)




(212)
687-3260


(Registrant’s
Telephone Number, Including Area Code)









Securities
registered pursuant to Section 12(b) of the Act: NONE




Securities
registered pursuant to Section 12(g) of the Act:




Common
Stock, par value $0.02 per share


(Title of
Class)




Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act. Yes o No x




Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Exchange Act. Yes o No x




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 (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes x No o




Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to rule 405 of Regulation S-T (§232.405) of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such
files).  Yes o No o




Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. Yes x No o




Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See definition of “large accelerated filer”, “accelerated
filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange
Act.  (Check one):




Large
      Accelerated Filer o
            Accelerated
      Filer o
            Non-accelerated
      Filer o
            Smaller
      reporting company x




Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes o No x




As of
June 30, 2009 (i.e., the last day of registrant’s most recently completed second
quarter), the aggregate market value of the common equity held by non-affiliates
of the registrant was $3,069,533, as computed by reference to the closing sale
price on the NASDAQ Global Market of such common stock ($0.65) multiplied by the
number of shares of voting stock outstanding on June 30, 2009 held by
non-affiliates (4,722,359 shares). Exclusion of shares from the calculation of
aggregate market value does not signify that a holder of any such shares is an
“affiliate” of the registrant.




The
number of shares of the registrant’s common stock outstanding at March 17, 2010
was 7,848,774 shares.




DOCUMENTS
INCORPORATED BY REFERENCE




The
information required by Part III of this report is incorporated herein by
reference to the registrant’s proxy statement for the 2010 annual meeting of the
registrant’s stockholders, which will be filed not later than 120 days after the
end of the fiscal year covered by this report.










PC
GROUP, INC.




ANNUAL
REPORT ON FORM 10-K




For
the Year Ended December 31, 2009




TABLE
OF CONTENTS




PagePART
      IItem
      1.
                          
                          Business
                          
                          2Item
      1A.
                          
                          Risk
      Factors
                          
                          16Item
      1B.
                          
                          Unresolved
      Staff Comments
                          
                          30Item
      2.
                          
                          Properties
                          
                          30Item
      3.
                          
                          Legal
      Proceedings
                          
                          30Item
      4.
                          
                          Reserved
                          
                          31PART
      IIItem
      5.
                          
                          Market
      for Registrant’s Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities
                          
                          32Item
      6.
                          
                          Selected
      Financial Data
                          
                          N/AItem
      7.
                          
                          Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                          
                          32Item
      7A.
                          
                          Quantitative
      and Qualitative Disclosures about Market Risk
                          
                          45Item
      8.
                          
                          Financial
      Statements and Supplementary Data
                          
                          46Item
      9.
                          
                          Changes
      in and Disagreements with Accountants on Accounting and Financial
      Disclosure
                          
                          75Item
      9A(T.)
                          
                          Controls
      and Procedures
                          
                          75PART
      IIIItem
      10.
                          
                          Directors,
      Executive Officers and Corporate Governance
                          
                          76Item
      11.
                          
                          Executive
      Compensation
                          
                          76Item
      12.
                          
                          Security
      Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters
                          
                          76Item
      13.
                          
                          Certain
      Relationships and Related Transactions, and Director
      Independence
                          
                          76Item
      14.
                          
                          Principal
      Accounting Fees and Services
                          
                          76PART
      IVItem
      15.
                          
                          Exhibits
      and Financial Statement Schedules
                          
                          77Signatures


1




Forward-looking
Statements




This
Annual Report on Form10-K contains certain “forward-looking statements” within
the meaning of the Federal securities laws. Forward-looking statements include
statements concerning our plans, objectives, goals, strategies, future events,
future revenues or performance, capital expenditures, financing needs, plans or
intentions relating to acquisitions, our competitive strengths and weaknesses,
our business strategy and the trends we anticipate in the industry and economies
in which we operate and other information that is not historical information.
Words or phrases such as “estimates,” “expects,” “anticipates,” “projects,”
“plans,” “intends,” “believes” and variations of such words or similar
expressions are intended to identify forward-looking statements. These
statements reflect our current views about future events based on information
currently available and assumptions we make. These forward-looking and other
statements, which are not historical facts, are based largely upon our current
expectations and assumptions and are subject to a number of risks and
uncertainties that could cause actual results to differ materially from those
contemplated by such forward-looking statements.




These
risks and uncertainties include, among others:




·
              Our
      history of net losses and the possibility of continuing net losses beyond
      2009.
  ·
              The
      current economic downturn and its effect on the credit and capital markets
      as well as the industries and customers that utilize our
      products.
  ·
              The
      risk that any intangibles on our balance sheet may be deemed impaired
      resulting in substantial
write-offs.
  ·
              The
      risk that we may not be able to raise adequate financing to fund our
      operations and
growth prospects.
  ·
              The
      cost and expense of complying with government regulations which affect the
      research, development and formulation of the
  products.
  ·
              Risks
      associated with the acquisition and integration of businesses we may
      acquire.




Accordingly,
we advise you to carefully review the information set forth in Item 1A, "Risk
Factors".




We cannot
guarantee our future performance nor can we assure you that we will be
successful in the implementation of our growth strategy or that any such
strategy will result in our future profitability. Our failure to successfully
develop new revenue producing products could have a material adverse effect on
the market price of our common stock and our business, financial condition and
results of operations. You also should be aware that, other than as required by
law, we have no obligation to, and do not intend to, update any forward-looking
statements to reflect events or circumstances occurring after the date of this
Annual Report that may cause our actual results or performance to differ from
those expressed in the forward-looking statements.




References
in this report to “PC Group,” “the Company,” “we,” “our,” and “us,” refer to PC
Group, Inc. and, if so indicated or the context requires, includes our
wholly-owned subsidiaries Twincraft, Inc. (“Twincraft”) and Silipos, Inc.
(“Silipos”).




PART
I




Item
1. Business




Overview




Through
our wholly-owned subsidiaries, Twincraft and Silipos, we offer a diverse line of
personal care products for the private label retail, medical, and therapeutic
markets.  In addition, at Silipos, we design and manufacture high
quality gel-based medical products targeting the orthopedic and prosthetic
markets.  We sell our medical products primarily in the United States
and Canada, as well as in more than 30 other countries, to national, regional,
and international distributors.  We sell our personal care products
primarily in North America to branded marketers of such products, specialty and
mass market retailers, direct marketing companies, and companies that service
various amenities markets.


2




Our broad
range of gel-based orthopedic and prosthetics products are designed to protect,
heal, and provide comfort for the patient.  Our line of personal care
products includes bar soap, gel-based therapeutic gloves and socks, scar
management products, and other products that are designed to cleanse and
moisturize specific areas of the body, often incorporating essential oils,
vitamins, and nutrients to improve the appearance and condition of the
skin.




Twincraft,
a manufacturer of bar soap which focuses on the health and beauty, direct
marketing, amenities, and mass market channels, was acquired in January 2007,
and Silipos, which offers gel-based personal care and medical products, was
acquired in September 2004.




Name
Change




On July
23, 2009, we changed our name from Langer, Inc. to PC Group, Inc.  The
name change was approved at our 2009 Annual Meeting of Stockholders held on July
14, 2009.  We also changed our stock ticker symbol on NASDAQ from
“GAIT” to “PCGR” effective at the commencement of trading on July 24,
2009.




The new
name is intended to more accurately reflect our current business model and scope
of our product offerings.  We have historically designed, manufactured
and distributed a broad range of medical products targeting the orthopedic,
orthotic, and prosthetic markets.  Today, we offer a more diverse line
of personal care products for the private label retail, medical and therapeutic
markets and the name PC Group, Inc. is designed to better convey this broader
scope of products.




Operating
History




Prior to
2009, we owned a diverse group of subsidiaries and businesses including
Twincraft, Silipos, the Langer branded custom orthotics and related products
business, Langer UK Limited (“Langer UK”), Regal Medical Supply, LLC (“Regal”),
and Bi-Op Laboratories, Inc. (“Bi-Op”).  In November 2007, we began a
study of strategic alternatives available to us with regard to our various
operating companies.  During 2008, we sold Langer UK, Bi-Op, Regal,
and the Langer orthotics business, as further discussed in Note 4 of the
accompanying financial statements.




The sales
of these businesses generated approximately $7.0 million in cash proceeds which
we have deployed in part to purchase our own capital stock in the market and
have retained for future needs.  We currently hold approximately
$181,000 in notes receivable related to the sale of Langer UK.




We
believe that along with strengthening our balance sheet through these
divestitures, we have honed our focus on our two largest and most significant
businesses, Twincraft and Silipos.  In addition, during 2008 and into
2009 we streamlined our corporate structure, significantly reducing general and
administrative expenses.  We expect this streamlined and focused
organization will enhance our ability to develop and market innovative products.
As
part of this strategic realignment, we are exploring options to bring in new CEO
leadership who will be better equipped at assisting the realigned Company in
growing its revenues in its core markets and taking advantages of external
growth opportunities.




In
addition, our Board of Directors has authorized the purchase of up to $6,000,000
of our outstanding common stock.  In connection with this repurchase
program, our senior lender, Wachovia Bank, National Association, had waived,
until April 15, 2009, the provisions of the credit facility that would otherwise
have precluded us from making such repurchases.  From January 2008
through April 15, 2009, we purchased 3,715,438 shares of our common stock at a
cost of $2,765,389 (or $0.74 per share) including commissions
paid.  Our Board of Directors has elected not to request an extension
of the waiver from Wachovia Bank, National Association.




At our
Annual Meeting of Stockholders held July 14, 2009, our stockholders approved an
amendment to our Certificate of Incorporation to decrease the number of
authorized shares of capital stock from 50,250,000 to 25,000,000.  We
believe that this reduction in the number of authorized shares still leaves us
with sufficient authorized shares in light of the number of shares currently
outstanding and additional shares reserved for issuance and will not otherwise
impede our operations or goals.  We expect an annual franchise tax decrease
of approximately $30,000 as a result of the reduction in authorized
shares.




NASDAQ
Stock Market Listing




On
January 11, 2010, we received notice from the Office of General Counsel of the
Nasdaq Stock Market (“NASDAQ”) that our request to transfer the listing of our
common stock from the Nasdaq Global Market to the Nasdaq Capital Market had been
approved by the Nasdaq Hearings Panel (the “Panel”) reviewing our
listing.  The transfer became effective at the opening of the market
on January 13, 2010.  Our common stock continues to trade under the
symbol “PCGR.”  The Panel also granted us until July 19, 2010 to meet
the $1.00 minimum bid price requirement of the Nasdaq Capital Market under
Listing Rule 5550(a)(2).


3




We
submitted our request to the Panel to transfer to the Nasdaq Capital Market in
response to the letter we received from Nasdaq, previously disclosed on the Form
8-K we filed on October 28, 2009, informing us that for 30 consecutive business
days our common stock had not maintained the minimum market value of publicly
held shares of $5,000,000 for continued inclusion on the Nasdaq Global Market
under Listing Rule 5450(b)(1)(C).




The
Nasdaq Capital Market is a continuous trading market that operates in
substantially the same manner as the Nasdaq Global Market.  Companies
listed on the Nasdaq Capital Market must meet certain financial requirements and
adhere to Nasdaq’s corporate governance standards.




Our
Addressable Markets




Personal
Care




Our
personal care products are generally sold in the retail cosmetic marketplace and
include soaps, cleansers, toners, moisturizers, exfoliants, and facial masks,
and can also include over-the-counter (“OTC”) drug products such as acne
soaps.  Many of these products combine traditional moisturizing and
cleansing agents with compounds such as retinoids, hydroxy acids, and
anti-oxidants that smooth and soothe dry skin, retain water in the outer layer
skin cells and help maintain or reinforce the skin’s protective barrier,
particularly skin tissue damaged from surgery or injury.




We
believe that growth in the personal care market will be driven by an aging
population, an increasing number of image-conscious consumers, and the growth
and popularity of spas and body/facial treatment centers.




Medical
Products




Through
Silipos we design, manufacture and market gel-based products focusing on the
orthopedic, orthotic, prosthetic, and scar management markets.




Our
orthopedic gel-based products include bunion guards, toe spreaders, heel
cushions, arch supports and other foot-related products which are marketed
through a wide range of international, national, and regional
distributors.  We no longer sell directly to health care professionals
or submit claims to any federal, state, or private health insurance programs for
these products.




Prosthetics
involve the design, fabrication and fitting of artificial limbs for patients who
have lost their limbs due to traumatic injuries, vascular diseases, diabetes,
cancer and congenital diseases. Our target market is comprised of the production
and distribution of the components utilized in the fabrication of these
prosthetic devices. Prosthetic componentry includes external mechanical joints
such as hips and knees, artificial feet and hands, and sheaths and liners
utilized as an interface between the amputee’s skin and prosthetic
socket.




We
believe that growth of the orthopedic and prosthetic markets we target will be
driven by the following factors:




·
            Aging Population. By
      2050, it is estimated that the median age of individuals in highly
      developed countries will be 45.5 years as compared to a median age of 37.3
      years in 2000. With longer life expectancy, expanded insurance coverage,
      improved technology and devices, and greater mobility, individuals are
      expected to seek orthopedic services and products more
    often.




·
            Increased Demand for
      Non-Invasive Procedures. We believe there is growing awareness and
      clinical acceptance by patients and health care professionals of the
      benefits of non-invasive solutions, which should continue to drive demand
      for non-operative rehabilitation
products.




·
            Technological Sophistication
      of Orthotic and Prosthetic Devices. In recent years the development
      of stronger, lighter and cosmetically appealing materials has led to
      advancements in design technology, driving growth in the orthotic and
      prosthetic industries. A continuation of this trend should enable the
      manufacture of new products that provide greater protection and comfort to
      the users of orthotic and prosthetic devices, and that more closely
      replicate the function of natural body
parts.


4




·
            Need for Replacement and
      Continuing Care. Most prosthetic and orthotic devices have useful
      lives ranging from three to five years, necessitating ongoing warranty
      replacement and retrofitting for the life of the
  patient.




·
            Growing Emphasis on Physical
      Fitness, Leisure Sports and Conditioning. As a large number of
      individuals participate in athletic activities, many of them suffer
      strains and injuries, requiring non-operative orthopedic rehabilitation
      products.




Growth
Strategy




·
            Research,
      Product, and Process Development.  Since 2003, we have
      introduced over 100 new products. We also have invested resources in
      internally developing alternate gel materials and other thermoplastic
      elastomer materials in partnership with outside parties which we expect to
      increase our competitiveness.  We have also developed a new line
      of scar management products utilizing our gel based
      technologies.  These products, which are currently being
      evaluated in a clinical study, are designed to compete favorably with scar
      management treatments that are currently offered in the
      marketplace.




·
            Innovation. Our
      personal care products group focuses on leveraging the research and
      development expertise of both Twincraft and Silipos to provide innovative
      products to our customers.For
      example, Twincraft has successfully commercialized the inclusion of a
      microsphere encapsulant within bar soap that incorporates a time-released
      delivery of an approved OTC active drug ingredient.Silipos has
      developed a triglyceride-based (mineral free) gel which is designed to
      appeal to consumers seeking environmentally-friendly
      products.  We continuously seek to improve and innovate our
      gel-based personal care products through the inclusion of various
      additives, the formulation of our gels for optimal performance given a
      particular application, and the usage of different components, packaging
      and product construction to meet the needs of our customers. We believe
      innovation will be a key to our success in the future.  Our
      sales strategy includes attempting to “partner” with customers to develop
      new products and bring them to the
market.




·
            Strategic Evaluation and
      Acquisition of Complementary Businesses.  In 2008, we
      completed the divestitures of our non-core and underperforming businesses,
      namely Langer UK, the Langer orthotics business, Bi-Op, and
      Regal.  Moving forward, subject to the availability of
      financing, we may consider targeted acquisitions in order to gain access
      to new product groups and customer channels and increase penetration of
      existing markets.




Competitive
Strengths




Management Team. Our
management team has been involved in the acquisition and integration of a
substantial number of companies. Our Chairman of the Board of Directors, Warren
B. Kanders, brings a track record spanning over 20 years of building public
companies through strategic acquisitions to enhance organic growth. W. Gray
Hudkins, who became our Chief Operating Officer on October 1, 2004, and our
President and Chief Executive Officer on January 1, 2006, brings a strong
investment banking background and has been involved in the acquisition and
integration of acquired companies prior to joining us, and has played a
significant role in the acquisition and the integration of Silipos and
Twincraft.  We are also reliant upon the skills and experience of
Kathleen P. Bloch, our Chief Financial Officer, Chief Operating Officer and Vice
President, as well as Peter A. Asch, the President of Twincraft and of our
personal care products division and a member of our Board of
Directors.




Strong Base
Business.  Our medical products business benefits from a
reputation of quality products, and we hold patents and patent applications, as
well as quality brands and trademarks.  Our personal care products
business benefits from a diverse list of blue chip customers in the health and
beauty, direct marketing, amenities and mass market channels.  We
believe that the combination of Twincraft with our Silipos skincare business
offers numerous opportunities to cross-sell to customers.




Strength Across Distribution
Channels. We believe we maintain strong relationships across various
distribution channels in our two reporting segments. In our medical products
group, this means maintaining a network of national, regional, independent and
international distributors, medical catalog companies, group purchasing
organizations, original equipment manufacturers, specialty retailers, and
consumer catalog companies. In our personal care products group, we enjoy strong
relationships with customers in a number of sales channels that provide
diversification and the ability to pursue growth opportunities in a number of
different markets focused on a variety of product types and price
points.


5




Products




Personal Care




We
offer a range of skincare products, including bar soap, beauty cleanser, acne
soap and gel-based products such as gloves and sock products that are used for
both cosmetic and scar management purposes. Our personal care products are
manufactured in our Winooski, Vermont and Niagara Falls, New York facilities. We
offer our personal care products to our customers in bulk form, where either
they or an outside party will package the products for sale, and fully packaged
so that they can be sold as shipped from our facilities.




Medical
Products




Gel-Based Orthopedic
Products. We manufacture and sell gel-based products for the treatment of
common orthopedic and footcare conditions. These products include digitcare
products, diabetes management products, pressure, friction, and shear force
absorption products, products that protect the hands and wrists, and gel
sheeting products for various applications.




Gel-Based Prosthetic
Products.We
manufacture and sell a line of products that are utilized in the fabrication of
prosthetic devices. For example, we offer sheaths and liners that incorporate a
gel interface between the amputee’s skin and socket, providing protection for
patients who are subject to significant pressure between their skin and
prosthesis.




Customers




Our
personal care products are sold in a highly competitive global marketplace which
is experiencing increased trade concentration. With the growing trend toward
consolidation, we are increasingly dependent on key customers.




Our
customers include international, national, and regional
distributors.  Our personal care customers include branded marketers
of such products, specialty retailers, direct marketing companies, and companies
that service various amenities markets.  We have a diverse customer
base, and for the year ended December 31, 2009, only one customer accounted for
more than 10.0% of our revenues.  This customer is an amenity
distributor in the hotel/resort industry.  2009 revenue from this
customer was approximately $4.5 million or 11.0% of our total
revenues.  At December 31, 2009 and 2008 accounts receivable from this
customer were approximately $628,000 and $359,000 respectively.




Sales,
Marketing and Distribution




Personal
Care




For our
personal care product lines, our account representatives interact directly with
health and beauty companies, specialty retailers, cosmetics companies, direct
marketing companies, amenities companies, health clubs and spas, and catalog
companies. We will sometimes ship product to customers in bulk for their own
packaging pursuant to private label programs. In other cases, we will package
the product ourselves and sell under our own proprietary brands.




Medical
Products




Our
sales, marketing and distribution are managed through a combination of national
and regional account managers, field sales representatives, and inside sales
representatives who are regionally and nationally based. We utilize
international sales and marketing agents and employ representatives in the
United Kingdom, Europe, Asia and Australia. We also utilize educational seminars
to educate medical professionals about our product offerings.  Our
Silipos medical gel products continue to be sold exclusively through medical
distributors.  We do not sell directly to medical professionals or to
patients and we do not submit claims to federal, state, or private health care
insurance programs.


6




Manufacturing
and Sourcing




Manufacturing




We
manufacture gel and gel products in our Niagara Falls, New York facility,
including orthotic and prosthetic products, and gel-based personal care skincare
products. This manufacturing process includes the molding of the gels into
specific shapes, as well as the application of gels to textiles. Our Niagara
Falls facility has obtained ISO 9001 certification, which permits the marketing
of our products in certain foreign markets.




We
manufacture bar soap in our Winooski, Vermont facility, with additional
warehousing capability in our Essex, Vermont facility.




Sourcing




We source
raw materials and components from a variety of suppliers. For bar soap, we
source soap base from a variety of sources in Malaysia and elsewhere in Far East
Asia and we also source significant amounts of textiles from various sources in
China for our gel-based medical and personal care products. We source packaging
materials both domestically as well as from sources in China and Taiwan. We
believe that all of our purchased products and materials could be readily
obtained from alternative sources at comparable costs.




Competition




Personal
Care




Our
personal care products are primarily in the skincare segments. Our largest
individual competitor in the private label specialty bar soap market is Bradford
Soapworks. However, there are a number of other companies that produce bar soap
in larger batch sizes for customers that are typically more focused on the mass
markets. Other competitive skincare products include lotions, creams,
water-based gels, oil-based gels, ointments and other types of products that
transmit moisture, vitamins, minerals, and comfort agents to the skin. Personal
care also includes categories in which the Company does not currently
participate such as oral care, ingestibles, and nutraceuticals, among others.
The market for high-end skincare products is dominated by a number of large
multinational companies that sell under brands such as Shiseido, LVMH Moet
Hennessy Louis Vuitton, Clarins and Revlon. We additionally compete with a
number of specialty retailers and catalog companies that focus on the skincare
market, such as The Body Shop and L’Occitaine, which are vertically integrated
and manufacture their own products.




Medical
Products




The
markets for our medical products are highly competitive, and we compete with a
variety of companies ranging from small businesses to large corporations in the
foot care, podiatry, orthopedic and prosthetic markets. The markets for
off-the-shelf footcare products are dominated by large retail
channels.  We also market our products through local shoe stores and
medical practitioners’ offices. Included in the markets for off-the-shelf
footcare products are participants such as Dr. Scholls, Spenco and
ProFoot.




In each
of our target markets, the principal competitive factors are product design,
innovation and performance, efficiencies of scale, quality of engineering, brand
recognition, reputation in the industry, production capability and capacity, and
price and customer relations.




Patents
and Trademarks




We hold
or have the exclusive right to use a variety of patents, trademarks and
copyrights in several countries, including the United States.  The
following is a list of licenses and patents which we consider essential to the
successful operation of our business:





·
            A
      non-exclusive, paid up (except for certain administrative fees) license
      with Applied Elastomerics, Incorporated, dated as of November 30, 2001, as
      amended (the “AEI License”), to manufacture and sell certain products
      using mineral oil-based gels which are manufactured using certain patents;
      the license terminates upon the expiration of the patents, which expire
      between November 16, 2010 and December 3,
2017.


7





·
            A
      license with Dr. Gerald Zook, effective as of January 1, 1997, to
      manufacture and sell certain products using mineral oil-based gels under
      certain patents and know-how in exchange for sales-based royalty payments;
      the license is exclusive as to certain products and non-exclusive as to
      other products, and terminates upon expiration of the underlying patents,
      which expire between June 27, 2006 and March 12,
  2013.


·
            We
      currently own two patents (the Gould patents) which permit us to
      manufacture and distribute certain gel products with additives such as oil
      and vitamin enrichment.  Both of these patents expire on August
      28, 2018.


·
            In
      addition we have recently submitted a patent application to the Department
      of Commerce for our triglyceride gel formulations, which if granted, will
      provide patent protection for seventeen years from the date of the patent
      grant.  This formulation is being used in our scar management
      products.





There are
no other active patents or licenses which we deem to be essential to the
successful operation of our business as a whole, although the loss of any patent
protection that we have could allow competitors to utilize techniques developed
by us or our licensors.





We also
believe certain trademarks and trade names, including Silipos®, Gel-care®,
Siloliner®, DuraGel®, and Silopad®, contribute significantly to brand
recognition for our products, and the inability to use one or more of these
names could have a material adverse effect on our business.  For the
year ended December 31, 2009, revenues generated by the products incorporating
the technologies licensed under the AEI and Zook licenses accounted for
approximately 23.0% of our revenues.




As part
of the divestiture of the Langer branded custom orthotics business in October
2008, the Company sold its rights to the trademarks used in the custom orthotics
business.  The Company also sold its rights to the trade name
“Langer.”




The
orthopedic, orthotic, prosthetics and personal care products industries have
experienced extensive litigation regarding patents and other intellectual
property rights.  Furthermore, third parties may have patents of which
we are unaware, or may be awarded new patents, that may materially adversely
affect our ability to market, distribute, and sell our
products.  Accordingly, our products, including, but not limited to,
our orthopedic gel-based products, may become subject to patent infringement
claims or litigation or interference proceedings, any adverse determination of
which could have a material adverse effect on our business.





Employees




As of
March 1, 2010, we have 246 employees, of which 175 were located in
Winooski, Vermont, 58 were located in Niagara Falls, New York, seven were
located in New York, New York, and six are outside salespeople at various other
locations. None of our employees are represented by unions or covered by any
collective bargaining agreements. We have not experienced any work stoppages or
employee-related slowdowns and believe that our relationship with employees is
satisfactory.




Government
Regulation




Medical
Device Regulation




United States. Our medical
products and operations are subject to regulation by the Food and Drug
Administration, or FDA, the Federal Trade Commission, or FTC, state authorities
and comparable authorities in foreign jurisdictions. The FDA regulates the
research, testing, manufacturing, safety, labeling, storage, recordkeeping,
premarket clearance or approval, promotion, distribution and production of
medical devices in the United States to ensure that medical products distributed
domestically are safe and effective for their intended uses. In addition, the
FDA regulates the export of medical devices manufactured in the United States to
international markets. Under the Federal Food, Drug, and Cosmetic Act, or FFDCA,
medical devices are classified into one of three classes—Class I, Class II or
Class III (described below)—depending on the degree of risk associated with each
medical device and the extent of control needed to ensure safety and
effectiveness. Our medical products are generally Class I devices, with the
exception of certain gel sheeting and prosthetic devices which are Class II
devices. The FTC regulates product advertising to help ensure that claims are
truthful and non-misleading.


8




Class I
devices are subject to the lowest degree of regulatory scrutiny because they are
considered low risk devices. FDA requires Class I devices to comply with its
General Controls, which include compliance with the applicable portions of the
FDA’s Quality System Regulation, or QSR, facility registration and product
listing, reporting of adverse medical events, and appropriate, truthful and
non-misleading labeling, advertising, and promotional materials. Most Class I
devices are not required to submit 510(k) premarket notifications, but all are
subject to the FDA’s general misbranding and adulteration
prohibitions.




Class II
devices are subject to the General Controls as well as certain Special Controls
such as performance standards, post-market surveillance, and patient registries
to assure the device’s safety and effectiveness. Class II devices also typically
require the submission and clearance of a 510(k) premarket notification prior to
marketing. Unless a specific exemption applies, 510(k) premarket notification
submissions are subject to user fees. When a 510(k) premarket notification is
required, the manufacturer must submit information to the FDA demonstrating that
the device is “substantially equivalent” to a “predicate device” which is either
a device that was legally marketed prior to May 28, 1976 (the date upon
which the Medical Device Amendments of 1976 were enacted) or another
commercially available, similar device that was subsequently cleared through the
510(k) process.




If the
FDA agrees that the device is substantially equivalent, it will grant a
clearance order to allow the commercial marketing of the device in the U.S. By
statute, the FDA is required to clear a 510(k) premarket notification within 90
days of submission of the application. As a practical matter, clearance often
takes longer. If the FDA determines that the device, or its intended use, is not
“substantially equivalent” to a previously-cleared device or use, the FDA will
place the device, or the particular use of the device, into Class III, and the
device sponsor must then fulfill more rigorous premarketing requirements which
may include the submission of a premarket approval application or the submission
of a reclassification petition seeking de novo review of the device and
placement into Class I or Class II. There can be no assurance that future device
submissions will receive 510(k) clearances within 90 days of submission or that
we will be successful in obtaining 510(k) clearances for any of our products,
which could have a materially adverse effect on us.




Class III
devices are subject to the highest level of regulatory scrutiny and typically
include life support and life sustaining devices and implants as well as devices
with a new intended use or technological characteristics that are not
substantially equivalent to a use or technology currently being legally
marketed. A premarket approval application, or “PMA,” must be submitted and
approved by FDA before marketing in the U.S.





The FDA
will grant a PMA approval if it finds that the safety and effectiveness of the
product have been sufficiently demonstrated and that the product complies with
all applicable regulations and standards. The FDA may require further clinical
evaluation of the product, terminate the clinical trials, grant premarket
approval but restrict the number of devices distributed, or require additional
patient follow-up for an indefinite period of time. There can be no assurance
that we will be successful in obtaining a PMA for any Class III products, which
is necessary before marketing a Class III product in the U.S. Delays in
obtaining marketing approvals and clearances in the U.S. could have a material
adverse effect on us. Unless an exemption applies, PMA submissions also are
subject to user fees.




The FDA,
by statute and by regulation, has 180 days to review a PMA application that has
been accepted for filing, although the review of an application more often
occurs over a significantly longer period of time, and can take several years.
In approving a PMA application or clearing a 510(k) premarket notification
application, the FDA may also require some form of post-market surveillance when
the agency determines it to be necessary to protect the public health or to
provide additional safety and effectiveness data for the device. In such cases,
the manufacturer might be required to follow certain patient groups for a number
of years and to make periodic reports to the FDA on the clinical status of those
patients.




Medical
devices can be marketed only for the indications for which they are cleared or
approved. Modifications to a previously cleared or approved device that could
significantly affect its safety or effectiveness or that would constitute a
major change in its intended use, design or manufacture require the submission
of a new 510(k) premarket notification, a premarket approval supplement or a new
premarket approval application. We have modified various aspects of our devices
in the past and determined that new approvals, clearances or supplements were
not required or we filed a new 510(k). Nonetheless, the FDA may disagree with
our conclusion that clearances or approvals were not required for particular
products and may require approval or clearances for such past or any future
modifications or to obtain new indications for our existing products. Such
submissions may require the submission of additional clinical or preclinical
data and may be time consuming and costly, and may not ultimately be cleared or
approved by the FDA.


9




Our
manufacturing processes are required to comply with the applicable portions of
the QSR, which covers the methods and documentation of the design, testing,
production, processes, controls, quality assurance, labeling, packaging and
shipping of our products. The QSR also, among other things, requires maintenance
of a device master record, device history record, and complaint files. Domestic
and foreign facilities associated with the manufacturing of our products for
distribution in the United States are subject to periodic unscheduled
inspections by the FDA to assure compliance with the FFDCA and the regulations
thereunder. Based on internal audits, we believe that our facilities are in
substantial compliance with the applicable QSR regulations. We also are required
to report to the FDA if our products cause or contribute to a death or serious
injury or malfunction in a way that would likely cause or contribute to death or
serious injury were the malfunction to recur. Although medical device reports
have been submitted in the past 5 years, none have resulted in a recall of our
products or other regulatory action by the FDA. The FDA and authorities in other
countries can require the recall of products in the event of material defects or
deficiencies in design or manufacturing. The FDA can also withdraw or limit our
product approvals or clearances in the event of serious, unanticipated health or
safety concerns. We may also be required to submit reports to the FDA of
corrections and removals. Separately, we may on our own choose to conduct a
voluntary market withdrawal in situations that do not require a recall,
correction or removal. The FDA could disagree with this characterization and
require the reporting of a correction or removal.




The FDA
has broad regulatory and enforcement powers. If the FDA determines that we have
failed to comply with applicable regulatory requirements, it can impose a
variety of enforcement actions from public warning letters, fines, injunctions,
consent decrees and civil penalties to suspension or delayed issuance of
approvals, seizure or recall of our products, total or partial shutdown of
production, withdrawal of approvals or clearances already granted, and criminal
prosecution. The FDA can also require us to repair, replace or refund the cost
of devices that we manufactured or distributed. If any of these events were to
occur, it could materially adversely affect us.




Legal
restrictions on the export from the United States of any medical device that is
legally distributed in the United States are limited. However, there are
restrictions under U.S. law on the export from the United States of medical
devices that cannot be legally distributed in the United States. If a Class I or
Class II device does not have 510(k) clearance, and the manufacturer reasonably
believes that the device could obtain 510(k) clearance in the United States,
then the device can be exported to a foreign country for commercial marketing
without the submission of any type of export request or prior FDA approval, if
it satisfies certain limited criteria relating primarily to specifications of
the foreign purchaser and compliance with the laws of the country to which it is
being exported (Importing Country Criteria). We believe that all of our current
products which are exported to foreign countries currently comply with these
restrictions.





International. In many of the
foreign countries in which we market our products, we are subject to similar
regulatory requirements concerning the marketing of new medical devices. The
regulations affect, among other things, product standards, packaging
requirements, labeling requirements, import restrictions, tariff regulations,
duties and tax requirements. The regulation of our products in Europe falls
primarily within the European Economic Area, which consists of the twenty-seven
member states of the European Union as well as Iceland, Lichtenstein and Norway.
The legislative bodies of the European Union have adopted three directives in
order to harmonize national provisions regulating the design, manufacture,
clinical evaluation, packaging, labeling and adverse event reporting for medical
devices: the Council Directives 90/385/EEC (Actives Implantables Directive);
93/42/EEC (Medical Device Directive); and 98/79/EC (In-Vitro-Diagnostics
Directive), in all cases as amended from time to time.  The member
states of the European Economic Area have implemented the directives into their
respective national laws. Medical devices that comply with the essential
requirements of the national provisions and the directives will be entitled to
bear a CE marking. Unless an exemption applies, only medical devices which bear
a CE marking may be marketed within the European Economic Area. There can be no
assurance that we will be successful in obtaining approval for affixing CE marks
for our products in a timely manner, if at all, which could have a material
adverse effect on the market price of our common stock and our business,
financial condition and results of operations.




The
European Committee for Standardization has adopted numerous harmonized standards
for specific types of medical devices. Compliance with relevant standards
establishes the presumption of conformity with the essential requirements for a
CE marking and we are subject to conformity audits and inspections at any
time.




Post
market surveillance of medical devices in the European Economic Area is
generally conducted on a country-by-country basis. The requirement within the
member states of the European Economic Area vary. Due to the movement towards
harmonization of standards in the European Union and the expansion of the
European Union, we expect a changing regulatory environment in Europe
characterized by a shift from a country-by-country regulatory system to a
European Union-wide single regulatory system. The timing of this harmonization
and its effect on us cannot currently be predicted.


10




In
Canada, the Medical Devices Regulations of the Medical Device Bureau,
Therapeutic Products Directorate of Health Canada (“TPD”), set out the
requirements governing the sale, importation and advertisement of medical
devices. The regulations are intended to ensure that medical devices distributed
in Canada are both safe and effective. The Canadian medical device
classification system is broadly similar to the classification systems in place
in the European Union and the United States and is based on a Class I to Class
IV risk-based classification system, with Class I being the lowest risk and
Class IV being the highest. The TPD has issued a comprehensive set of rules and
guidances, including a medical device keyword index, for determining the
classification of a device. Ultimately, the responsibility of determining the
classification lies with the manufacturer or importer. Devices that are Class
II, III and IV are required to have a device license. Class I devices are not so
required. Device licenses must be obtained from the TPD before the sale of the
device, effectively creating a premarket approval regime for these categories.
Many non-invasive devices are classified as Class I devices. Manufacturers of
Class I devices only require an establishment license to market their products
in Canada. Effective January 1, 2003, new Canadian regulatory quality systems
requirements for medical devices took effect applying established quality
standards to all Canadian and foreign manufacturers holding Class II, III and IV
medical device licenses, and all Canadian and foreign manufacturers applying for
Class II, III and IV medical licenses. These quality system regulations require
Class II, III and IV medical devices to be designed and manufactured under
CAN/CSA ISO 13485-2003. There are no regulatory quality system requirements for
Class I medical devices.




Personal
Care Product Regulation




Our
personal care products are subject to regulation by the U.S. FDA, FTC, the
Consumer Product Safety Commission (the “CPSC”) and various other federal,
state, and foreign governmental authorities. Depending upon product claims and
formulation, skincare products may be regulated as consumer products, cosmetics,
drugs or devices. The Silipos skincare products are primarily regulated as
cosmetics, with the exception of the scar management gel sheeting which are
medical devices because of their mode of use. Currently 22.2% of the Twincraft
business is soap product that is not regulated by the FDA, but by the CPSC as a
consumer product. Currently 75.6% of the Twincraft business is beauty
soap/cleanser that is regulated by FDA as a cosmetic. Currently 2.2% of the
Twincraft business is antimicrobial soap that is regulated by FDA as an OTC drug
product.




Traditional
soap products, which are defined as products in which most of the nonvolatile
matter consists of an alkali salt of fatty acid and the detergent properties are
due to the alkali-fatty acid compounds, are regulated by the CPSC under the
authority of the Federal Hazardous Substances Act (“FHSA”). The FHSA requires
that certain household products bear cautionary labeling to alert consumers to
potential hazards that those products present. This could include warning labels
for soap products if they are viewed as having irritant properties. If the CPSC
believes a consumer product poses a significant hazard, it may demand recall of
the product.




Traditional
soap products which are intended not only for cleansing but for other cosmetic
uses such as beautifying, deodorizing, or moisturizing, are regulated by FDA as
cosmetics, as are beauty soaps/cleansers that do not consist primarily of alkali
salts of fatty acids. These products would need to meet FDA’s cosmetic
requirements. There are fewer regulatory requirements for cosmetic products than
for drugs or medical devices. Cosmetics marketed in the United States must
comply with the FFDCA, the Fair Packaging and Labeling Act, and the FDA’s
implementing regulations. Cosmetics must also comply with the FDA’s ingredient,
quality, and labeling requirements and the FTC’s requirements pertaining to
truthful and non-misleading advertising.




Traditional
soap products and beauty soaps/cleansers that include claims to cure, treat, or
prevent disease or to affect the structure or any function of the human body are
regulated as drug products. A small percentage of the Twincraft soap products
are marketed as acne soaps which are regulated by the FDA as OTC drug products
under a final monograph or regulation for topical acne drug products.
Antibacterial and antimicrobial soaps and cleansers are regulated as topical
antimicrobial OTC drug products under a tentative final
monograph.  Products that comply with monograph conditions do not
require FDA premarket approval.  Any deviation from the conditions
described in the final monograph would require premarket approval from the FDA.
If a product is marketed beyond the scope of the final monograph, such as making
a labeling claim or including an active ingredient not covered by the monograph,
the FDA will consider the product to be unapproved and misbranded and can take
enforcement action against the Company or the product. Tentative final
monographs are similar to final monographs in that they establish conditions
under which OTC drug products can be marketed for certain uses without FDA
premarketing approval.  Since they have not been finalized, the FDA is
not likely to take enforcement action against an OTC drug subject to a tentative
final monograph whose ingredient and claims are in the OTC Review unless there
is a safety or effectiveness question.  Once a tentative final
monograph has been finalized, products must meet the monograph conditions or the
product would be considered unapproved and misbranded.  Failure to
meet these requirements could adversely affect our business.  OTC drug
products must also comply with the FTC’s requirements pertaining to truthful and
non-misleading advertising.


11




The FDA,
FTC, or CPSC could disagree with our characterization of our skincare products
or product claims. This could result in a variety of enforcement actions which
could require the reformulation or relabeling of our products, the submission of
information in support of the products’ claims or the safety and effectiveness
of our products, or more punitive action, all of which could have a material
adverse effect on the market price of our common stock and our business,
financial condition and results of operations.




Pursuant
to the FFDCA, the portion of the Twincraft business that is involved with the
manufacture of acne soap/cleanser products that are considered to be OTC drug
products must also comply with the FDA’s current good manufacturing practices,
or GMPs, for drugs. As part of its regulatory authority, the FDA may
periodically inspect the physical facilities, machinery, processes, records, and
procedures that we use in the manufacture, packaging, storage and distribution
of the drug products. The FDA may perform these inspections at any time and
without advanced notice. Twincraft has a dedicated manufacturing line for soaps
that are subject to drug regulations. Based on internal audits of the Twincraft
facility, we believe it is in substantial compliance with the applicable drug
GMP regulations. However, subsequent internal or FDA inspections may require us
to make certain changes in our manufacturing facilities and processes. We may be
required to make additional expenditures to comply with these orders or possibly
discontinue selling certain products until we comply with these orders. As a
result, our business could be adversely affected.




The
portion of Twincraft’s business that involves OTC drug products such as acne
soaps and antimicrobial drug products must also comply with recently enacted
FFDCA provisions requiring serious adverse event reporting, the maintenance of
adverse event report records, and the listing of contact information for adverse
event reporting on product labeling.  Failure to comply with these
provisions is a “prohibited act” and could adversely affect our
business.




That
portion of Twincraft’s business that is subject to the CPSC requirements must
comply with new certification requirements and applicable testing requirements
under the Consumer Product Safety Improvement Act of 2008
(“CPSIA”).  Under the CPSIA, every manufacturer of a product subject
to a consumer product safety rule, or similar rule, ban, standard or regulation,
must certify to compliance based on a test of each product or upon a reasonable
testing program.  Consumer products labeled for pediatric use (12 and
under) may have additional requirements.  The CPSIA also requires
companies to report deviations from any CPSC standard, ban, or similar rule and
granted the CPSC significantly enhanced reporting and recall
authority.  Failure to comply with CPSC requirements could result in
significant penalties and/or fines and could significantly affect our
business.




Personal
care products marketed abroad are subject to similar foreign government
regulation but may vary from country to country and could result in additional
burdens on our business.




Federal
Patient Information Privacy Laws




Numerous
state, federal and international laws and regulations govern the collection,
dissemination, use, privacy, confidentiality, security, availability and
integrity of patient health information (“patient information”), including the
Health Insurance Portability and Accountability Act of 1996, or HIPAA and its
associated regulations (collectively “HIPAA”).  Many of these federal
and state laws are more restrictive than, and not preempted by HIPAA, and may be
subject to varying interpretations by courts and government agencies, creating
complex compliance issues and potentially exposing entities subject to these
laws to additional expense, adverse publicity and liability.




We do not
collect, use, maintain or transmit patient health information protected by these
privacy laws, and we are not otherwise currently subject to
them.  However, we were subject to them when we owned and operated
Regal.  Regal is a covered entity directly subject to these privacy
laws.  Moreover, Regal had contractual arrangements with other covered
entities that at that time involved the use and disclosure of patient
information (called “business associate agreements”).  Any patient
information we may have held associated with the operations of Regal, either
directly as a covered entity or indirectly as a business associate of another
covered entity, was transferred in accordance with applicable law to Regal’s
purchaser upon our divestiture of Regal, and we did not retain any patient
information.  Any business associate obligations Regal may have had
regarding patient information were likewise transferred to Regal’s
purchaser.  As a result, we are no longer directly subject to these
privacy laws although it is possible we could be found to be liable if a
violation of these laws was determined to have occurred, prior to our
divestiture of Regal, which could subject us to criminal or civil penalties and
fines.


12




Federal
and state consumer laws are also being applied increasingly by the Federal Trade
Commission, or FTC, and state attorneys general to regulate the collection, use
and disclosure of personal or patient information, through web sites or
otherwise, and to regulate the presentation of web site content. Courts may also
adopt the standards for fair information practices promulgated by the FTC, which
concern consumer notice, choice, security and access.




Third-Party
Reimbursement




Some of
our medical products are prescribed by physicians or other health care service
providers.  These physicians and providers are eligible for
third-party reimbursement, including from federal and state health insurance
programs, such as Medicare and Medicaid. An important consideration for our
business is whether third-party payment amounts will be adequate, since this is
a factor in our customers’ selection of our products. The health care industry
is continuing to experience a trend toward cost containment as government and
private third-party payers seek to contain reimbursement and utilization rates
and to negotiate reduced payment schedules with health care product suppliers.
We believe that third-party payers will continue to focus on measures to contain
or reduce their costs through managed care and other efforts. These trends may
result in a reduction from historical levels in per item revenue received for
our products.




Medicare
policies are important to our business because some of our products are covered
by Medicare and sold to Medicare beneficiaries. Moreover, third-party payers
often model their policies after the Medicare program’s coverage and
reimbursement policies. On December 8, 2003, the Medicare Prescription
Drug, Improvement and Modernization Act of 2003, or Modernization Act, was
enacted. This legislation, among other things, substantially revised the manner
in which Medicare covers and pays for items of durable medical equipment and
orthotic devices. Among other things, the Modernization Act provided that all
Medicare suppliers of durable medical equipment, prosthetics, orthotics and
supplies (“DMEPOS”) must meet new supplier quality standards and be accredited
by independent accreditation organizations. Our suppliers will be subject to
these new quality standards and accreditation requirements. This legislation
also provided that certain products would be required to meet specified clinical
conditions to qualify for Medicare payment.  The Modernization Act
also changed the payment methodology that would apply to certain items of DMEPOS
by providing that beginning in 2007, Medicare would begin paying for them
through a competitive bidding program instead of the fee schedule payment
methodology. Off-the-shelf orthotic devices and other non-Class III devices were
originally subject to the competitive bidding program, which was scheduled to
begin in ten high population metropolitan statistical areas in 2007, and then be
expanded to 70 metropolitan statistical areas in 2009, and additional areas
thereafter. Payments in regions not subject to competitive bidding may also be
adjusted using payment information from regions subject to competitive
bidding.  The Centers for Medicare and Medicaid Services (“CMS”)
published final regulations governing the competitive bidding program on April
10, 2007, and ultimately awarded 329 contracts to qualified suppliers of
DMEPOS.  Payment pursuant to the competitive bidding program was
scheduled to begin on July 1, 2008, in the ten identified competitive bidding
areas.




On July
15, 2008, the Medicare Improvements for Patients and Providers Act (“MIPPA”) was
enacted.  MIPPA made certain limited changes to the Modernization
Act’s competitive bidding program.  First, MIPPA delayed
implementation of the competitive bidding program and terminated all of the
previously awarded 329 contracts, effective June 30, 2008.  This
action effectively reinstated the payment methodology for the competitively bid
items and services to the Medicare fee schedule amounts and allowed any enrolled
DMEPOS supplier to provide the items and services in accordance with Medicare
rules.  Second, MIPPA requires that a second round of competition to
select DMEPOS suppliers be conducted to rebid the previously awarded
contracts.  This rebid will include the same items and services bid in
the first round and in the same geographic areas, with certain limited
exceptions.  MIPPA also delays competition for round two of the
competitive bidding program from 2009 to 2011 and subsequent competition under
the program from 2009 until after 2011.




Certain
of our products will be subject to competitive bidding in the markets where we
do business although MIPAA excludes off-the-shelf orthotics provided by certain
providers, such as hospitals, during a patient admission or on date of
discharge.  However, Medicare payment rates for our products will be
affected even in markets where competitive bidding is not implemented, thereby
affecting revenue for certain of our products.


13




In recent
years, efforts to control Medicare costs have also included the heightened
scrutiny of reimbursement codes and payment methodologies. Under Medicare,
certain devices used by outpatients are classified using reimbursement codes,
which in turn form the basis for each device’s Medicare payment levels. Changes
to the reimbursement codes describing our products can result in reduced payment
levels or the breadth of products for which reimbursement can be sought under
recognized codes.  Reduced Medicare payment levels will affect the
price we can charge for our products.




On
February 11, 2003, CMS made effective an interim final regulation
implementing “inherent reasonableness” authority, which allows the agency and
contractors to adjust payment amounts by up to 15% per year for certain items
and services when the existing payment amount is determined to be grossly
excessive or grossly deficient. The regulation lists factors that may be used by
CMS and its contractors to determine whether an existing reimbursement rate is
grossly excessive or grossly deficient and to determine a realistic and
equitable payment amount. CMS may make a larger adjustment each year if it
undertakes prescribed procedures. The agency’s authority to use its inherent
reasonableness authority was limited somewhat by the Modernization Act. We do
not know what impact inherent reasonableness and competitive bidding would have
on us or the reimbursement of our products or the applicability of the inherent
reasonableness authority.




Considerable
uncertainty surrounds the future determination of Medicare reimbursement levels
for our products. Items reimbursable under the Medicare program are subject to
legislative change, administrative rulings, interpretations, discretion,
governmental funding restrictions and requirements for utilization review. Such
matters, as well as more general governmental budgetary concerns, may
significantly reduce payments available for our products under this
program.




In
addition to Medicare-related changes, numerous legislative proposals have been
introduced in the U.S. Congress and in various state legislatures over the past
several years that could cause major reforms of the U.S. health care
system.




Fraud
and Abuse




We are
subject directly and indirectly to various federal and state laws pertaining to
health care fraud and abuse, including anti-kickback laws and physician
self-referral laws. Violations of these laws are punishable by criminal and
civil sanctions, including, in some instances, exclusion from participation in
federal and state health care programs, including Medicare, Medicaid, Veterans
Administration health programs and TRICARE. We believe that our operations are
in material compliance with such laws to the extent that such laws apply to us.
However, because of the far-reaching nature of these laws, there can be no
assurance that we would not be required to alter one or more of our practices to
be deemed to be in compliance with these laws. In addition, there can be no
assurance that the occurrence of one or more violations of these laws or
regulations would not result in a material adverse effect on our financial
condition and results of operations.




Anti-kickback
and Fraud Laws




Our
operations are subject to federal and state anti-kickback laws. Certain
provisions of the Social Security Act, which are commonly known collectively as
the Medicare Fraud and Abuse Statute, prohibit persons from knowingly and
willfully soliciting, receiving, offering or providing remuneration directly or
indirectly to induce either the referral of an individual, or the furnishing,
recommending, or arranging for a good or service, for which payment may be made
under a federal health care program such as Medicare and Medicaid. The
definition of “remuneration” has been broadly interpreted to include anything of
value, including such items as gifts, discounts, waiver of payments, and
providing anything at less than its fair market value. Health and Human Services
(“HHS”) has issued regulations, commonly known as safe harbors that set forth
certain provisions which, if fully met, will assure health care providers and
other parties that they will not be prosecuted under the Medicare Fraud and
Abuse Statute. Although full compliance with these provisions ensures against
prosecution under the Medicare Fraud and Abuse Statute, the failure of a
transaction or arrangement to fit within a specific safe harbor does not
necessarily mean that the transaction or arrangement is illegal or that
prosecution under the Medicare Fraud and Abuse Statute will be pursued. The
penalties for violating the Medicare Fraud and Abuse Statute include
imprisonment for up to five years, fines of up to $25,000 per violation and
possible exclusion from federal health care programs such as Medicare and
Medicaid. Many states have adopted prohibitions similar to the Medicare Fraud
and Abuse Statute, some of which apply to the referral of patients for health
care services reimbursed by any source, not only by the Medicare and Medicaid
programs.


14




HIPAA
created two new federal crimes: health care fraud and false statements relating
to health care matters. The health care fraud statute prohibits knowingly and
willfully executing or attempting to execute a scheme or artifice to defraud any
health care benefit program, including private payers. The false statements
statute prohibits knowingly and willfully falsifying, concealing or covering up
a material fact or making any materially false, fictitious or fraudulent
statement or representation in connection with the delivery of or payment for
health care benefits, items or services. This statute applies to any health
benefit plan, not just Medicare and Medicaid. Additionally, HIPAA granted
expanded enforcement authority to HHS and the United States Department of
Justice, (“DOJ”) and provided enhanced resources to support the activities and
responsibilities of the Office of Inspector General (“OIG”) and DOJ by
authorizing large increases in funding for investigating fraud and abuse
violations relating to health care delivery and payment.




Physician
Self-Referral Laws




We are
also potentially subject to federal and state physician self-referral laws.
Federal physician self-referral legislation (commonly known as the Stark Law)
prohibits, subject to certain exceptions, physician referrals of Medicare and
Medicaid patients to an entity providing certain “designated health services” if
the physician or an immediate family member has any financial relationship with
the entity. The Stark Law also prohibits the entity receiving the referral from
billing any good or service furnished pursuant to an unlawful referral, and any
person collecting any amounts in connection with an unlawful referral is
obligated to refund such amounts. A person who engages in a scheme to circumvent
the Stark Law’s referral prohibition may be fined up to $100,000 for each such
arrangement or scheme. The penalties for violating the Stark Law also include
civil monetary penalties of up to $15,000 per service and possible exclusion
from federal health care programs such as Medicare and Medicaid. Various states
have corollary laws to the Stark Law, including laws that require physicians to
disclose any financial interest they may have with a health care provider to
their patients when referring patients to that provider. Both the scope and
exceptions for such laws vary from state to state.




False
Claims Laws




Under
separate statutes, submission of claims for payment that are “not provided as
claimed” may lead to civil money penalties, criminal fines and imprisonment,
and/or exclusion from participation in Medicare, Medicaid and other federal
health care programs and federally funded state health programs. These false
claims statutes include the federal False Claims Act, which prohibits the
knowing filing of a false claim or the knowing use of false statements to obtain
payment from the federal government. When an entity is determined to have
violated the False Claims Act, it may be liable for up to three times the actual
damages sustained by the government, plus mandatory civil penalties of between
$5,000 and $10,000 for each separate false claim. Suits filed under the False
Claims Act, known as “qui tam” actions, can be brought by any individual on
behalf of the government and such individuals (known as “relators” or, more
commonly, as “whistleblowers”) may share in any amounts paid by the entity to
the government in fines or settlement. In addition, certain states have enacted
laws modeled after the federal False Claims Act. Qui tam actions have increased
significantly in recent years, causing greater numbers of health care companies
to have to defend against false claim actions, pay fines or be excluded from the
Medicare, Medicaid or other federal or state health care programs as a result of
an investigation arising out of such action. In addition, the Deficit Reduction
Action of 2005 (“DRA”) encourages states to enact state-versions of the False
Claims Act that establish liability to the state for false and fraudulent
Medicaid claims and that provide for, among other things, claims to be filed by
qui tam relators.




We do not
file claims for payment with federal, state or private health insurance programs
although we did file claims for payment under such programs on behalf of Regal
prior to our divestiture of Regal.  It is therefore possible that we
could be found to have violated the False Claims Act, or similar state law, for
filing inaccurate claims for services Regal provided during that
time.  We are not aware of any pending actions under the False Claims
Act or any similar state law or any violation of those laws occurring prior to
our divestiture of Regal.


15




Seasonality




Factors which can result in quarterly
variations include the timing and amount of new business generated by us, the
timing of new product introductions, our revenue mix, and the competitive and
fluctuating economic conditions in the medical and skincare
industries.




Inflation




We have
in the past been able to increase the prices of our products or reduce overhead
costs sufficiently to offset the effects of inflation on wages, materials and
other expenses except for soap base pricing which increased dramatically in
2008.  Soap base prices are highly correlated to petroleum prices and
soap base prices escalated by more than 80% in 2008 from 2007
prices.  We were unable to fully pass these increases on to our
customers.  After peaking in May of 2008, soap base pricing has
declined.  Since petroleum has recently been subject to dramatic price
volatility, there can be no assurance that Twincraft’s soap base pricing will
not increase in the future.




Item
1A. Risk Factors




In
addition to other information in this Annual Report on Form 10-K, the following
risk factors should be carefully considered in evaluating our business, because
such factors may have a significant impact on our business, operating results,
liquidity and financial condition. As a result of the risk factors set forth
below, actual results could differ materially from those mentioned in any
forward-looking statements. Additional risks and uncertainties not presently
known to us, or that we currently consider to be immaterial, may also impact our
business, operating results, liquidity and financial condition. If any of the
following risks occur, our business, operating results, liquidity and financial
condition, and the price of our common stock, could be materially adversely
affected.




Risks
Related to Our Operations




We
have a history of net losses and may incur additional losses in the
future.




For the
twelve months ended December 31, 2009 and 2008, the Company had consolidated net
losses of $8.4 million and $13.6 million, respectively.  We face the
risk that these losses may continue beyond 2009.  In order for us to
achieve and maintain consistent profitability from our operations, we must
achieve product revenue above current levels. We may increase our operating
expenses as we attempt to expand our product lines and to the extent we acquire
other businesses and products. As a result, we may need to increase our revenues
significantly to achieve sustainable profitability. We cannot assure you that we
will be able to achieve sustainable profitability. Any such failure could have a
material adverse effect on the market price of our common stock and our
business, financial condition and results of operations.




A
write-off of intangible assets may adversely affect our results of
operations.




In the year ended December 30, 2009, we
recorded a $1.0 million impairment relating to our Twincraft customer list and a
$4.7 million impairment to the goodwill associated with
Twincraft.  This impairment was based upon the results of an
independent valuation of the Company’s identifiable intangible assets and
goodwill at October 1, 2009.  In the year ended December 31, 2008, we
recorded a $2.4 million impairment, related to our Twincraft customer list and a
$3.3 million impairment to the goodwill associated with Twincraft.  At
December 31, 2009, our total assets include intangible assets of $19.2 million,
which includes goodwill of $11.2 million acquired in connection with prior
acquisitions.  We evaluate on a regular basis whether events and
circumstances have occurred that indicate that all or a portion of the carrying
amount of goodwill or other intangible assets may no longer be recoverable in
which case a charge to earnings is required.  In the future, we may
need to record additional provision(s) for impairment, and such provision(s) may
be material, which could have a material adverse effect on the market price of
our common stock and our financial condition and results of
operations.  The current unsettled economic environment increases the
likelihood of additional impairments in the future.




We
may not be able to refinance our indebtedness.
  We
anticipate needing to refinance all or a portion of our indebtedness, including
the $28,880,000 of our 5% Convertible Notes due December 7, 2011, as we do not
expect to have sufficient cash from operations to repay such indebtedness in
full at maturity.   We cannot assure you that we will be able to
refinance our indebtedness on commercially reasonable terms or at all.  A
failure to refinance our indebtedness could have a materially adverse effect on
our business, prospects, financial condition and results of
operation.




Our
business plan relies on certain assumptions for the markets for our products
which, if incorrect, may adversely affect our profitability.




We
believe that various demographics and industry-specific trends will help drive
growth in the medical and personal care markets, including:




•
            an
      aging population with broad medical coverage, increased disposable income
      and longer life expectancy;


16




•
            a
      growing emphasis on physical fitness, leisure sports and conditioning,
      which will continue to lead to increased
  injuries;




•
            increasing
      awareness and use of non-invasive devices for prevention, treatment and
      rehabilitation purposes; and




•
            an
      increase in the utilization of personal care products for various
      applications, including cleansing, cosmetic and for the treatment of
      various conditions.




These
demographics and trends are uncertain. The projected demand for our products
could materially differ from actual demand if our assumptions regarding these
factors prove to be incorrect or do not materialize, or if alternative
treatments to those offered by our products gain widespread
acceptance.




The
growth of our personal care business depends on the successful development and
introduction of new products and services.




The
growth of our personal care business depends on the success of existing products
and services, including the manufacturing capabilities of our Twincraft
subsidiary, as well as the successful development and introduction of new
products, which face the uncertainty of customer acceptance and reaction from
competitors.  There can be no assurances that our scar management
products will achieve market acceptance or be as effective as we had
expected.  In addition, our ability to create new products and new
manufacturing services, and to sustain existing products and services, is
affected by whether we can:




•
            develop
      and fund technological innovations;




•
            receive
      and maintain necessary patent and trademark
  protection;




•
            obtain
      governmental approvals and registrations of regulated products and
      manufacturing operations;




•
            comply
      with Food and Drug Administration (FDA), Federal Trade Commission (FTC),
      Consumer Product Safety Commission, and other governmental regulations;
      and




•
            successfully
      anticipate consumer needs.




The
failure to develop and launch successful new products and provide new and
competitive manufacturing services could hinder the growth of our business.
Also, any delay in the development or launch of a new product could result in
our not being the first to market, which could compromise our competitive
position.




Rising
material and other costs and our increasing dependence on key suppliers could
adversely impact our profitability.




Raw and
packaging material commodities are subject to wide price variations. Increases
in the costs of these commodities and other costs, such as energy costs, may
adversely affect the Company’s profit margins if we are unable to pass along any
higher costs in the form of price increases or otherwise achieve cost
efficiencies. Of particular importance is the price of soap base, the largest
raw material used in the production of soap, representing over 54.0% of
Twincraft’s raw material purchases for 2009.  Soap base pricing is
highly correlated to petroleum prices and soap base escalated by more than 80%
in 2008 from 2007 prices.  After peaking in May 2008, soap base
pricing has declined.  We were not able to fully pass these price
increases on to our customers during 2008 and can provide no assurance that we
will be able to do so in the future.  Since petroleum has recently
been subject to dramatic price volatility, there can be no assurance that
Twincraft’s soap base costs will not increase in the future which would have a
negative impact on our gross profit and our net income.




Changes
in the requirements of our personal care customers and increasing dependence on
key customers may adversely affect our business.




Our
personal care products are sold in a highly competitive global marketplace which
is experiencing increased trade concentration. With the growing trend toward
consolidation, we are increasingly dependent on key customers. They may use
their bargaining strength to demand lower prices, higher trade discounts,
allowances or slotting fees, which could lead to reduced sales or profitability.
We may also be negatively affected by changes in the requirements of our
customers, such as inventory de-stocking, and other conditions.


17




Our
business is highly competitive.  If we fail to compete successfully,
our sales and operating results may be negatively affected and we may not
achieve future growth.




The
orthopedic, orthotic, prosthetic, skincare and personal care markets are highly
competitive. Certain of our competitors in these markets have more resources and
experience, as well as more recognizable trademarks for products similar to
those sold by us. In addition, the market for orthopedic devices and related
products is characterized by new product development and corresponding
obsolescence of existing products. Our competitors may develop new techniques,
therapeutic procedures or alternative products that are more effective than our
current technology or products or that render our technology or products
obsolete or uncompetitive, which could cause a decrease in orders. Such
decreases would have a material adverse effect on the market price of our common
stock and our business, financial condition and results of
operations.




We may
not be able to develop successful new products or enhance existing products,
obtain regulatory clearances and approval of such products, and market such
products in a commercially viable manner or gain market acceptance for such
products. Failure to develop, license or market new products and product
enhancements could materially and adversely affect our competitive position,
which could cause a significant decline in our sales and
profitability.




We expect
that the level of competition faced by us may increase in the future. Some
competitors have substantially greater financial, marketing, research and
technical resources than us.  There can be no assurance that we will
be able to compete successfully in the orthopedic, orthotic, prosthetic,
skincare and personal care markets.  Any such failure could have a
material adverse effect on the market price of our common stock and our
business, financial condition and results of operations.




We
may not be able to raise adequate financing to fund our operations and growth
prospects.




Our
product expansion programs, debt servicing requirements, targeted acquisition
strategy, and existing operations will require substantial capital
resources.  We cannot assure you that we will be able to generate
sufficient operating cash flow or obtain sufficient additional financing to meet
these requirements.  In May 2007, we negotiated and executed a $20
million asset-based lending facility with Wachovia Bank, National
Association.   Subsequent amendments to the facility have reduced
maximum availability to $12 million. This facility, alone, may not be adequate
to supply the amount of capital that may be required in the event of any
material acquisition. As of February 28, 2010, our availability under the credit
facility was approximately $7.6 million.  Any material acquisition is
subject to the approval of Wachovia.  If we do not have adequate
resources and cannot obtain additional capital on terms acceptable to us or at
all, we may be required to reduce operating costs by altering and delaying our
business plan or otherwise radically altering our business
practices.  Failure to meet our future capital requirements could have
a material adverse effect on the market price of our common stock and our
business, financial condition and results of operations.




We
may be unable to realize the benefits of our net operating loss (“NOL”)
carryforwards.




NOLs may
be carried forward to offset federal and state taxable income in future years
and eliminate income taxes otherwise payable on such taxable income, subject to
certain adjustments. Based on current federal corporate income tax rates, our
NOL could provide a benefit to us, if fully utilized, of significant future tax
savings. However, our ability to use these tax benefits in future years will
depend upon the amount of our otherwise taxable income. If we do not have
sufficient taxable income in future years to use the tax benefits before they
expire, we will lose the benefit of these NOL carryforwards permanently.
Additionally, future utilization of net operating losses may be limited under
existing tax law due to the change in control of PC Group in 2001 and may be
further limited as a result of pending or future offerings of our common
stock.




The
amount of NOL carryforwards that we have claimed to date of approximately $21.9
million has not been audited or otherwise validated by the U.S. Internal Revenue
Service (the “IRS”). The IRS could challenge our calculation of the amount of
our NOL or any deductions or losses included in such calculation, and provisions
of the Internal Revenue Code may limit our ability to carry forward our NOL to
offset taxable income in future years. If the IRS were successful with respect
to any challenge in respect of the amount of our NOL, the potential tax benefit
of the NOL carryforwards to us could be substantially reduced.


18





Recent
turmoil across various sectors of the financial markets may negatively impact
the Company’s business, financial condition and/or operating
results.





Recently,
the various sectors of the credit markets and the financial services industry
have been experiencing a period of unprecedented turmoil and upheaval
characterized by disruption in the credit markets and availability of credit and
other financing, the failure, bankruptcy, collapse or sale of various financial
institutions and an unprecedented level of intervention from the United States
federal government. While the ultimate outcome of these events cannot be
predicted, they may have a material adverse effect on our ability to obtain
financing necessary to effectively execute our strategic reevaluation strategy,
the ability of our customers and suppliers to continue to operate their
businesses, the demand for our products or the ability to obtain future
financing which could have a material adverse effect on the market price of
our common stock and our business, financial condition and results of
operations.





The
current economic downturn could continue to result in a decrease in our future
sales, earnings, and liquidity.




Economic
conditions have recently deteriorated significantly in the United States, and
worldwide, and may remain depressed for the foreseeable future. These conditions
have resulted in a decline in our sales and earnings and could continue to
impact our sales and earnings in the future. Sales of our products are impacted
by downturns in the general economy primarily due to decreased discretionary
spending by consumers. The general level of consumer spending is affected by a
number of factors, including, among others, general economic conditions,
inflation, and consumer confidence, all of which are generally beyond our
control. Consumer purchases of our products declines during periods of economic
downturn, when disposable income is lower.  The economic downturn also
impacts distributors, our primary customers, resulting in the inability of our
customers to pay amounts owed to us. In addition, if our retail customers are
unable to sell our product or are unable to access credit, they may experience
financial difficulties leading to bankruptcies.




Substantially
all our assets are pledged to a secured lender.




On May
11, 2007, we entered into a loan and security agreement with Wachovia Bank,
National Association, under which we have obtained a credit facility for loans
and other financial accommodations of up to a current maximum of $12 million, of
which approximately $7.6 million is available as of February 28,
2010.  The amount of funds available to us under the credit facility
is based primarily on our levels of eligible accounts receivable and eligible
inventory, and as of the date of this report, we do not have any currently
outstanding borrowings under the facility. Substantially all our assets,
including assets acquired in the future, are pledged to the lender to secure our
obligations to the lender. If we draw down funds under the credit facility and
are unable to repay the funds when due, or are otherwise in default of the
financial covenants and related obligations under the credit facility, the
lender would have the right to foreclose upon our assets, which would have a
material adverse effect on our business, prospects, financial condition and
results of operations.




Furthermore,
this credit facility with Wachovia Bank expires on September 30, 2011. 
Although we intend to extend or replace this credit facility on or prior to
maturity, we cannot assure you that we will be able to do so on commercially
reasonable terms or at all.  A failure to extend or replace our credit
facility could have a materially adverse effect on our business, prospects,
financial condition and results of operations.




We
may be adversely affected by legal actions or proceedings.




In the
normal course of business, we may be subject to claims and litigation in the
areas of general liability, including claims of employees, and claims,
litigation or other liabilities as a result of acquisitions we have completed.
The results of legal proceedings are difficult to predict and we cannot provide
you with any assurance that an action or proceeding will not be commenced
against us, or that we will prevail in any such action or
proceeding.




An
unfavorable resolution of any legal action or proceeding could materially
adversely affect the market price of our common stock and our business, results
of operations, liquidity or financial condition.


19




We
rely heavily on our relationships with distributors and their relationships with
health care practitioners for marketing our products, and the failure to
maintain these relationships could adversely affect our business.




Our
marketing success depends largely upon our arrangements with distributors and
their expertise and relationships with customers such as podiatrists,
orthopedists, orthopedic surgeons, dermatologists, cosmetic and plastic
surgeons, occupational and physical rehabilitation professionals, prosthetists,
orthotists and other health care professionals in the marketplace. Failure of
our products to retain the support of these surgeons and other specialists, or
the failure of our products to secure and retain similar support from leading
surgeons and other specialists, could have a material adverse effect on the
market price of our common stock and our business, financial condition and
results of operation.  Our failure to maintain relationships with our
distributors for marketing our products, or their failure to maintain
relationships with health care professionals, could have an adverse effect on
the market price of our common stock and our business, financial condition and
results of operations.




We
enter into multi-year contracts with customers that can impact our
results.




We enter
into multi-year contracts with some of our customers which include terms
affecting our pricing flexibility.  There can be no assurance that
these restraints will not have an adverse impact on our margins and operating
income. While we have a diverse customer base, and no customer or distributor
constituted more than 11.0% of our consolidated revenues for the year ended
December 31, 2009, we do have customers and independent, third-party
distributors, the loss of which could have a material negative effect on our
consolidated results of operations.




The
nature of our business could subject us to potential product liability and other
claims.




The sale
of orthotic and prosthetic products and other biomechanical devices and personal
care products entails the potential risk of physical injury to patients and
other end users and an inherent risk of product liability, lawsuits and product
recalls. We currently maintain product liability insurance with coverage limits
of $1 million per occurrence and for an annual aggregate maximum subject to a
deductible of $25,000. However, we cannot assure you that this coverage would be
sufficient to cover the payment of any potential claim. In addition, we cannot
assure you that this or any other insurance coverage will continue to be
available or, if available, will be obtainable at a reasonable cost. Our
existing product liability insurance coverage may be inadequate to protect us
from any liabilities we might incur, and we will continue to be exposed to the
risk that our claims may be excluded and that our insurers may become insolvent.
A product liability claim or series of claims brought against us for uninsured
liabilities or liabilities in excess of our insurance coverage could have a
material adverse effect on the market price of our common stock and our
business, financial condition and results of operations. In addition, as a
result of a product liability claim, our reputation could be harmed and we may
have to recall some of our products, which could result in significant costs to
us and have a material adverse effect on the market price of our common stock
and our business, financial condition and results of operations.




There
are significant risks associated with acquiring and integrating
businesses.




An
element of our growth strategy may include targeted acquisitions, that is, the
acquisition of businesses and assets that will complement our current business
or products, increase size, expand our geographic scope of operations, and
otherwise offer growth opportunities. We may not be able to successfully
identify attractive acquisition opportunities, obtain financing for
acquisitions, make acquisitions on satisfactory terms, or successfully acquire
and/or integrate identified targets. Additionally, competition for acquisition
opportunities in our industries may escalate which would increase the costs to
us of completing acquisitions or prevent us from making acquisitions. An
acquisition may also subject the Company to other risks and costs,
including:




• loss of
key employees, customers or suppliers of acquired businesses;




•
diversion of management’s time and attention from our core
businesses;




• adverse
effects on existing business relationships with suppliers and
customers;




• our
ability to realize operating efficiencies, synergies, or other benefits expected
from an acquisition;




• risks
associated with entering markets in which we have limited or no experience;
and




•
assumption of contingent or undisclosed liabilities of acquisition
targets.




In
addition, in connection with our acquisition of Twincraft, Inc. in 2007, we face
the risk of incurring potential liabilities of that company which may not be
covered by the limited indemnification provisions in the acquisition
agreement.




The above
risks could have a material adverse effect on the market price of our common
stock and our business, financial condition and results of
operations.


20




Health
care regulations could materially adversely affect the market price of our
common stock and our business, financial condition and results of
operations.




Our
businesses are subject to governmental regulation and supervision in the United
States at the federal and state levels and abroad.  These regulations
include regulations of the FDA of our medical and personal care products, and
other laws and regulations governing our business relationships involved in the
marketing of our medical devices, products and services.  When we
acquire a new company, we may be subject to certain disclosure, enrollment and
other requirements regarding the acquired company’s ongoing
operations.  In addition, Twincraft, our soap manufacturing business
(which is part of our personal care segment) is also subject to potentially far
reaching regulation by the Consumer Product Safety Commission, FDA and FTC,
which may require us to alter one or more of our practices to be in compliance
with the applicable laws and regulations.  Collectively, our products
are actively regulated by various government entities as to their safety and
quality, and additional regulatory obligations apply as to our medical products
regulated as medical devices and the soap products regulated as OTC drug
products.




If we
fail to obtain the necessary product approvals or otherwise comply with
applicable regulatory requirements, it could result in government authorities
taking punitive actions against us, including, among other things, imposing
fines and penalties on us or preventing us from manufacturing or selling our
products.  In addition, health care fraud and abuse regulations are
complex, and even minor or inadvertent irregularities in submissions can
potentially give rise to claims that the statute has been
violated.  In connection with our original acquisition of Regal, we
subsequently acquired the membership interests of Regal Medical Supply, LLC, in
order to effectuate the original intent of the parties and ensure that its
provider numbers and taxpayer identification number were effectively acquired
with the Company’s purchase of Regal.  No assurance can be given that
the federal government will interpret these requirements, which are often highly
technical and subject to interpretation, in the same manner as the Company has,
or that regulatory authorities will not question the manner in which Regal was
conducted prior to acquisition of the membership interests of Regal Medical
Supply, LLC, and subsequent to our divestiture of it.  Any violations
of these laws, including those relating to Medicare and Medicaid reimbursement
for the period prior to the acquisition of the membership interests of Regal
Medical Supply, LLC, or subsequent to our divestiture of it could result in
claims for repayment of prior reimbursements or otherwise have a material
adverse effect on the market price of our common stock and our business,
financial condition and results of operations.




Changes
in government and other third-party payer reimbursement levels could adversely
affect the revenues and profitability of our medical segment.




Our
medical products are sold by us through our network of national, regional,
independent and international distributors who sell our products to hospitals,
doctors and other health care providers, many of whom are reimbursed for the
health care services provided to their patients by third-party payers, such as
government programs, including Medicare and Medicaid, private insurance plans
and managed care programs. Many of these programs set maximum reimbursement
levels for certain of our products sold in the United States. We may be unable
to sell our products through our distributors on a profitable basis if
third-party payers deny coverage or reduce their current levels of
reimbursement, or if our costs of production increase faster than increases in
reimbursement levels. The percentage of our products for which a health care
provider or ultimate consumer receives reimbursement from Medicare or other
insurance programs may increase as the portion of the United States population
over age 65 continues to grow, making us more vulnerable to reimbursement level
reductions by these organizations. Reduced government reimbursement levels could
result in reduced private payer reimbursement levels because of indexing of
Medicare fee schedules by certain third-party payers. Furthermore, the health
care industry is experiencing a trend towards cost containment as government and
private insurers seek to contain health care costs by imposing lower
reimbursement rates and negotiating reduced contract rates with service
providers.




Outside
the United States, reimbursement systems vary significantly by country. Many
foreign markets have government-managed health care systems that govern
reimbursement for new devices and procedures. The ability of hospitals supported
by such systems to purchase our products is dependent, in part, upon public
budgetary constraints. Canada and some European countries, for example, have
tightened reimbursement rates.  If adequate levels of reimbursement
from third-party payers outside of the United States are not obtained,
international sales of our products may decline, which could adversely affect
our net sales and could have a material adverse effect on the market price of
our common stock and our business, financial condition and results of
operations.


21




Our
business is subject to substantial government regulation relating to medical
products, personal care products, and services that could have a material
adverse effect on our business.




Government
regulation in the United States and other countries is a significant factor
affecting the research, development, formulation, manufacture and marketing of
our products. In the United States, the FDA has broad authority to regulate the
design, manufacture, formulation, marketing and sale of medical devices, and
other medical products, and many of our personal care products.  FDA’s
regulation of personal care products includes ingredient, quality, and labeling
requirements.  The Consumer Products Safety Commission has authority
over our non-cosmetic soap products and could require cautionary labeling for
products viewed as having irritant properties.  The FTC has broad
authority over all product advertising to ensure statements are truthful and
non-misleading. Overseas, these activities are subject to foreign governmental
regulation, which is in many respects similar to regulation in the United States
but which vary from country to country. United States and foreign regulation
continues to evolve, which could result in additional burdens on our operations.
If we fail to comply with applicable regulations we may be subject to, among
other things, fines, suspension or withdrawal of regulatory approvals, product
recalls, operating restrictions, and criminal prosecution. Additionally, the
cost of maintaining personnel and systems necessary to comply with applicable
regulations is substantial and increasing.




Some of
our medical products may require or will require regulatory clearance or
approval prior to being marketed. The process of obtaining these clearances or
approvals can be lengthy and expensive. We may not be able to obtain or maintain
necessary clearances or approvals for testing or marketing our products.
Moreover, regulatory clearances and approvals, if granted, may include
significant limitations on the indicated uses for which our products may be
marketed or other restrictions or requirements that reduce the value to us of
the products. Regulatory authorities may also withdraw product clearances or
approvals if we fail to comply with regulatory standards or if any problems
related to our products develop following initial marketing. We are also subject
to strict regulation with respect to our manufacturing operations. This
regulation includes testing, control and documentation requirements, and
compliance with the Quality Systems Regulation and current good manufacturing
practices, which is monitored through inspections by regulatory
authorities.




Our
profitability depends, in part, upon our and our distributors’ ability to obtain
and maintain all necessary certificates, permits, approvals and clearances from
the United States and foreign regulatory authorities and to operate in
compliance with applicable regulations. Delays in the receipt of, or failure to
receive necessary approvals, the loss of previously obtained clearances or
approvals, or failure to comply with existing or future regulatory requirements
could have a material adverse effect on the market price of our common stock and
our business, financial condition and results of operations.




The
portion of our personal care business that involves the sale of acne soaps and
antimicrobial drug products is subject to substantial government regulation that
could have a material adverse effect on our business.




Drug
products are subject to substantial government regulation in the United States
that affects the research, development, formulation, manufacture, storage,
distribution, labeling, and marketing of the products.  This includes
strict regulation of all facets of the manufacturing process including
production and process controls, packaging and labeling controls, holding and
distribution, testing, and documentation.  Compliance with current
good manufacturing practice (GMP) regulations and adverse event reporting and
recordkeeping requirements are monitored through FDA
inspections.   We are also subject to state requirements and
licenses applicable to manufacturers of drug products.  Twincraft has
a dedicated manufacturing line for soaps that are subject to drug
regulations.  Failure to pass a GMP inspection or to comply with these
and other applicable regulatory requirements could result in disruption of our
operations and manufacturing delays.  Failure to take adequate
corrective action could result in, among other things, significant fines,
seizures or recalls of products, operating restrictions and criminal
prosecution. We cannot assure you that the FDA or other governmental authorities
would agree with our interpretation of applicable regulatory requirements or
that we have in all instances fully complied with all applicable
requirements.  Any failure to comply with applicable requirements
could adversely affect our product sales and profitability and could have a
material adverse effect on the market price of our common stock and our
business, financial condition and results of operations.




Twincraft’s
acne soaps are subject to FDA regulation as OTC drug products under the final
monograph or regulation for topical antiacne products.  Any deviation
from the specific ingredients, labeling requirements, or conditions described in
the final monograph or the general drug regulations could misbrand the product
and render it an unapproved new drug.  This could result in a variety
of enforcement actions against the Company and/or the product as well as the
reformulation or relabeling of our products, all of which could have a material
adverse effect on the market price of our common stock and our business,
financial condition and results of operations.  Twincraft’s
antimicrobial or antibacterial soaps and cleansers are subject to regulation as
OTC drug products under the tentative final monograph for topical antimicrobial
OTC drug products.  It is unclear when the FDA will finalize this
tentative final monograph, but if Twincraft products do not meet conditions
specified in the monograph when finalized, we would need to reformulate or
relabel our products or discontinue selling the affected
products.  Any failure to comply could have a material adverse effect
on the market price of our common stock and our business, financial condition
and results of operations.


22




If the
FDA, FTC, or CPSC disagrees with our characterization of our other skincare
products or product claims and determines that they are drug products, this
could result in a variety of enforcement actions which could require the
reformulation or relabeling of our products, the submission of information in
support of the products’ claims or the safety and effectiveness of our products,
or more punitive action, all of which could have a material adverse effect on
the market price of our common stock and our business, financial condition and
results of operations.




The
portion of our personal care products business that involves the sale of soaps
as consumer products is subject to substantial government regulation that could
have a material adverse effect on our business.




That
portion of Twincraft’s business that is subject to the CPSC requirements must
comply with new certification requirements and applicable testing requirements
under the Consumer Product Safety Improvement Act of 2008
(“CPSIA”).  Under the CPSIA, every manufacturer of a product subject
to a consumer product safety rule, or similar rule, ban, standard, or
regulation, must certify to compliance based on a test of each product or upon a
reasonable testing program.  Consumer products labeled for pediatric
use (12 and under) may have additional requirements. The CPSIA also requires
companies to report deviations from any CPSC standard, ban, or similar rule and
granted the CPSC significantly enhanced recall authority.  Failure to
comply with CPSC requirements could result in significant penalties and/or fines
and could significantly affect our business.




The
development and marketing of new product lines, including any scar management
products, is subject to government regulation that could delay the planned
launch of such products and could have a material adverse effect on our
business.




Any new
product lines, including any scar management products, which we may introduce
will be subject to government regulation which could affect the research,
development and formulation of the products.  In the United States,
the products may be subject to regulation by the FDA and FTC and various other
federal and state laws and requirements. Overseas, these products may be subject
to foreign governmental regulation which may in many respects be similar to the
US, but which could vary from country to country.  Depending on
product claims and formulations, such products may be regulated as cosmetics,
devices, drugs, or combination drug-devices.




There is
no assurance that the products will be successfully developed or launched in the
current year or at any time in the future or that the FDA or FTC will agree with
our characterization of the products as cosmetics or our product
claims.  This could result in a variety of enforcement actions which
could require the reformulation or relabeling of our products, further safety or
clinical testing of the products, the submission of information in support of
the product claims or the safety of the products, or more punitive action, all
of which could have a material adverse effect on our business.




We
anticipate developing and launching in subsequent years scar management products
which may be regulated as cosmetics, devices, drugs, or combination drug-device
products, depending on the product claims and formulations.  Some or
all of the products may require extensive clinical testing and regulatory
clearance or approval prior to being marketed.  The process of
conducting these studies and obtaining the necessary clearances or approvals can
be lengthy and expensive and there is no assurance that we will ultimately
develop these products or obtain the necessary clearances or approvals for
testing or marketing these products.   Once launched, we would be
subject to continual oversight and regulation by the FDA, FTC and other
regulatory bodies as to product safety, quality and claims.  If
regulated as devices, drugs, or combination products, our manufacturing process
would be subject to strict regulation.  This regulation includes
testing, control and documentation requirements, compliance with the QSR and/or
current good manufacturing practice requirements, and FDA
inspection.  Delays in the receipt of, or failure to receive necessary
approvals or clearances, or failure to comply with existing or future regulatory
requirements could have a material adverse effect on our business.




Modifications
to our marketed devices may require FDA regulatory clearances or approvals and
may require us to cease marketing or recall the modified devices until such
clearances or approvals are obtained.




The
medical products we market in the United States have obtained market clearance
through the Premarket Notification process under Section 510(k) of the FFDCA or
are exempt from the 510(k) Premarket Notification requirements. We have modified
some of our products and product labeling since obtaining 510(k) clearance. We
believe those changes did not trigger the requirement for a new 510(k) filing,
but if FDA were to disagree, we would be required to submit new 510(k) Premarket
Notifications for the modifications to our existing products.  We may
be subject to enforcement action by the FDA for failure to file the 510(k)
submissions for the product changes and be required to stop marketing the
products while the FDA reviews the new 510(k) Premarket Notification
submissions. If the FDA requires us to go through a lengthier, more rigorous
examination than we expect, our product introductions or modifications could be
delayed or canceled, which could cause our sales to decline or otherwise
adversely impact our growth. In addition, the FDA may determine that future
products will be subject to the more costly, lengthy and uncertain Premarket
Approval, or PMA, process. Products that are approved through the PMA process
generally need FDA approval before they may be modified.


23




Our
products may be subject to product recalls even after receiving clearance or
approval, which would harm our reputation and our business.




The FDA,
the Consumer Products Safety Commission and foreign regulatory authorities have
the authority to request and, in some cases, require the recall of products if
they violate the applicable law or pose a risk of injury or gross
deception.  Typical reasons for recalls are material deficiencies,
design defects or manufacturing defects or consumer complaints. A
government-mandated or voluntary recall by us could occur as a result of
component failures, manufacturing errors, design defects, adulteration,
misbranding, or any other incidents related to our medical devices or personal
care products, including, but not limited to, adverse event reports, cease and
desist communications and any other product liability issues related to our
products. Any product recall would divert managerial and financial resources and
harm our reputation with customers and our business.




If
our medical device products fail to comply with the FDA’s Quality System
Regulation, our manufacturing could be delayed, and our product sales and
profitability could suffer.




Our
device manufacturing processes are required to comply with the FDA’s Quality
System Regulation, which covers the procedures concerning (and documentation of)
the design, testing, production processes, controls, quality assurance,
labeling, packaging, storage and shipping of our devices. We also are subject to
state requirements and licenses applicable to manufacturers of medical devices.
In addition, we must engage in extensive recordkeeping and reporting and must
make available our manufacturing facilities and records for periodic unscheduled
inspections by governmental agencies, including the FDA, state authorities and
comparable agencies in other countries. Moreover, failure to pass a Quality
System Regulation inspection or to comply with these and other applicable
regulatory requirements could result in disruption of our operations and
manufacturing delays.  Failure to take adequate corrective action
could result in, among other things, significant fines, suspension of approvals,
seizures or recalls of products, operating restrictions and criminal
prosecution. We cannot assure you that the FDA or other governmental authorities
would agree with our interpretation of applicable regulatory requirements or
that we have in all instances fully complied with all applicable
requirements.  Any failure to comply with applicable requirements
could adversely affect our product sales and profitability.




Loss
of the services of key management personnel could adversely affect our
business.




Our
operations are dependent upon the skill, experience and performance of a
relatively small group of key management and technical personnel, including our
Chairman, our President and Chief Executive Officer, our Chief Financial Officer
and Chief Operating Officer and our head of our personal care business segment.
The unexpected loss of the services of one or more of key management and
technical personnel could have a material adverse effect on the market price of
our common stock and our business, financial condition and results of
operations.




Our
Chairman and our President and Chief Executive Officer devote only as much of
their time as is necessary to the affairs of the Company and also devote time
serving in various capacities with other public and private entities, including
entities owned and controlled by Mr. Kanders. As part
of the Company’s strategic
realignment, we are exploring options to bring in new CEO leadership who will be
better equipped at assisting the realigned Company in growing its revenues in
its core markets and taking advantages of external growth opportunities.
If appropriate as a result of strategic changes in the nature of the Company’s
business, arrangements with certain executive officers of the Company may be
adjusted so they only devote as much as is necessary to the affairs of the
Company and serve other public and private entities including Kanders &
Company in various capacities. While management believes any such non-exclusive
arrangements involving Kanders & Company will benefit the Company by
availing itself of certain of the resources of Kanders & Company, the other
business interests of these individuals could limit their ability to devote time
to our affairs.




Our
business, operating results and financial condition could be adversely affected
if we become involved in litigation regarding our patents or other intellectual
property rights.




The
orthopedic, orthotic, prosthetics and personal care product industries have
experienced extensive litigation regarding patents and other intellectual
property rights, and companies in this industry have used intellectual property
litigation in an attempt to gain a competitive advantage. Furthermore, third
parties may have patents of which we are unaware, or may be awarded new patents,
that may materially adversely affect our ability to market, distribute and sell
our products. Accordingly, our products, including, but not limited to, our
orthopedic gel-based products, may become subject to patent infringement claims
or litigation or interference proceedings declared by the United States Patent
and Trademark Office (the “USPTO”), or the foreign equivalents thereto to
determine the priority of inventions, by competitors or other companies. The
defense and prosecution of intellectual property suits, USPTO interference
proceedings or the foreign equivalents thereto and related legal and
administrative proceedings are both costly and time consuming. An adverse
determination in litigation or interference proceedings to which we may become a
party could:


24




• subject
us to significant liabilities to third parties;




• require
disputed rights to be licensed from a third-party for royalties that may be
substantial;




• require
us to cease manufacturing, using or selling such products or technology;
or




• result
in the invalidation or loss of our patent rights.




Any one
of these outcomes could have a material adverse effect on the market price of
our common stock and our business, financial condition and results of
operations. Furthermore, we may not be able to obtain necessary licenses on
satisfactory terms, if at all. Even if we are able to enter into licensing
arrangements, costs associated with these transactions may be substantial and
could include the long-term payment of royalties. Accordingly, adverse
determinations in a judicial or administrative proceeding or our failure to
obtain necessary licenses could prevent us from manufacturing and selling our
products, or from using certain processes to make our products which would have
a material adverse effect on the market price of our common stock and our
business, operating results and financial condition. Moreover, even if we are
successful in such litigation, the expense of defending such claims could be
material.




In
addition, we may in the future need to litigate to enforce our patents, to
protect our trade secrets or know-how or to determine the enforceability, scope
and validity of the proprietary rights of others. Such enforcement of our
intellectual property rights could involve counterclaims against us. Any future
litigation or interference proceedings may result in substantial expense to us
and significant diversion of effort by our technical and management
personnel.




Intellectual
property litigation relating to our products could also cause our customers or
potential customers to defer or limit their purchases of our products, or cause
health care professionals, agents and distributors to cease or lessen their
support and marketing of our products.




We
may not be able to maintain the confidentiality, or assure the protection, of
our proprietary technology.




We hold
or have the exclusive right to use a variety of patents, trademarks and
copyrights in several countries, including the United States that we are
dependent on, including patents and patent applications in the U.S. and certain
foreign jurisdictions and a number of trademarks for technologies and brands
related to our product offerings. The ownership of a patent or an interest in a
patent does not always provide significant protection, and the patents and
patent applications in which we have an interest may be challenged as to their
validity or enforceability. Others may independently develop similar
technologies or design around the patented aspects of our technology. Challenges
may result in potentially significant harm to our business. We are also
dependent upon a variety of methods and technologies that we regard as
proprietary trade secrets. In addition, we have (i) a non-exclusive, paid up
(except for certain administrative fees) license with Applied Elastomerics,
Incorporated (the “AEI License”) dated as of November 30, 2001, as amended, to
manufacture and sell certain products using mineral oil based gels under certain
patents, during the life of such patents, and (ii) a license with Gerald Zook
(the “Zook License”), effective as of January 1, 1997, to manufacture and sell
certain products using mineral oil based gels under certain patents and know
how, during the life of such patents, in exchange for sales based royalty
payments, that is exclusive as to certain products but is non-exclusive as to
others.  We believe our trademarks and trade names, including
Silipos®, Gel-Care®, Siloliner®, DuraGel® and Silopad®, contribute significantly
to brand recognition for our products, and the inability to use one or more of
these names could have a material adverse affect on our business. For the years
ended December 31, 2009 and 2008, revenues generated by the products
incorporating the technology licensed under the AEI License accounted for
approximately 23.0% and 22.4% of our revenues, respectively.




We rely
on a combination of trade secret, copyright, patent, trademark, unfair
competition and other intellectual property laws as well as contractual
agreements to protect our rights to such intellectual property. Due to the
difficulty of monitoring unauthorized use of and access to intellectual
property, however, such measures may not provide adequate protection. There can
be no assurance that courts will always uphold our intellectual property rights,
or enforce the contractual arrangements that we have entered into to protect our
proprietary technology and trade secrets.




Further,
although we seek to protect our trade secrets, know-how and other unpatented
proprietary technology, in part, with confidentiality agreements with certain of
our employees and consultants, we cannot assure you that:


25




·
            these
      confidentiality agreements will not be
breached;




·
            we
      will have adequate remedies for any
breach;




·
            we
      will not be required to disclose such information to the FDA or other
      governmental agency in order for us to have the right to market a product;
      or




·
              trade
      secrets, know-how and other unpatented proprietary technology will not
      otherwise become known to or independently
      developed by our
competitors.




Any
finding of unenforceability, invalidity, non-infringement, or misappropriation
of our intellectual property could have a material adverse effect on the market
price of our common stock and our business, financial condition and results of
operations. In addition, if we bring or become subject to litigation to defend
against claimed infringement of our rights or of the rights of others or to
determine the scope and validity of our intellectual property rights, such
litigation could result in substantial costs and diversion of our resources.
Unfavorable results in such litigation could also result in the loss or
compromise of our proprietary rights, subject us to significant liabilities,
require us to seek licenses from third parties, or prevent us from selling our
products, which could have a material adverse effect on the market price of our
common stock and our business, financial condition and results of
operations.




In
addition, our licenses, including the AEI License and the Zook License, could be
terminated under a variety of circumstances including for material breach of the
license agreements or in the event of the bankruptcy or insolvency of the
licensor. Any such termination could have a material adverse effect on the
market price of our common stock and our business, financial condition and
results of operations.




A portion of our revenues and
expenditures is subject to exchange rate fluctuations that could adversely
affect our reported results of operations.




While a
majority of our business is denominated in United States dollars, in 2009 we
maintained operations in Canada that required payments in the local currency and
payments received from customers for goods sold in foreign countries are
typically in the local currency. Consequently, fluctuations in the rate of
exchange between the United States dollar and certain other currencies may
affect our results of operations and period-to-period comparisons of our
operating results. For example, the value of the U.S. dollar has increased over
the last year relative to the British pound (which is the principal foreign
currency material to our business) causing a decrease in our reported revenues
when we convert the higher valued foreign currencies into U.S. dollars. If the
value of the U.S. dollar were to increase in relation to that currency in the
future, there could be a negative effect on the value of our sales in that
market when we convert amounts to dollars when we prepare our financial
statements. We do not engage in hedging or similar transactions to reduce these
risks.




We
may be liable for contamination or other harm caused by hazardous materials that
we use.




Our
research and development and manufacturing processes involve the use of
hazardous materials. We are subject to federal, state and local regulation
governing the use, manufacture, handling, storage and disposal of hazardous
materials or waste. We cannot completely eliminate the risk of contamination or
injury resulting from hazardous materials or waste, and we may incur liability
as a result of any contamination or injury. In addition, under some
environmental laws and regulations, we could also be held responsible for all of
the costs relating to any contamination at our past or present facilities and at
third-party waste disposal sites even if such contamination was not caused by
us. We may incur significant expenses in the future relating to any failure to
comply with environmental laws. Any such future expenses or liability could have
a significant negative impact on our business, financial condition and results
of operations.




Our
quarterly operating results are subject to fluctuations.




Our
revenue and operating results have fluctuated and may continue to fluctuate from
quarter to quarter due to seasonal factors and for other
reasons.  Factors which can result in quarterly variations include the
timing and amount of new business generated by us, the timing of new product
introductions, product launches into new markets, our revenue mix, acquisitions,
the timing of additional selling and general and administrative expenses to
support the anticipated growth and development of new business units and the
competitive and fluctuating economic conditions in which we
operate.




Quarter-to-quarter
comparisons of our operating results are not necessarily meaningful and should
not be relied upon as indications of likely future performance or annual
operating results. Reductions in revenues or net income between quarters could
result in a decrease in the market price of our common stock.


26




We may be subject to claims and
liabilities with respect to the businesses we previously divested that may
result in adverse outcomes to our business.




In 2008, we completed the divestiture
of all but our current Silipos and Twincraft businesses.  When we
dispose of businesses we are subject to the risk, contractually agreed or
otherwise, of certain pre-transaction liabilities.  Although the
acquirers generally assumed liabilities relating to those businesses, we may be
subject to claims and lawsuits by third parties, including former vendors,
employees and consultants of ours, related to actions or inaction by an
acquirer. In addition, our divestiture agreements provided customary
indemnifications to purchasers of our businesses or assets.  We agreed
to indemnify the acquirers against specified losses in connection with the sold
businesses.




If an acquirer makes an indemnification
claim or a third party commences an action against us or an acquirer, we may
incur substantial expense and our management may have to devote a substantial
amount of time resolving such claims or defending against such actions, which
could harm our business, operating results and financial condition. In addition,
we may be required to expend substantial resources trying to determine which
party has responsibility for a claim, even if we are ultimately found to be not
responsible.





In
connection with our 2008 divestitures, we will in the future be subject to
certain non-competition and non-solicitation restrictions.




The
non-competition and non-solicitation provisions of the agreement we entered into
when we disposed of the Langer branded custom orthotics and related products
business  provides that for a period of five years after the closing
of the sale (October 24, 2008), neither we nor any of our affiliates are
permitted: (i) to engage in any business  that competes with the
business of producing and selling high-quality custom orthotic devices, ankle
and foot orthotics and prefabricated foot products for the long-term care,
orthopedic, orthotic and prosthetic markets,  (ii) to own, be employed
by, provide financing to, consult with or otherwise render services to any
person who is engaged in such business (with certain exceptions); and (iii) to
solicit or induce any employee, distributor, sales representative, agent or
contract of the purchaser or any of its affiliates to terminate his or its
employment or other relationship with the purchaser or any of its
affiliates.




In connection with the sale of Regal,
the Company agreed that for a period of three years following the sale (June 11,
2008), the Company would not compete with Regal by engaging in any business
providing contracture management services in the long-term care market and
rehabilitation settings by assisting facility personnel in product selection,
product fitting and billing services; provided, however, that such restrictions
shall not be applicable to any successor in interest to all or any portion of
the Company’s medical products and/or personal care products segments as
described in the Company’s Form 10-K for the year ended December 31,
2007.




The non-competition and
non-solicitation prohibitions will restrict the business opportunities available
to us in the future.




Risks
Related to Our Common Stock




One
stockholder has the ability to significantly influence the election of our
directors and the outcome of corporate action requiring stockholder
approval.




As of
March 15, 2010, Warren B. Kanders, our Chairman of the Board of Directors, in
his capacity as sole manager and voting member of Langer Partners, LLC (“Langer
Partners”) and the sole stockholder of Kanders & Company, Inc., may be
deemed to be the beneficial owner of  2,115,906 shares, or
approximately 27.0% of our outstanding common stock. (This amount does not
include options which if exercised would provide 615,000 additional shares of
common stock and restricted stock awards of 500,000 shares, which presently will
vest only if and when the Company has earnings before interest, taxes,
depreciation and amortization of at least $10,000,000 in any period of four
consecutive fiscal quarters, commencing with the quarter beginning January 1,
2007, or 1,126,199 shares issuable upon conversion of the 5% Convertible Notes).
As of March 15, 2010, current executive officers and directors, including Mr.
Kanders, beneficially own an aggregate of 3,093,840 shares (excluding the
options and restricted stock awards, shares issuable upon conversion of the 5%
Convertible Notes, and shares associated with unexercised warrants referenced
above) or approximately 39.4% of our outstanding common stock. Consequently, Mr.
Kanders, acting alone or together with our other officers and directors, has the
ability to significantly influence all matters requiring stockholder approval,
including the election of our directors and the outcome of corporate actions
requiring stockholder approval, such as a change in control.


27




The
price of our common stock has been and is expected to continue to be volatile,
which could affect a stockholder’s return on investment.




There has
been significant volatility in the stock market and in particular in the market
price and trading volume of securities, which has often been unrelated to the
performance of the companies. The market price of our common stock has been
subject to significant fluctuations, and we expect it to continue to be subject
to such fluctuations for the foreseeable future. We believe the reasons for
these fluctuations include, in addition to general market volatility, the
relatively thin level of trading in our stock, and the relatively low public
float.  Therefore, variations in financial results, announcements of
material events, technological innovations or new products by us or our
competitors, our quarterly operating results, changes in general conditions in
the economy or the health care industry, other developments affecting us or our
competitors or general price and volume fluctuations in the market are among the
many factors that could cause the market price of our common stock to fluctuate
substantially.




Shares
of our common stock have been thinly traded in the past.




The
trading volume of our common stock has not been significant, and there may not
be an active trading market for our common stock in the future. As a result of
the thin trading market or “float” for our stock, the market price for our
common stock may fluctuate significantly more than the stock market as a whole.
Without a large float, our common stock is less liquid than the stock of
companies with broader public ownership and, as a result, the trading prices of
our common stock may be more volatile. In the absence of an active public
trading market, an investor may be unable to liquidate his investment in our
common stock. Trading of a relatively small volume of our common stock may have
a greater impact on the trading price for our stock than would be the case if
our public float were larger. We cannot predict the prices at which our common
stock will trade in the future.  Although our common stock is
currently traded on the NASDAQ Capital Market, we cannot provide any assurance
that our common stock will continue to be listed on the NASDAQ Capital
Market.





If
our shares of common stock are removed from listing on the NASDAQ Capital
Market, our stock price and business opportunities may be adversely
affected.




On
January 11, 2010, we received notice from the Office of General Counsel of the
Nasdaq Stock Market (“NASDAQ”) that the Company’s request to transfer the
listing of its common stock from the Nasdaq Global Market to the Nasdaq Capital
Market had been approved by the Nasdaq Hearings Panel (the “Panel”) reviewing
the Company’s listing.  The transfer became effective at the opening
of the market on January 13, 2010.  The Company’s common stock
continues to trade under the symbol “PCGR.”  The Panel also granted
the Company until July 19, 2010 to meet the $1.00 minimum bid price requirement
of the Nasdaq Capital Market under Listing Rule 5550(a)(2).




The
Company submitted its request to the Panel to transfer to the Nasdaq Capital
Market in response to the letter the Company received from Nasdaq, previously
disclosed on the Form 8-K filed by the Company on October 28, 2009, informing
the Company that for 30 consecutive business days the Company’s common stock had
not maintained the minimum market value of publicly held shares of $5,000,000
for continued inclusion on the Nasdaq Global Market under Listing Rule
5450(b)(1)(C).




The
Nasdaq Capital Market is a continuous trading market that operates in
substantially the same manner as the Nasdaq Global Market.  Companies
listed on the Nasdaq Capital Market must meet certain financial requirements and
adhere to Nasdaq’s corporate governance standards.




If our
common stock were delisted from the Nasdaq Capital Market, such delisting may
have an adverse impact on the price of our shares of common stock, the
volatility of the price of our shares, and/or the liquidity of an investment in
our shares of common stock.





We
may issue a substantial amount of our common stock in the future which could
cause dilution to investors and otherwise adversely affect our stock
price.




A key
element of our compensation strategy is to base a portion of the compensation
payable to management and our directors on restricted stock awards and other
equity-based compensation, to align the interests of directors and management
with the interests of the stockholders. In 2007, we issued restricted stock
awards for an aggregate of 955,000 shares to eight officers and directors, of
which restricted stock awards for 872,500 shares to six officers and directors
remain.  These awards will vest if and when the Company achieves
certain financial and operating targets or, in some cases, upon a change of
control. None of the restricted stock awards granted in 2007 is presently
vested.


28




We may
also issue additional shares of common stock as consideration for any
acquisitions we consummate. These issuances could be significant. To the extent
that we make acquisitions and issue our shares of common stock as consideration,
stockholders’ interest may be diluted. Any such issuance will also increase the
number of outstanding shares of common stock that will be eligible for sale in
the future. Persons receiving shares of our common stock in connection with
these acquisitions may be more likely to sell off their common stock than other
investors, which may influence the price of our common stock. In addition, the
potential issuance of additional shares in connection with anticipated
acquisitions could lessen demand for our common stock and result in a lower
price than might otherwise be obtained. We may issue common stock in the future
for other purposes as well, including in connection with financings, for
compensation purposes, in connection with strategic transactions or for other
purposes.




In
January and May 2007, we issued an aggregate of 1,068,356 shares of our common
stock as part of the consideration we paid for the Twincraft acquisition. We
also issued 333,483 shares in connection with the Regal acquisition in
2007.




We
have a significant amount of convertible indebtedness outstanding and may issue
a substantial amount of our common stock in connection with these and other
outstanding securities and in connection with future acquisitions and our growth
plans; any such issuances of additional shares could adversely affect our stock
price.




On
December 8, 2006, we sold $28,880,000 of our 5% Convertible Notes in a private
placement. At the date of issuance, the 5% Convertible Notes were convertible
into 6,080,000 shares of our common stock at a conversion price of $4.75 per
share. As a result of the anti-dilution provisions of the 5% Convertible Notes
and the issuance of 1,068,356 shares of common stock in the Twincraft
acquisition and 333,483 shares in the Regal acquisition, the 5% Convertible
Notes are now convertible into 6,195,165 shares of our common stock, at a
conversion price, as adjusted, of $4.6617 per share, subject to further
adjustment in certain circumstances. The conversion of the 5% Convertible Notes
could result in dilution in the value of the shares of our outstanding stock and
the voting power represented thereby. The effect of the conversion of all of our
outstanding 5% Convertible Notes would be to increase outstanding shares and
dilute current shareholders by approximately 44.1% at March 15, 2010. In
addition, the conversion price of our 5% Convertible Notes may be lowered under
the conversion price adjustment provisions of the notes in certain
circumstances, including if we issue common stock at a net price per share less
than the conversion price then in effect or if we issue rights, warrants or
options entitling the recipients to subscribe for or purchase shares of our
common stock at a price per share less than the conversion price (after taking
into account any consideration we received for such rights, warrants or
options). A reduction in the conversion price would result in an increase in the
number of shares issuable upon the conversion of our 5% Convertible Notes. We
also have a significant number of stock options and warrants outstanding, and
restricted stock awards which would vest if we achieve certain performance
targets.  Effective January 1, 2009, the Company adopted FASB ASC
815-40 (prior authoritative literature: EITF 07-5 “Determining Whether an
Instrument is Indexed to an Entity’s Own Stock”) and will adjust the conversion
option in its convertible debt to its fair value in future reporting periods
which may result in more volatility in operating results.




Our
certificate of incorporation, our bylaws and Delaware law contain provisions
that could discourage, delay or prevent a takeover attempt.




We are
subject to the anti-takeover provisions of Section 203 of the Delaware General
Corporation Law. In general, Section 203 prohibits publicly-held Delaware
corporations to which it applies from engaging in a “business combination”
(generally including mergers, consolidations and sales of 10% or more of the
corporation’s assets) with an “interested stockholder” (generally defined as a
person owning 15% or more of the outstanding voting stock of the corporation,
subject to certain exceptions) for a period of three years after the date of the
transaction in which the person became an interested stockholder, unless the
business combination is approved in a prescribed manner. This provision could
discourage others from bidding for our shares and could, as a result, reduce the
likelihood of an increase in our stock price that would otherwise occur if a
bidder sought to buy our stock.




It could
also discourage, delay or prevent another company from merging with us or
acquiring us, even if our stockholders were to consider such a merger or
acquisition to be favorable.




Additionally,
our Board of Directors has the authority to issue up to 250,000 shares of
preferred stock, and to determine the price, rights, preferences and
restrictions, including voting and conversion rights, of those shares without
any further action or vote by the stockholders. The rights of the holders of
common stock will be subject to, and may be adversely affected by, the rights of
the holders of preferred stock that may be issued in the future. Such provisions
could adversely affect the holders of common stock in a variety of ways,
including by potentially discouraging, delaying or preventing a takeover of us
and by diluting our earnings per share.


29




We
do not expect to pay dividends in the foreseeable future.




We
currently do not intend to pay any dividends on our common stock. We currently
intend to retain any earnings for working capital, repayment of indebtedness,
capital expenditures and general corporate purposes.




Item
1B. Unresolved Staff Comments




Not
applicable.




Item
2. Properties




We are
headquartered and have sales offices in New York, New York and operate
manufacturing facilities in Niagara Falls, New York, and Winooski,
Vermont.  The following table sets forth information about our real
properties where our manufacturing, warehouse, sales and office space are
located:




Location
                          
                          Use
                          
                          2009
                            Annual
                            Rent
                          
                          Owned/
                            Leased
                          
                          Lease
                            Termination
                            Date
                          
                          Size
                            (Square
                            Feet)Niagara
      Falls, New York
                          
                          Manufacturing
      and distribution
                          
                          $
                          443,011
                          
                          Leased
                          
                          May 31,
      2018
                          (1)
                          40,000Niagara
      Falls, New York
                          
                          Manufacturing
                          
                          $
                          33,306
                          
                          Leased
                          
                          February
      28, 2011
                          (2)
                          5,250New
      York, New York
                          
                          Corporate
      headquarters and sales
                          
                          $
                          39,000
                          
                          Leased
                          
                          May
      31, 2010
                          (3)
                          3,000King
      of Prussia,Pennsylvania
                          
                          Vacant
                          
                          $
                          99,014
                          
                          Leased
                          
                          December
      31, 2012
                          (4)
                          24,000Winooski,
      Vermont
                          
                          Manufacturing
      and distribution
                          
                          $
                          452,500
                          
                          Leased
                          
                          January
      22, 2014
                          (5)
                          90,500Essex,
      Vermont
                          
                          Distribution
      and warehousing
                          
                          $
                          303,600
                          
                          Leased
                          
                          October
      1, 2010
                          (5)
                          80,100




(1)
            The
      rent increases each year throughout the
lease.


(2)
            The
      lease was renewed to February 28,
2011.


(3)
            Management
      expects to lease comparable space upon lease
  expiration.


(4)
            Formerly
      Regal Medical Supply, LLC’s sales and administration offices; it is
      anticipated that the property will be
sublet.


(5)
            Twincraft
      business that was acquired in January
2007.




We
believe that our manufacturing, warehouse and office facilities are suitable and
adequate and afford sufficient capacity for our current and reasonably
foreseeable future needs. We believe we have adequate insurance coverage for our
properties and their contents.




Item
3. Legal Proceedings





On or
about February 13, 2006, Dr. Gerald P. Zook filed a demand for arbitration with
the American Arbitration Association, naming the Company and Silipos as two of
the sixteen respondents.  (Four of the other respondents are the
former owners of Silipos and its affiliates, and the other ten respondents are
unknown entities.)  The demand for arbitration alleged that the
Company and Silipos were in default of obligations to pay royalties in
accordance with the terms of a license agreement between Dr. Zook and Silipos
dated as of January 1, 1997, with respect to seven patents owned by Dr. Zook and
licensed to Silipos.  Silipos has paid royalties to Dr. Zook, but Dr.
Zook claimed that greater royalties were owed.  Silipos vigorously
disputed any liability and contested his theory of damages. Dr. Zook agreed to
drop PC Group, Inc. (then known as Langer, Inc.), but not Silipos, from the
arbitration, without prejudice. Arbitration hearings were conducted on February
2-6, 2009 at which time Dr. Zook sought almost $1 million in damages and a
declaratory judgment with respect to royalty reports.  On June 4,
2009, the arbitrator issued a decision denying and dismissing all claims of Dr.
Zook and entitling Silipos to recover its reasonable attorneys’ fees in
connection with the arbitration.  On August 17, 2009, the arbitrator issued
a final award dismissing all claims of Dr. Zook and awarding Silipos
approximately $256,000 in attorneys’ fess with simple interest at 9% per annum
accruing from October 1, 2009.  Silipos made a motion in the New York
County Supreme Court to confirm the arbitration award.  On December
22, 2009, the New York County Supreme Court entered a judgment confirming the
arbitration award in the amount of $262,191 and the time for appealing the
judgment has since expired. The Company recorded a receivable and reduced legal
expenses in the amount of the award, and the receivable is being reduced each
month by the amount of royalties earned by Dr. Zook under the license
agreement.


30





The
Company received a letter from Langer Biomechanics, Inc. f/k/a Langer
Acquisition Corp. (“Langer Biomechanics”) dated September 17, 2009, alleging the
breach by the Company of certain representations and warranties contained in the
Asset Purchase Agreement dated October 24, 2008 between the Company and Langer
Biomechanics, (the “Asset Purchase Agreement” ), related to the sale of the
assets and liabilities of the Company’s former Langer branded custom orthotics
and related products business.   No damages were alleged by
Langer Biomechanics at the time.  As a result of Langer Biomechanics’
allegation, a receivable in the amount of $237,500 that was scheduled to be
released to the Company from escrow on October 24, 2009, continued to be held in
escrow in accordance with the terms of the Escrow Agreement dated October 24,
2008, by and among the Company, Langer Biomechanics, and The Bank of New York
Mellon.  On February 18, 2010, Langer Biomechanics filed a formal
claim of indemnification.  However, Langer Biomechanics agreed to
release the remaining amount being held in escrow.  On March 1, 2010,
the remaining escrow balance was released and received by the
Company.




Additionally,
in the normal course of business, the Company may be subject to claims and
litigation in the areas of general liability, including claims of employees, and
claims, litigation or other liabilities as a result of acquisitions completed.
The results of legal proceedings are difficult to predict and the Company cannot
provide any assurance that an action or proceeding will not be commenced against
the Company or that the Company will prevail in any such action or
proceeding.





An
unfavorable resolution of any legal action or proceeding could materially
adversely affect the market price of the Company’s common stock and its
business, results of operations, liquidity, or financial condition.





Item
4.  Reserved




[Remainder
of page is intentionally left blank.]


31


PART
II




Item
5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities




Price
Range of Common Stock




Our
common stock, par value $0.02 per share, had traded on the Nasdaq Global Market
since August 23, 2005. On January 13, 2010 our stock, which is listed under the
symbol “PCGR”, began trading on the Nasdaq Capital Market.  The
following table sets forth the high and low bid prices for our common stock as
reported.




The last
reported sale price on March 15, 2010, was $0.46.   On such date,
there were approximately 684 holders of record of our common stock. This
figure excludes all owners whose stock is held beneficially or in “street”
name.




Year
      ended December 31, 2010
                                            
                                            High
                                            
                                            
                                            LowFirst
      Quarter (January 1-March 15)
                                            
                                            $
                                            0.70
                                            
                                            
                                            $
                                            0.30Year
      ended December 31, 2009
                                            
                                            High
                                            
                                            
                                            LowFirst
      Quarter
                                            
                                            $
                                            0.75
                                            
                                            
                                            $
                                            0.16Second
      Quarter
                                            
                                            $
                                            3.05
                                            
                                            
                                            $
                                            0.19Third
      Quarter
                                            
                                            $
                                            1.10
                                            
                                            
                                            $
                                            0.39Fourth
      Quarter
                                            
                                            $
                                            0.70
                                            
                                            
                                            $
                                            0.21Year ended December 31, 2008
                                            
                                            High
                                            
                                            
                                            LowFirst
      Quarter
                                            
                                            $
                                            2.95
                                            
                                            
                                            $
                                            1.70Second
      Quarter
                                            
                                            $
                                            2.07
                                            
                                            
                                            $
                                            .79Third
      Quarter
                                            
                                            $
                                            1.40
                                            
                                            
                                            $
                                            .56Fourth
      Quarter
                                            
                                            $
                                            1.00
                                            
                                            
                                            $
                                            .27




Dividend
Policy




We have
not declared any cash dividends on our common stock in the past, and we do not
presently anticipate declaring or paying any cash dividends in the foreseeable
future. We currently anticipate that we will retain all future earnings for use
in our business. The payment of dividends in the future will be at the
discretion of our Board of Directors and will depend upon, among other things,
our results of operations, capital requirements, general business conditions,
contractual restrictions on payment of dividends, if any, legal and regulatory
restrictions on payment of dividends, and other factors our Board of Directors
deems relevant.




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




The
discussion in this Item 7 should be read in conjunction with our consolidated
financial statements and the related notes to those statements included
elsewhere in this Annual Report. In addition to historical consolidated
financial information, the following discussion and analysis contains
forward-looking statements that involve risks, uncertainties and assumptions.
Our actual results and timing of specific events may differ materially from
those anticipated in these forward-looking statements as a result of many
factors, including, but not limited to, those discussed in Item 1A, Risk
Factors, and elsewhere in this Annual Report.




Overview




Through
our wholly-owned subsidiaries, Twincraft and Silipos, we offer a diverse line of
personal care products for the private label retail, medical, and therapeutic
markets.  In addition, at Silipos, we design and manufacture high
quality gel-based medical products targeting the orthopedic and prosthetic
markets.  We sell our medical products primarily in the United States
and Canada, as well as in more than 30 other countries, to national, regional,
and international distributors.  We sell our personal care products
primarily in North America to branded marketers of such products, specialty and
mass market retailers, direct marketing companies, and companies that service
various amenities markets.


32




Our broad
range of gel-based orthopedic and prosthetics products are designed to protect,
heal, and provide comfort for the patient.  Our line of personal care
products includes bar soap, gel-based therapeutic gloves and socks, scar
management products, and other products that are designed to cleanse and
moisturize specific areas of the body, often incorporating essential oils,
vitamins, and nutrients to improve the appearance and condition of the
skin.




Twincraft,
a manufacturer of bar soap, focuses on the health and beauty, direct marketing,
amenities, and mass market channels, was acquired in January 2007, and Silipos,
which offers gel-based personal care and medical products, was acquired in
September 2004.




Recent
Developments:




Name
Change




On July
23, 2009, we changed our name from Langer, Inc. to PC Group, Inc.  The
name change was approved at our 2009 Annual Meeting of Stockholders held on July
14, 2009.  We also changed our stock ticker symbol on NASDAQ from
“GAIT” to “PCGR” effective at the commencement of trading on July 24,
2009.




The new
name is intended to more accurately reflect our current business model and scope
of our product offerings.  We have historically designed, manufactured
and distributed a broad range of medical products targeting the orthopedic,
orthotic, and prosthetic markets.  Today, we offer a more diverse line
of personal care products for the private label retail, medical and therapeutic
markets and the name PC Group, Inc. is designed to better convey this broader
scope of products.




Operating
History




Prior to
2009, we owned a diverse group of subsidiaries and businesses including
Twincraft, Silipos, the Langer branded custom orthotics and related products
business, Langer UK Limited (“Langer UK”), Regal Medical Supply, LLC (“Regal”),
and Bi-Op Laboratories, Inc. (“Bi-Op”).  In November 2007, we began a
study of strategic alternatives available to us with regard to our various
operating companies.  During 2008, we sold Langer UK, Bi-Op, Regal,
and the Langer orthotics business, as further discussed in Note 4 of the
accompanying financial statements.




The sales
of these businesses generated approximately $7.0 million in cash proceeds which
we have deployed in part to purchase our own capital stock in the market and
have retained for future needs.  We currently hold approximately
$181,000 in notes receivable related to the sale of Langer UK.




We
believe that along with strengthening our balance sheet through these
divestitures, we have honed our focus on our two largest and most significant
businesses, Twincraft and Silipos.  In addition, during 2008 and into
2009 we streamlined our corporate structure, significantly reducing general and
administrative expenses.  We expect this streamlined and focused
organization will enhance our ability to develop and market innovative products.
As
part of this strategic realignment, we are exploring options to bring in new CEO
leadership who will be better equipped at assisting the realigned Company in
growing its revenues in its core markets and taking advantages of external
growth opportunities.




In
addition, our Board has authorized the purchase of up to $6,000,000 of our
outstanding common stock.  In connection with this repurchase program,
our senior lender, Wachovia Bank, National Association, had waived, until April
15, 2009, the provisions of the credit facility that would otherwise have
precluded us from making such repurchases.  From January 2008 through
April 15, 2009, we purchased 3,715,438 shares of our common stock at a cost of
$2,765,389 (or $0.74 per share) including commissions paid.  Our Board
of Directors has elected not to request an extension of the waiver from Wachovia
Bank, National Association.




At our
Annual Meeting of Stockholders held July 14, 2009, our stockholders approved an
amendment to our Certificate of Incorporation to decrease the number of
authorized shares of capital stock from 50,250,000 to 25,000,000.  We
believe that this reduction in the number of authorized shares still leaves us
with sufficient authorized shares in light of the number of shares currently
outstanding and additional shares reserved for issuance and will not otherwise
impede our operations or goals.  We expect an annual franchise tax decrease
of approximately $30,000 as a result of the reduction in authorized
shares.


33




NASDAQ
Stock Market Listing




On
January 11, 2010, we received notice from the Office of General Counsel of the
Nasdaq Stock Market (“NASDAQ”) that our request to transfer the listing of our
common stock from the Nasdaq Global Market to the Nasdaq Capital Market had been
approved by the Nasdaq Hearings Panel (the “Panel”) reviewing our
listing.  The transfer became effective at the opening of the market
on January 13, 2010.  Our common stock continues to trade under the
symbol “PCGR.”  The Panel also granted us until July 19, 2010 to meet
the $1.00 minimum bid price requirement of the Nasdaq Capital Market under
Listing Rule 5550(a)(2).




We
submitted our request to the Panel to transfer to the Nasdaq Capital Market in
response to the letter we received from Nasdaq, previously disclosed on the Form
8-K we filed on October 28, 2009, informing us that for 30 consecutive business
days our common stock had not maintained the minimum market value of publicly
held shares of $5,000,000 for continued inclusion on the Nasdaq Global Market
under Listing Rule 5450(b)(1)(C).




The
Nasdaq Capital Market is a continuous trading market that operates in
substantially the same manner as the Nasdaq Global Market.  Companies
listed on the Nasdaq Capital Market must meet certain financial requirements and
adhere to Nasdaq’s corporate governance standards.




Our
Products and Markets




We
currently operate in two segments, medical products and personal care
products.  The operations of Twincraft are included in the personal
care segment, and the personal care products of Silipos are also included in
this segment.  The other segment is the medical products segment which
includes the medical, orthopedic and prosthetic gel-based products of
Silipos.




For the
year ended December 31, 2009, our personal care segment represented 79.9% of our
total revenue, compared to 79.0% of total revenues for the year ended December
31, 2008.  Our medical products segment’s revenue, on the other hand,
represented 20.1% of total revenues for the year ended December 31, 2009, as
compared to 21.0% of our total revenue for the year ended December 31,
2008.




We market
our medical products directly to international, national and regional wholesale
distributors.  We sell our personal care products primarily in North
America to branded marketers of such products, specialty retailers, direct
marketing companies and companies that service various amenities
markets.




Revenue
from product sales is recognized at the time of shipment. Our most significant
expense is cost of sales. Cost of sales consists of materials, direct labor and
overhead, and related shipping costs. General and administrative expenses
consist of executive, accounting and administrative salaries and
employee-related expenses, insurance, bank service charges, stockholder
relations and amortization of identifiable intangible assets with definite
lives. Selling expenses consist of advertising, promotions, commissions,
conventions, postage, travel and entertainment, sales and marketing salaries and
related expenses.




For each
of the years ended December 31, 2009 and 2008, we derived approximately 89.2%
and 85.7% of our revenue from North America, and approximately 10.8% and 14.3%
of our revenue from outside North America. Of our revenue derived from North
America for the years ended December 31, 2009 and 2008, approximately 91.0% and
approximately 95.2%, respectively, was generated in the United States and
approximately 9.0% and 4.8% respectively, was generated from
Canada.




Critical
Accounting Policies and Estimates





Our
accounting policies are more fully described in Note 1 of the Notes to
Consolidated Financial Statements. The preparation of financial statements in
conformity with accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Future events and their
effects cannot be determined with absolute certainty. Therefore, the
determination of estimates requires the exercise of judgment. Actual results may
differ from these estimates under different assumptions or
conditions.  Beginning in 2009, the Company changed its method of
evaluating the realization of goodwill related to Silipos’ medical products and
Silipos’ personal care reporting units from an earnings capitalization model to
a discounted cash flow methodology, as more fully discussed
below.


34




Accounting Estimates.We believe
the most significant accounting estimates inherent in the preparation of our
consolidated financial statements include estimates associated with our reserves
with respect to collectibility of accounts receivable, allowances for sales
returns, inventory valuations, valuation allowance for deferred tax assets and
impairment of goodwill and identifiable intangible assets. Various assumptions
and other factors underlie the determination of these significant estimates. The
process of determining significant estimates is fact specific and takes into
account factors such as historical experience, current and expected economic
conditions, and product mix. We constantly re-evaluate these significant factors
and make adjustments where facts and circumstances dictate. Historically, actual
results have not significantly deviated from those determined using the
estimates described above.




Revenue Recognition.Revenue from
the sale of our products is recognized upon shipment. We generally do not have
any post-shipment obligations to customers other than for limited product
warranties.  Revenue from shipping and handling fees is included in
net sales in the consolidated statements of operations. Costs incurred for
shipping and handling is included in the cost of sales in the consolidated
statements of operations.




Goodwill and Identifiable Intangible
Assets.Goodwill
represents the excess of purchase price and related costs over the value
assigned to net tangible and identifiable intangible assets of businesses
acquired and accounted for under the purchase method.  As prescribed
under adopted FASB ASC 360-10 (prior authoritative literature: FAS 142 “Goodwill
and Other Intangible Assets,”) we test annually for possible impairment to
goodwill and our indefinite lived tradename. We perform our test as of October
1st each year using a discounted cash flow analysis that requires that certain
assumptions and estimates be made regarding industry economic factors and future
growth and profitability at each of our reporting units. We also incorporate
market participant assumptions to estimate fair value for impairment
testing.   Our definite lived intangible assets are tested under
adopted FASB ASC 350-30 (prior authoritative literature: FAS 144 “Accounting for
the Impairment or Disposal of Long-Lived Assets”) when impairment indicators are
present.  An undiscounted model is used to determine if the carrying
value of the asset is recoverable.  If not, a discounted analysis is
done to determine the fair value.  We engage a valuation analysis
expert to prepare the models and calculations used to perform the tests, and we
provide them with estimates regarding our reporting units’ expected growth and
performance for future years.




Changes
in the assumptions used could materially impact our fair value estimates.
Assumptions critical to our fair value estimates are:  (i) discount
rate used to derive the present value factors used in determining the fair value
of the reporting units and trademarks and customer lists, (ii) royalty rates
used in our trademark valuations; (iii) projected average revenue growth rates
used in the reporting unit and trademark and customer list models; and (iv)
projected long-term growth rates used in the derivation of terminal year
values.  These and other assumptions are impacted by economic
conditions and expectations of management and will change in the future based on
period-specific facts and circumstances.




The
following table shows the range of assumptions we used to derive our fair value
estimates and the hypothetical additional impairment charge for goodwill,
trademarks, and customer lists resulting from a one percentage point unfavorable
change in each of our fair value assumptions:





Assumptions Used
                      
                      Goodwill
                      
                      
                      Trademarks
                      
                      
                      Customer ListDiscount
      rate
                      
                      
                      8.4-10.2
                      %
                      
                      
                      17.0-18.2
                      %
                      
                      
                      13.9
                      %Royalty
      Rate
                      
                      
                      N/A
                      
                      
                      
                      2.0-4.0
                      %
                      
                      
                      N/AAverage
      revenue growth rates
                      
                      
                      2.5-6.5
                      %
                      
                      
                      2.5-4.0
                      %
                      
                      
                      3.6
                      %Long-term
      growth rates
                      
                      
                      2.5-5.0
                      %
                      
                      
                      3.5-4.0
                      %
                      
                      
                      2.5
                      %




Effect of one percentage point
      unfavorable
                        
                        (in thousands)change in:
                        
                        Goodwill
                        
                        
                        Trademarks
                        
                        
                        Customer ListDiscount
      rate
                        
                        $
                        1,674
                        
                        
                        $
                        —
                        
                        
                        $
                        76Royalty
      rate
                        
                        
                        —
                        
                        
                        
                        1,170
                        
                        
                        
                        —Average
      revenue growth rates
                        
                        
                        1,626
                        
                        
                        
                        —
                        
                        
                        
                        43Long-term
      growth rates
                        
                        
                        870
                        
                        
                        
                        —
                        
                        
                        
                        3




We
recorded an impairment charge to goodwill for the fiscal year ended December 31,
2009 of approximately $4.7 million primarily as a result of lower projected
earnings at our Twincraft reporting unit.  At December 31, 2009, after
the impairment charge, we had goodwill remaining of approximately $11.2 million
for all three reporting units.


35




We
recorded an impairment charge to identifiable intangible assets for the fiscal
year ended December 31, 2009 of $1.0 million relating to the customer list of
our Twincraft reporting unit, which was primarily the result of the anticipated
reduction of approximately 50% of the revenue derived from one repeat
customer.  The financial models do not consider the Company’s ability
to replace lost customers with new customers.  At December 31, 2009,
after the impairment charge, we had identifiable intangible assets of
approximately $8,018,000.




As
indicated above, the method to compute the amount of impairment incorporates
quantitative data and qualitative criteria including new information that can
dramatically change the decision about the valuation of an intangible asset in a
very short period of time.  The Company will continue to monitor the
expected future cash flows of its reporting units for the purpose of assessing
the carrying values of its goodwill and its other intangible
assets.  Any resulting impairment loss could have a material adverse
effect on the Company’s reported financial position and results of operations
for any particular quarterly or annual period.




As of
October 1, 2009, the Company’s testing date, the Company’s market capitalization
was approximately $4,866,000.  The Company’s market capitalization at
December 31, 2009 was approximately $2,512,000 which changed from October 1,
2009 as a result of a decrease in the stock price.  The Company has
completed a reconciliation of the sum of the estimated fair values of its
reporting units to its market value (based upon its stock price at October 1,
2009, the Company’s annual testing date), which included the quantification of a
controlling interest premium.  The Company has $28.0 million of
convertible notes at the corporate level that are not allocated to the operating
units.  This was done because this financing was raised for corporate
strategic alternatives and not to fund the operations of the individual
reporting units.  Also, the Company’s corporate-level expenses are not
allocated to the individual reporting units as they do not relate to their
operations.   In addition, the Company considers the following
qualitative items that cannot be accurately quantified and are based upon the
beliefs of management, but provide additional support for the difference between
the estimated fair value of the Company’s reporting units and its market
capitalization:





·
            The
      Company’s stock is thinly traded;


·
            The
      decline in the Company’s stock price during 2009 is not correlated to a
      change in the overall operating performance of the Company;
      and


·
            Previously
      unseen pressures are in place given the global financial and economic
      crisis.




Because
of our acquisition history, goodwill and other identifiable intangible assets
comprise a substantial portion (43.3% as of December 31, 2009 and 48.0% as of
December 31, 2008) of our total assets.  Goodwill and identifiable
intangible assets, net, at December 31, 2009 were approximately $11,176,000 and
$8,018,000, respectively.  Goodwill and identifiable intangible
assets, net, at December 31, 2008 were approximately $15,898,000 and
approximately $10,079,000, respectively.




During
the year ended December 31, 2009, identifiable intangible assets decreased by
approximately $2,062,000 which was due to an impairment charge of approximately
$1,000,000 on the Twincraft customer list and amortization of other intangibles
of approximately $1,062,000 during the year.  Effective January 1,
2009, the Company changed the estimated useful life of the Silipos tradename
from an indefinite life to a useful life of 18 years.




During
the year ended December 31, 2009, goodwill decreased by approximately
$4,722,000. This decrease was attributable to the impairment charge of
$4,722,000 related to Twincraft.  Such impairment is included in loss
from continuing operations.




Allowance for Doubtful
Accounts.Our allowance
for doubtful accounts was 6.7% of accounts receivable at December 31, 2009,
compared to 3.0% of accounts receivable at December 31, 2008. Management
believes that the overall allowance, as a percentage of accounts receivable at
December 31, 2009 is appropriate based upon the consolidated collection and
write-off history as well as the average age of the consolidated accounts
receivable. During the year ended December 31, 2009, we increased the reserve by
approximately $156,000 and wrote off, net of recoveries, approximately $14,000
against the allowance. As of December 31, 2009, the allowance for doubtful
accounts was approximately $314,000.  If future payments by our
customers were different from our estimates, we may need to increase or decrease
our allowance for doubtful accounts.  For the year ended December 31,
2008, we added approximately $353,000 and wrote off, net of recoveries,
approximately $585,000.


36




Inventory Reserve. During the
year ended December 31, 2009, we added approximately $209,000 of additional
reserves and wrote off approximately $205,000 in excess or obsolete inventory,
which was disposed of during the year. During 2009, we reviewed our inventory
levels and aging relative to current and expected usage and determined the
requirement for additions to the reserve. The inventory reserve for obsolete
inventory at December 31, 2009 was approximately $614,000. During the year ended
December 31, 2008, we added approximately $113,000 of additional reserves and
wrote off approximately $291,000 in excess or obsolete inventory which was
disposed of during the year.  The reserve for obsolete inventory was
approximately $610,000 at December 31, 2008.  If the inventory quality
or usage relative to quantities held were to deteriorate or improve in the
future, we may need to increase or decrease our reserve for excess or obsolete
inventory.




Inventory
write-downs represent the estimated loss of value of certain slow-moving
inventory or inventory that has been damaged or spoiled. Inventory usage is
analyzed using turnover analysis, and an allowance for obsolescence is provided
when inventory quantity exceeds its normal cycle. The percentage of allowance is
based upon actual usage, historical data and experience. Most of these reserves
are associated with raw materials used in the fabrication process and either
represent items no longer utilized in the process or significant excess
inventory. Inventory for which a reserve has been provided was approximately
$614,000 and approximately $609,000, on an original cost basis, at December 31,
2009 and 2008, respectively. Certain of the raw material inventory for which a
reserve was provided have subsequently been used in fabrication, with the
related reserve being reversed. However, we re-evaluate the reserve as of the
end of each reporting period based upon the age of the existing inventory and
the usage analysis.




Valuation Allowance—Deferred Tax
Assets.During the year ended December 31, 2009, the valuation
allowance was increased by approximately $548,000 to approximately $7,493,000 to
reserve for various income tax benefits which may not be
realized.  During 2008, the valuation allowance was decreased by
approximately $2,300,000 to approximately $6,944,000.




Stock-Based
Compensation.  The Company accounts for share-based
compensation cost in accordance with FASB ASC 718-10 (prior authoritative
literature: SFAS No. 123(R), “Share-Based Payment”).  The fair value
of each option award is estimated on the date of the grant using a Black-Scholes
option valuation model.  The compensation cost is recognized over the
service period, which is usually the vesting period of the
award.  Expected volatility is based on the historical volatility of
the price of the Company’s stock.  The risk-free interest rate is
based on Treasury issues with a term equal to the expected life of the
option.  The Company uses historical data to estimate expected
dividend yield, expected life and forfeiture rates.  For stock options
granted as consideration for services rendered by non-employees, the Company
recognizes compensation expense in accordance with the requirements of FASB ASC
505-50 (prior authoritative literature: EITF No. 96-18, “Accounting for Equity
Instruments That Are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods and Services” and EITF 00-18 “Accounting
Recognition for Certain Transactions involving Equity Instruments Granted to
Other Than Employees”).




Adoption of FASB ASC
740-10.  We adopted FASB ASC 740-10 (prior authoritative
literature: Interpretation No. 48, “Accounting for Uncertainty in Income Taxes”)
on January 1, 2007.  We performed a thorough review of our tax returns
not yet closed due to the statute of limitations and other currently pending tax
positions of the Company.  We reviewed and analyzed our tax records
and documentation supporting tax positions for purposes of determining the
presence of any uncertain tax positions and confirming other tax positions as
certain under FASB ASC 740-10.  We reviewed and analyzed our records
in support of tax positions represented by both permanent and temporary
differences in reporting income and deductions for tax and accounting
purposes.  We maintain a policy, consistent with principals under FASB
ASC 740-10, to continually monitor past and present tax
positions.   No uncertain tax positions were identified as a
result of this review.


37




Results
of Operations




The
following table presents selected consolidated statements of operations data as
a percentage of net sales:





2009
                  
                  
                  2008Consolidated
      Statements of Operations Data:Net
      sales
                  
                  
                  100.0
                  %
                  
                  
                  100.0
                  %Cost
      of sales
                  
                  
                  71.0
                  
                  
                  
                  71.0Gross
      Profit
                  
                  
                  29.0
                  
                  
                  
                  29.0Selling
      expenses
                  
                  
                  11.7
                  
                  
                  
                  11.6General
      and administrative expenses
                  
                  
                  18.0
                  
                  
                  
                  21.8Research
      and development expenses
                  
                  
                  2.3
                  
                  
                  
                  2.2Provision
      for impairment of intangible assets
                  
                  
                  14.0
                  
                  
                  
                  12.7Operating
      (loss) income
                  
                  
                  (17.0
                  )
                  
                  
                  (19.3
                  )Other
      income (expense):Interest
      income
                  
                  
                  0.1
                  
                  
                  
                  0.1Interest
      expense
                  
                  
                  (6.2
                  )
                  
                  
                  (5.0
                  )Other
      income (expense)
                  
                  
                  —
                  
                  
                  
                  —Other
      expense, net
                  
                  
                  (6.1
                  )
                  
                  
                  (4.9
                  )Loss
      from continuing operations before income taxes
                  
                  
                  (23.1
                  )
                  
                  
                  (24.2
                  )Benefit
      from (provision for) income taxes
                  
                  
                  2.5
                  
                  
                  
                  —Net
      loss from continuing operations
                  
                  
                  (20.6
                  )
                  
                  
                  (24.2
                  )Discontinued
      operations:Income
      (loss) from operations of discontinued subsidiary
                  
                  
                  —
                  
                  
                  
                  (6.2
                  )Income
      tax benefit (provision)
                  
                  
                  —
                  
                  
                  
                  0.9Loss
      from discontinued operations
                  
                  
                  —
                  
                  
                  
                  (5.3
                  )Net
      loss
                  
                  
                  (20.6
                  )%
                  
                  
                  (29.5
                  )%




Years
Ended December 31, 2009 and 2008




During
2008, the Company sold all of the outstanding stock of Langer UK, sold our
entire membership interest in Regal, and sold all of the outstanding stock of
Bi-Op. In addition, on October 24, 2008, we sold substantially all of the
operating assets and liabilities of the Langer custom branded orthotics business
(“Langer Branded Orthotics”). The results of operations of Langer UK, Regal,
Bi-Op, and Langer Branded Orthotics are reflected as discontinued operations in
the consolidated statements of operations for the years ended December 31, 2009
and 2008.




Net loss
from continuing operations for the year ended December 31, 2009 was
approximately $(8,479,000) or $(1.06) per share on a fully diluted basis,
compared to a net loss from continuing operations for the year ended December
31, 2008 of approximately $(11,308,000) or $(1.06) per share on a fully diluted
basis. The operating results for the year ended December 31, 2009 include a
non-recurring, non-cash deferred tax benefit of approximately
$1,075,000.  This benefit results from the reversal of a previously
established tax valuation allowance which is no longer required as a result of a
change in the estimated useful life of the Silipos tradename from an indefinite
life to a useful life of approximately 18 years effective January 1,
2009.  Also included in the 2009 operating results are an impairment
charge to goodwill of approximately $4.7 million resulting from lower projected
earnings at our Twincraft reporting unit and an impairment charge to
identifiable intangible assets of $1.0 million relating to the customer list of
our Twincraft reporting unit which was primarily the result of the anticipated
reduction of approximately 50% in the revenue derived from one repeat
customer.  The Company’s loss from continuing operations before income
taxes was approximately $(9,523,000) for the year ended December 31, 2009,
compared to a net loss from continuing operations before income taxes of
approximately $(10,899,000) for the year ended December 31,
2008.  Included in the net loss from continuing operations for 2008
was an impairment charge of approximately $5,700,000 related to Twincraft, of
which approximately $3,300,000 was related to goodwill and approximately
$2,400,000 was related to the repeat customer list.  The decrease in
the Company’s net loss from continuing operations before income taxes is due to
reductions in general and administrative expenses of approximately $2,438,000
and reductions in selling expenses of $477,000 for the year ended December 31,
2009, as compared to the year ended December 31, 2008, which was partially
offset by a decrease in gross profit of approximately $1,227,000, primarily as a
result of lower sales in the year ended December 31, 2009 as compared to the
year ended December 31, 2008.


38




The
consolidated statement of operations for the year ended December 31, 2008
included losses arising from the sale of two subsidiaries, Regal, Bi-Op, and the
sale of the Langer Branded Orthotics business, which are classified as
discontinued operations. In 2008, we recorded a net loss related to the sale of
Regal of approximately $1,930,000 which includes transaction costs of
approximately $70,000 and goodwill of $1,278,000.  Losses from
operations through the date of sale of May 31, 2008, of approximately $243,000
and a loss associated with the leased premises of approximately $175,000 are
also included in discontinued operations. The Company also recorded a net loss
before income tax benefit on the sale of Bi-Op of approximately $660,000, which
includes transaction costs of approximately $335,000 and goodwill of
$809,000.  In addition we recorded losses from operations of Bi-Op of
approximately $7,000. In addition, discontinued operations for 2008 includes
approximately $269,000 representing the operating income of the Langer custom
branded orthotics business which was sold on October 24, 2008. The loss on the
sale of these assets and liabilities was approximately $180,000, which included
transaction costs of approximately $565,000 and goodwill of
$1,672,000.  During the year ended December 31, 2009, the Company
recorded adjustments to the losses related to Regal and the Langer branded
orthotics business.  The Company increased the loss related to the
sale of Regal by approximately $73,000, which was comprised of additional rent
on the former Regal offices of approximately $98,000, offset by the reversal of
an accrual for transaction costs of approximately $25,000 which was no longer
required.  In addition, the Company reduced the loss on the Langer
branded orthotics business by approximately $75,000, due to the reversal of an
accrual for severance payments to employees which was no longer
required.




Net sales
for the year ended December 31, 2009 were approximately $40,876,000, compared to
approximately $45,061,000 for the year ended December 31, 2008, a decrease of
approximately $4,185,000, or 9.3%.  Twincraft’s net sales for the year
ended December 31, 2009 were approximately $30,577,000, a decline of
approximately $1,287,000, or 4.0% as compared to net sales of approximately
$31,864,000 for the year ended December 31, 2008.  Silipos’ net sales
for the year ended December 31, 2009 were approximately $10,299,000, a decline
of approximately $2,898,000 or 22.0% as compared to net sales of approximately
$13,197,000 for the year ended December 31, 2008.  These declines are
primarily the result of the current economic conditions, which are characterized
by lower consumer demand, retailers’ and distributors’ programs to reduce
inventory, and the reluctance of our customers to launch new
products.




Twincraft’s
sales are reported in the personal care products segment.  Also
included in the personal care products segment are the net sales of Silipos’
personal care products which were approximately $2,087,000 for the year ended
December 31, 2009, a decrease of approximately $1,629,000 or 43.8% as compared
to Silipos’ net sales of personal care products of approximately $3,716,000 for
the year ended December 31, 2008.  This change is primarily a result
of the economic factors discussed above.




Net sales
of medical products were approximately $8,212,000 in 2009, compared to
approximately $9,481,000 in 2008, a decrease of approximately $1,269,000 or
13.4%.  This decrease was primarily due to fewer new product launches
in the year ended December 31, 2009, as compared to the year ended December 31,
2008.




Cost of
sales, on a consolidated basis, decreased approximately $2,957,000, or 9.2%, to
approximately $29,025,000 for the year ended December 31, 2009, compared to
approximately $31,982,000 for the year ended December 31, 2008.  Cost
of sales as a percentage of net sales was 71.0% for the year ended December 31,
2009, as compared to 70.9 for the year ended December 31, 2008.  The
increase in cost of sales as a percentage of net sales is primarily attributable
to the shift of Twincraft’s net sales toward the amenity business, which
historically carries lower gross margins than the health care and beauty
market.  For the year ended December 31, 2009, amenity sales
represented 43.7% of Twincraft’s net sales, as compared to 33.3% for the year
ended December 31, 2008.  This shift in sales mix was offset by
reductions in raw materials prices, primarily soap base, at
Twincraft.




Cost of
sales in the medical products segment were approximately $4,136,000, or 49.4% of
medical products net sales in the year ended December 31, 2009, compared to
approximately $4,684,000 or 49.4% of medical products net sales in the year
ended December 31, 2008.  The decrease is largely due to lower sales
which led to lower production levels.




Cost of
sales for the personal care products were approximately $24,889,000, or 76.2% of
net sales of personal care products in the year ended December 31, 2009,
compared to approximately $27,298,000, or 76.7% of net sales of personal care
products in the year ended December 31, 2008. The primary factors for the
decrease are reductions in raw material prices, in particular soap base, at
Twincraft, which was offset by the impact of the shift in Twincraft’s sales mix
toward amenities as discussed above.


39






Consolidated
gross profit decreased approximately $1,227,000, or 9.4%, to approximately
$11,852,000 for the year ended December 31, 2009, compared to approximately
$13,079,000 in the year ended December 31, 2008.  Consolidated gross profit
as a percentage of net sales for the years ended December 31, 2009 and 2008 was
29.0% and 29.0%, respectively.




General
and administrative expenses for the year ended December 31, 2009 were
approximately $7,415,000, or 18.0% of net sales, compared to approximately
$9,853,000, or 22.5% of net sales for the year ended December 31, 2008,
representing a decrease of approximately $2,438,000.  Approximately
$788,000 of the decrease is related to reductions in salaries, rents, and
professional fees as a result of actions taken to reduce our corporate overhead
structure.  Approximately $530,000 of the reduction is due to the
acceleration of depreciation expense on the leasehold improvements at our former
corporate offices which was recorded in the year ended December 31,
2008.  Also, $256,000 of the reduction is as a result of the final
judgment and the award providing for reimbursement of legal fees incurred by the
Company in connection with the Zook arbitration, which was recorded in the year
ended December 31, 2009.  Also, approximately $192,000 of the
reduction is due to an accrual of employee severance pay which was recorded in
the year ended December 31, 2008. In addition, our amortization of intangible
assets is approximately $245,000 lower and bad debt expense is approximately
$325,000 lower in the year ended December 31, 2009 as compared to the prior
year.




Selling
expenses decreased approximately $477,000, or 9.1%, to approximately $4,771,000
for the year ended December 31, 2009, compared to approximately $5,248,000 for
the year ended December 31, 2008.  Selling expenses as a percentage of
net sales were 11.7% for the year ended December 31, 2009, compared to 11.6% of
net sales for the year ended December 31, 2008.  The principal reason
for the decrease of $477,000 was the elimination of certain salary, advertising,
travel expenses, and license fees at Twincraft.




Research
and development expenses decreased from approximately $975,000 in the year ended
December 31, 2008, to approximately $962,000 in the year ended December 31,
2009, a decrease of approximately $13,000, or 1.3%.  The reason for
the decrease of $13,000 was the elimination of certain salary and consulting
services at Silipos of approximately $173,000, which was offset by an increase
in clinical studies at Silipos of approximately $155,000.




During
2009, the Company recorded an impairment charge of approximately
$5,722,000.  The 2009 goodwill impairment charge of approximately
$4,722,000 was primarily the result of lower projected earnings at our Twincraft
reporting unit.  The 2009 impairment charge to identifiable intangible
assets of $1,000,000 relates to the customer list of our Twincraft reporting
unit, and was primarily the result of the anticipated reduction of approximately
50% of the revenues of one large customer.




A
detailed discussion of the models and methodology used to calculate the
impairment is found in Critical Accounting Policies and Estimates.




Interest
expense was approximately $2,570,000 for the year ended December 31, 2009,
compared to approximately $2,231,000 for the year ended December 31, 2008, an
increase of approximately $339,000.  The principal reason for the
increase was additional amortization of the debt discount on the Company’s 5%
Convertible Notes resulting from the adoption by the Company of FASB ASC 815-40
(prior authoritative literature: EITF 07-5, “Determining Whether an Instrument
(or Embedded Feature) is Indexed to an Entity’s Own Stock”) which became
effective January 1, 2009.




Interest
income was approximately $51,000 for the year ended December 31, 2009, compared
to approximately $37,000 for the year ended December 31, 2008, an increase of
approximately $14,000.  This increase is due to the investing of the
proceeds received from the sales of the various subsidiaries and businesses that
occurred in 2008.




Income
tax benefit (expense) was approximately $1,044,000 for the year ended December
31, 2009, compared to approximately $(409,000) for the year ended December 31,
2008, a change of approximately $1,453,000 which is attributable to the deferred
tax benefit of approximately $1,075,000 realized as a result of the change in
the estimated life of the Silipos tradename as discussed above.


40




Liquidity
and Capital Resources




Working
capital as of December 31, 2009, was approximately $11,369,000, compared to
approximately $12,789,000 as of December 31, 2008, a decrease of approximately
$1,420,000. This reduction is primarily the result of decreases in inventories
of approximately $878,000 and accounts receivable of approximately $1,199,000,
offset by decreases in accounts payable of approximately $466,000.




In the year ended December
31, 2009, the Company generated a net loss from continuing operations of
approximately $8,479,000, which included a provision for impairment of
intangible assets of approximately $5,722,000, depreciation of property and
equipment and amortization of identifiable intangible assets of approximately
$2,574,000, amortization of debt acquisition costs, debt discount, and unearned
stock compensation of approximately $1,017,000, and a provision for doubtful
accounts of approximately $156,000.  These were offset by a deferred tax
benefit of $1,075,000 anda reduction in the fair value of the derivative
liability of $29,000.  Changes in our operating assets and liabilities
provided an additional $1,476,000in cash which is
primarily due to decreases in accounts receivable and inventories of
approximately $1,934,000, offset by a decrease in accounts payable of
approximately $466,000.  Cash from accounts receivable relates to
reductions in net sales, and cash generated from inventory results primarily
from Twincraft’s efforts to reduce finished goods inventories held for
customers.  As a result of the above, our net cash provided by
operating activities of continuing operations was approximately
$1,436,000.




In the
year ended December 31, 2008, the Company generated a net loss from continuing
operations of approximately $11,308,000, which included a provision for
impairment of intangible assets of $5,700,000, depreciation of property and
equipment and amortization of identifiable intangible assets of approximately
$3,904,000, amortization of debt acquisition costs, debt discount, and unearned
stock compensation of approximately $607,000, and a loss on a receivable
settlement and a provision for doubtful accounts of approximately
$280,000.  Changes in our operating assets and liabilities used an
additional $1,536,000 in cash which is primarily due to an approximately
$1,333,000 increase in inventory.  As a result of the above, our net cash
used for operating activities of continuing operations was approximately
$2,204,000 for the year ended December 31, 2008.




Net cash
used in investing activities of continuing operations was approximately $347,000
for the year ended December 31, 2009.  Net cash provided by investing
activities reflects the net cash from the sales of subsidiaries of approximately
$354,000, less cash of approximately $701,000 used to purchase property and
equipment.  Net cash provided by investing activities of continuing
operations for the year ending December 31, 2008 was approximately $6,096,000
which included approximately $6,857,000 of net cash received from the sales of
subsidiaries, and approximately $760,000 used to purchase property and
equipment.




Net cash
used in financing activities of continuing operations for the year ended
December 31, 2009 was approximately $494,000 which reflects the net cash of
approximately $495,000 used to purchase treasury stock.  Net cash used
in financing activities of continuing operations in the year ended December 31,
2008 was approximately $2,229,000 and includes approximately $2,220,000 used to
purchase treasury stock and approximately $9,000 used for note payments to the
Company’s former landlord.




Our
Credit Facility with Wachovia Bank expires on September 30,
2011.  During 2008, the Company entered into two amendments that
decreased the maximum amount that the Company may borrow.  The Credit
Facility, as amended, provides an aggregate maximum availability, if and when
the Company has the requisite levels of assets, in the amount of $12
million.  The Credit Facility bears interest at 0.5 percent above the
lender’s prime rate or, at the Company’s election, at 2.5 percentage points
above an Adjusted Eurodollar Rate, as defined.  The obligations under
the Credit Facility are guaranteed by the Company’s domestic subsidiaries and
are secured by a first priority security interest in all the assets of the
Company and its subsidiaries.  The Credit Facility requires compliance
with various covenants including but not limited to a Fixed Charge Coverage
Ratio of not less than 1.0 to 1.0 at all times when excess availability is less
than $3 million.  As of December 31, 2009, the Company does not have
any outstanding draws under the Credit Facility and has approximately $7.3
million (which includes approximately $1.8 million in term loans based upon the
value of Twincraft’s machinery and equipment) available under the Credit
Facility.  Availability under the Credit Facility is reduced by 40% of
the outstanding letters of credit related to the purchase of eligible inventory,
as defined, and 100% of all other outstanding letters of credit.  At
December 31, 2009, the Company had outstanding letters of credit related to the
purchase of eligible inventory of approximately $150,000.


41




Our 2010
plan for capital investments is to approve additions to property and equipment
as the need may arise to support growth of revenues and provide for needed
equipment replacement.




We
believe that, based upon current levels of operations and anticipated growth,
cash to be generated from operations, together with other available sources of
liquidity, including borrowings available under our Credit Facility, will be
sufficient for the next twelve months to fund anticipated capital expenditures
and make the required payments of interest on the 5% Convertible Notes due
December 7, 2011.  There can be no assurance, however, that our
business will generate cash flow from operations sufficient to enable us to fund
our liquidity needs.  In addition, to continue our growth strategy
which contemplates making targeted acquisitions, we may need to raise additional
funds for this purpose.  In such event, we would likely need to raise
additional funds through banks or other institutional lenders or debt
financings, or through public or private equity offerings.  There can
be no assurance that any such funds will be available to us on favorable terms,
or at all.




Recent
distress in the financial markets has had an adverse impact on financial market
activities including among other things, extreme volatility in security prices,
severely diminished liquidity and credit availability, rating downgrades of
certain investments and declining valuations of others.  The Company
has assessed the implication of these factors on our current business and
determined that there has not been a significant impact on our financial
position, results of operations or liquidity during the year ended December 31,
2009.  However, there can be no assurance that as a result of these
conditions there will not be an impact on our future financial position, results
of operations or liquidity.  Based on available information, we
believe the lender under our Credit Facility is able to fulfill its commitment
as of the date of this filing; however, there can be no assurance that such
lender will be able to continue to fulfill its funding obligations.




Changes
in Significant Balance Sheet Accounts – December 31, 2009




Accounts
receivable, net, decreased from approximately $5,592,000 at December 31, 2008 to
approximately $4,394,000 at December 31, 2009, a decrease of approximately
$1,198,000.  The allowance for doubtful accounts and returns and
allowances increased by approximately $143,000 from December 31, 2008 to
December 31, 2009.  Accounts receivable at Twincraft decreased by
approximately $1,116,000 or 26.3% and accounts receivable at Silipos decreased
approximately $82,000 or 6.0% which changes are consistent with changes in
fourth quarter sales at each subsidiary in 2009 as compared to
2008.




Inventories,
net, decreased from approximately $6,865,000 at December 31, 2008 to
approximately $5,988,000 at December 31, 2009, a decrease of approximately
$877,000.  This decrease is due to the impact of lower raw material
prices at Twincraft.




Property
and equipment, net, decreased from approximately $9,314,000 at December 31, 2008
to approximately $8,490,000 at December 31, 2009, a decrease of approximately
$824,000.  This decrease is due to a 2009 depreciation expense of
approximately $1,512,000, the write-off of approximately $13,000 in other assets
in connection with the move of the corporate offices, net of 2009 purchases of
additional property and equipment of approximately $701,000.




Because
of our previous strategy of growth through acquisitions, goodwill and other
identifiable intangible assets comprise a substantial portion (43.3% as of
December 31, 2009 and 48.0% as of December 31, 2008) of our total
assets.  Goodwill and identifiable intangible assets, net, at December
31, 2009 were approximately $11,176,000 and $8,018,000,
respectively.  Goodwill and identifiable intangible assets, net, at
December 31, 2008 were approximately $15,898,000 and $10,079,000,
respectively.




During
the year ended December 31, 2009, identifiable intangible assets decreased by
approximately $2,062,000 which was due to an impairment charge of approximately
$1,000,000 on the Twincraft customer list and amortization of other intangibles
of approximately $1,062,000 during the year.




During
the year ended December 31, 2009, goodwill decreased by approximately
$4,722,000. This decrease was solely attributable to the impairment charge
related to Twincraft.




Accounts
payable decreased from approximately $2,580,000 at December 31, 2008 to
approximately $2,422,000 at December 31, 2009, a decrease of approximately
$158,000.  This decrease is related to the decrease in inventory at
Twincraft as discussed above.


42




Contractual
Obligations




Certain
of our facilities and equipment are leased under noncancelable operating and
capital leases. Additionally, as discussed below, we have certain long-term and
short-term indebtedness. The following is a schedule, by fiscal year, of future
minimum rental payments required under current operating and capital leases and
debt repayment requirements as of December 31, 2009 measured from the end of our
fiscal year ended December 31, 2009:




Payments due By Period (In thousands)Contractual Obligations
                
                Total
                
                
                Less than
                  Year
                
                
                1-3
                  Years
                
                
                4-5
                  Years
                
                
                More than
                  5 YearsOperating
      Lease Obligations
                
                $
                2,213
                
                
                $
                758
                
                
                $
                951
                
                
                $
                501
                
                
                $
                3Capital
      Lease Obligations
                
                
                4,271
                
                
                
                453
                
                
                
                948
                
                
                
                1,006
                
                
                
                1,864Interest
      on Long-term Debt
                
                
                2,888
                
                
                
                1,444
                
                
                
                1,444
                
                
                
                —
                
                
                
                —5%
      Convertible Notes due December 7, 2011
                
                
                28,880
                
                
                
                —
                
                
                
                28,880
                
                
                
                —
                
                
                
                —Total
                
                $
                38,252
                
                
                $
                2,655
                
                
                $
                32,223
                
                
                $
                1,507
                
                
                $
                1,867




Long-Term
Debt





On
December 8, 2006, the Company entered into a note purchase agreement for the
sale of $28,880,000 of 5% convertible subordinated notes due December 7, 2011
(the “5% Convertible Notes”).  The 5% Convertible Notes are not
registered under the Securities Act of 1933, as amended. The Company filed a
registration statement with respect to the shares acquirable upon conversion of
the 5% Convertible Notes, including an additional number of shares of common
stock issuable on account of adjustments of the conversion price under the 5%
Convertible Notes, (collectively, the “Underlying Shares”) in January, 2007, and
filed Amendment No. 1 to the registration statement in November, 2007, Amendment
No. 2 in April 2008, and Amendments No. 3 and 4 in June 2008; the registration
statement was declared effective on June 18, 2008.  The 5% Convertible
Notes bear interest at the rate of 5% per annum, payable in cash semiannually on
June 30 and December 31 of each year, commencing June 30, 2007.  For
each of the years ended December 31, 2009 and 2008 the Company recorded interest
expense related to the 5% Convertible Notes of approximately
$1,444,000.  At the date of issuance, the 5% Convertible Notes were
convertible at the rate of $4.75 per share, subject to certain reset provisions.
At the original conversion price at December 31, 2006, the number of Underlying
Shares was 6,080,000. Since the conversion price was above the market price on
the date of issuance and there were no warrants attached, there was no
beneficial conversion. Subsequent to December 31, 2006, on January 8, 2007 and
January 23, 2007, in conjunction with common stock issuances related to two
acquisitions, the conversion price was adjusted to $4.6706, and the number of
Underlying Shares was thereby increased to 6,183,359, pursuant to the
anti-dilution provisions applicable to the 5% Convertible Notes.  On
May 15, 2007, as a result of the issuance of an additional 68,981 shares of
common stock to the Twincraft sellers on account of upward adjustments to the
Twincraft purchase price, and the surrender to the Company of 45,684 shares of
common stock on account of downward adjustments in the Regal purchase price, the
conversion price under the 5% Convertible Notes was reduced to $4.6617, and the
number of Underlying Shares was increased to 6,195,165 shares.  This
adjustment to the conversion price resulted in an original debt discount of
$476,873.  Effective January 1, 2009, the Company adopted the
provisions of FASB ASC 815-40 which required a retrospective adjustment to the
debt discount.  At January 1, 2009, the debt discount was adjusted to
$1,312,500.  This amount will be amortized over the remaining term of
the 5% Convertible Notes and be recorded as interest expense in the consolidated
statements of operations. The charge to interest expense relating to the debt
discount for the year ended December 31, 2009 was approximately
$450,000.





The
principal of the 5% Convertible Notes is due on December 7, 2011, subject to the
earlier call of the 5% Convertible Notes by the Company, as follows: (i) the 5%
Convertible Notes could not be called prior to December 7, 2007; (ii) from
December 7, 2007, through December 7, 2009, the 5% Convertible Notes may be
called and redeemed for cash, in the amount of 105% of the principal amount of
the 5% Convertible Notes (plus accrued but unpaid interest, if any, through the
call date); (iii) after December 7, 2009, the 5% Convertible Notes may be called
and redeemed for cash in the amount of 100% of the principal amount of the 5%
Convertible Notes (plus accrued but unpaid interest, if any, through the call
date); and (iv) at any time after December 7, 2007, if the closing price of the
common stock of the Company on the NASDAQ (or any other exchange on which the
Company’s common stock is then traded or quoted) has been equal to or greater
than $7.00 per share for 20 of the preceding 30 trading days immediately prior
to the Company’s issuing a call notice, then the 5% Convertible Notes shall be
mandatorily converted into common stock at the conversion price then
applicable.  The Company had a Special Meeting of Stockholders on
April 19, 2007, at which the Company’s stockholders approved the issuance by the
Company of the shares acquirable on conversion of the 5% Convertible
Notes.


43


In the
event of a default on the 5% Convertible Notes, the due date of the 5%
Convertible Notes may be accelerated if demanded by holders of at least 40% of
the 5% Convertible Notes, subject to a waiver by holders of 51% of the 5%
Convertible Notes if the Company pays all arrearages of interest on the 5%
Convertible Notes.  Events of default are defined to include change in
control of the Company.





The
payment of interest and principal of the 5% Convertible Notes is subordinate to
the Company’s presently existing capital lease obligations, in the amount of
approximately $2,700,000 as of December 31, 2009, and the Company’s obligations
under its Credit Facility. The 5% Convertible Notes would also be subordinated
to any additional debt which the Company may incur hereafter for borrowed money,
or under additional capital lease obligations, obligations under letters of
credit, bankers’ acceptances or similar credit transactions.





In
connection with the sale of the 5% Convertible Notes, the Company paid a
commission of $1,338,018 based on a rate of 4% of the amount of 5% Convertible
Notes sold, excluding the 5% Convertible Notes sold to members of the Board of
Directors and their affiliates, to Wm. Smith & Co., who served as placement
agent in the sale of the 5% Convertible Notes. The total cost of raising these
proceeds was $1,338,018, which will be amortized through December 7, 2011, the
due date for the payment of principal on the 5% Convertible Notes. The
amortization of these costs for each of the years ended December 31, 2009 and
2008 was $264,747, and is recorded as an interest expense in the consolidated
statements of operations.




Seasonality




Factors which can result in quarterly
variations include the timing and amount of new business generated by the
Company, the timing of new product introductions, the Company’s revenue mix, and
the competitive and fluctuating economic conditions in the medical and skincare
industries.




Inflation




We have
in the past been able to increase the prices of our products or reduce overhead
costs sufficiently to offset the effects of inflation on wages, materials and
other expenses except for soap base pricing which increased dramatically in
2008.  Soap base prices are highly correlated to petroleum prices and
soap base escalated by more than 80% in 2008 from 2007 prices.  We
were unable to fully pass these increases on to our customers.  After
peaking in May of 2008, soap base pricing has declined to pre-2008
levels.  Since petroleum has recently been subject to dramatic price
volatility, there can be no assurance that Twincraft’s soap base pricing will
not increase in the future.




Recently
Issued Accounting Pronouncements





In
December 2007, the FASB published FASB ASC 805-10 (prior authoritative
literature: SFAS No.141(R), “Business Combinations”), which requires an acquirer
to recognize the assets acquired, the liabilities assumed, and any
noncontrolling interest of an acquiree at the acquisition date, measured at
their fair values as of that date, with limited exceptions. FASB ASC 805-10
applies prospectively to business combinations for which the acquisition date is
on or after the beginning of the first annual reporting period beginning on or
after December 15, 2008.  Earlier application was
prohibited.  The Company did not complete any acquisitions in the year
ended December 31, 2009 and therefore the adoption by the Company of FASB ASC
805-10 had no effect upon the Company’s financial position or results of
operations.




In March
2008, the FASB published FASB ASC 815-10 (prior authoritative literature: SFAS
No. 161, “Disclosures and Derivative Instruments and Hedging Activities — an
Amendment of FASB Statement 133”). FASB ASC 815-10 will change the disclosure
requirements for derivative instruments and hedging activities. Entities will be
required to provide enhanced disclosures about (a) how and why an entity uses
derivative instruments, (b) how derivative instruments and related hedged items
are accounted for under Statement 133 and its related interpretations, and (c)
how derivative instruments and related hedged items affect an entity’s financial
position, financial performance and cash flows. FASB ASC 815-10 is effective for
financial statements issued for fiscal years and interim periods beginning after
November 15, 2008. The adoption by the Company of FASB ASC 815-10 did not have a
material impact on the Company’s financial position or results of
operations.


44




The
Company adopted FASB ASC 855-10 (prior authoritative literature: FASB Statement
No. 165 “Subsequent Events”) effective June 30, 2009.  This statement
establishes general standards of accounting for, and disclosure of, events that
occur after the balance sheet date but before financial statements are issued or
are available to be issued.  FASB ASC 855-10 requires the disclosure
of the date through which an entity has evaluated subsequent events and the
basis for that date, that is, whether that date represents the date the
financial statements were issued or were available to be issued.  The
Company evaluated subsequent events through the date the accompanying financial
statements were issued, which was March 18, 2010.  The effect of
adopting this pronouncement did not have a material effect on the Company’s
financial position or results of operations.




Item
7A. Quantitative and Qualitative Disclosures about Market Risk





The
following discussion about the Company’s market rate risk involves
forward-looking statements. Actual results could differ materially from those
projected in the forward-looking statements.





In
general, business enterprises can be exposed to market risks, including
fluctuation in commodity and raw material prices, foreign currency exchange
rates, and interest rates that can adversely affect the cost and results of
operating, investing, and financing. In seeking to minimize the risks and/or
costs associated with such activities, the Company manages exposure to changes
in commodities and raw material prices, interest rates and foreign currency
exchange rates through its regular operating and financing activities. The
Company does not utilize financial instruments for trading or other speculative
purposes, nor does the Company utilize leveraged financial instruments or other
derivatives.





The
Company’s exposure to market rate risk for changes in interest rates relates
primarily to the Company’s short-term monetary investments. There is a market
rate risk for changes in interest rates earned on short-term money market
instruments. There is inherent rollover risk in the short-term money instruments
as they mature and are renewed at current market rates. The extent of this risk
is not quantifiable or predictable because of the variability of future interest
rates and business financing requirements. However, there is no risk of loss of
principal in the short-term money market instruments, only a risk related to a
potential reduction in future interest income. Derivative instruments are not
presently used to adjust the Company’s interest rate risk profile.





The
majority of the Company’s business is denominated in United States dollars.
There are costs associated with the Company’s operations in foreign countries,
primarily the United Kingdom and Canada that require payments in the local
currency, and payments received from customers for goods sold in these countries
are typically in the local currency. The Company partially manages its foreign
currency risk related to those payments by maintaining operating accounts in
these foreign countries and by having customers pay the Company in those same
currencies.


45


Item
8. Financial Statements and Supplementary Data




PC
GROUP, INC. AND SUBSIDIARIES




INDEX
TO CONSOLIDATED FINANCIAL STATEMENTS




PageReport
      of Independent Registered Public Accounting Firm
              47Consolidated
      Financial Statements:Consolidated
      Balance Sheets
              48Consolidated
      Statements of Operations
              49Consolidated
      Statements of Stockholders’ Equity
              50Consolidated
      Statements of Cash Flows
              51Notes
      to Consolidated Financial Statements
              53


46


Report
of Independent Registered Public Accounting Firm





Board of
Directors and Stockholders


PC Group,
Inc.


New York,
New York





We have
audited the accompanying consolidated balance sheets of PC Group, Inc. (formerly
Langer, Inc.) (the “Company”) as of December 31, 2009 and 2008 and the related
consolidated statements of operations, stockholders’ equity, and cash flows for
the years then ended. These financial statements are the responsibility of the
Company’s management. Our responsibility is to express an opinion on these
financial statements based on our audits.





We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States).  Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting.  Our audits included consideration
of internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Company’s internal control
over financial reporting. Accordingly, we express no such opinion.  An
audit also includes examining, on a test basis, evidence supporting the amounts
and disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall presentation of the financial statements.  We believe that our
audits provide a reasonable basis for our opinion.





In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of PC Group, Inc.  at
December 31, 2009 and 2008, and the results of its operations and its cash flows
for the years then ended in conformity with accounting principles generally
accepted in the United States of America.





As
discussed in Note 2(m) to the consolidated financial statements, the Company
adopted ASC Topic 815-40 as of January 1, 2009, as it relates to its convertible
debt.





BDO
Seidman, LLP





Melville,
New York





March 18,
2010




47




PC
GROUP, INC. AND SUBSIDIARIES




CONSOLIDATED
BALANCE SHEETS




December 31,
                      2009
                    
                    
                    December 31,
                      2008AssetsCurrent
      assets:Cash
      and cash equivalents
                    
                    $
                    4,599,940
                    
                    
                    $
                    4,003,460Accounts
      receivable, net of allowances for doubtful accounts and returns and
      allowances aggregating $314,440 and $171,729, respectively
                    
                    
                    4,394,180
                    
                    
                    
                    5,591,824Inventories,
      net
                    
                    
                    5,988,209
                    
                    
                    
                    6,865,294Prepaid
      expenses and other current assets
                    
                    
                    1,190,081
                    
                    
                    
                    1,517,929Total
      current assets
                    
                    
                    16,172,410
                    
                    
                    
                    17,978,507Property
      and equipment, net
                    
                    
                    8,490,229
                    
                    
                    
                    9,314,299Identifiable
      intangible assets, net
                    
                    
                    8,017,568
                    
                    
                    
                    10,079,499Goodwill
                    
                    
                    11,175,637
                    
                    
                    
                    15,898,063Other
      assets
                    
                    
                    426,073
                    
                    
                    
                    894,539Total
      assets
                    
                    $
                    44,281,917
                    
                    
                    $
                    54,164,907Liabilities
      and Stockholders’ EquityCurrent
      liabilities:Accounts
      payable
                    
                    $
                    2,422,003
                    
                    
                    $
                    2,579,976Obligation
      under capital lease – current portion
                    
                    
                    81,011
                    
                    
                    
                    —Other
      current liabilities
                    
                    
                    2,299,920
                    
                    
                    
                    2,609,225Total
      current liabilities
                    
                    
                    4,802,934
                    
                    
                    
                    5,189,201Long-term
      debt:5%
      Convertible Notes, net of debt discount of  $862,500 and
      $300,264 at December 31, 2009 and 2008, respectively
                    
                    
                    28,017,500
                    
                    
                    
                    28,579,736Obligation
      under capital lease, net of current portion
                    
                    
                    2,618,989
                    
                    
                    
                    2,700,000Deferred
      income taxes payable
                    
                    
                    698,010
                    
                    
                    
                    1,773,210Other
      liabilities
                    
                    
                    1,210
                    
                    
                    
                    —Total
      liabilities
                    
                    
                    36,138,643
                    
                    
                    
                    38,242,147Commitments
      and contingenciesStockholders’
      equity:Preferred
      stock, $1.00 par value; authorized 250,000 shares;no
      shares issued
                    
                    
                    —
                    
                    
                    
                    —Common
      stock, $.02 par value; authorized 25,000,000 and 50,000,000
      shares;issued
      11,648,512 shares and 11,588,512 shares at December 31, 2009 and 2008,
      respectively
                    
                    
                    232,971
                    
                    
                    
                    231,771Additional
      paid in capital
                    
                    
                    53,686,944
                    
                    
                    
                    53,957,470Accumulated
      deficit
                    
                    
                    (43,354,339
                    )
                    
                    
                    (36,336,206
                    )Accumulated
      other comprehensive income
                    
                    
                    539,747
                    
                    
                    
                    536,89311,105,323
                    
                    
                    
                    18,389,928Treasury
      stock at cost, 3,799,738 and 2,830,635 shares at December 31, 2009 and
      2008, respectively
                    
                    
                    (2,962,049
                    )
                    
                    
                    (2,467,168
                    )Total
      stockholders’ equity
                    
                    
                    8,143,274
                    
                    
                    
                    15,922,760Total
      liabilities and stockholders’ equity
                    
                    $
                    44,281,917
                    
                    
                    $
                    54,164,907





See
accompanying notes to consolidated financial statements.




48


PC
GROUP, INC. AND SUBSIDIARIES




CONSOLIDATED
STATEMENTS OF OPERATIONS




For the Years Ended December 31,2009
                
                
                2008Net
      sales
                
                $
                40,876,334
                
                
                $
                45,061,148Cost
      of sales
                
                
                29,024,627
                
                
                
                31,981,979Gross
      profit
                
                
                11,851,707
                
                
                
                13,079,169General
      and administrative expenses
                
                
                7,414,688
                
                
                
                9,852,695Selling
      expenses
                
                
                4,770,735
                
                
                
                5,248,052Research
      and development expenses
                
                
                961,950
                
                
                
                974,853Provision
      for impairment
                
                
                5,722,426
                
                
                
                5,700,000Operating
      loss
                
                
                (7,018,092
                )
                
                
                (8,696,431
                )Other
      expense, net:Interest
      income
                
                
                50,832
                
                
                
                37,100Interest
      expense
                
                
                (2,570,821
                )
                
                
                (2,230,891
                )Other
                
                
                15,188
                
                
                
                (8,681
                )Other
      expense, net
                
                
                (2,504,801
                )
                
                
                (2,202,472
                )Loss
      from continuing operations before income taxes
                
                
                (9,522,893
                )
                
                
                (10,898,903
                )Benefit
      from (provision for) income taxes
                
                
                1,043,977
                
                
                
                (409,273
                )Loss
      from continuing operations
                
                
                (8,478,916
                )
                
                
                (11,308,176
                )Discontinued
      Operations:Income
      (loss) from operations of discontinued subsidiaries (including gain (loss)
      on sales of subsidiaries of $1,674 and $(2,769,077) in 2009 and 2008,
      respectively)
                
                
                1,674
                
                
                
                (2,814,539
                )Benefit
      from income taxes
                
                
                —
                
                
                
                499,595Income
      (loss) from discontinued operations
                
                
                1,674
                
                
                
                (2,314,944
                )Net
      Loss
                
                $
                (8,477,242
                )
                
                $
                (13,623,120
                )Net
      Loss per common share:Basic
      and diluted:Loss
      from continuing operations
                
                $
                (1.06
                )
                
                $
                (1.06
                )Loss
      from discontinued operations
                
                
                —
                
                
                
                (0.21
                )Basic
      and diluted loss per share
                
                $
                (1.06
                )
                
                $
                (1.27
                )Weighted
      average number of common shares used in computation of net loss per
      share:Basic
      and diluted
                
                
                8,030,928
                
                
                
                10,700,914




See
accompanying notes to consolidated financial statements.


49


PC
GROUP, INC. AND SUBSIDIARIES





CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY




Common
      Stock
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      Accumulated
      Other
                                        Comprehensive
      Income (Loss)Shares
                                      
                                      
                                      Amount
                                      
                                      
                                      Treasury
                                        Stock
                                      
                                      
                                      Additional
                                        Paid-in
                                        Capital
                                      
                                      
                                      Accumulated
      Deficit
                                      
                                      
                                      Foreign
                                        Currency
                                        Translation
                                      
                                      
                                      Comprehensive
                                        Income
      (Loss)
                                      
                                      
                                      Total
                                        Stockholders’
                                        EquityBalance
      at January 1, 2008
                                      
                                      
                                      11,588,512
                                      
                                      
                                      $
                                      231,771
                                      
                                      
                                      $
                                      (196,641
                                      )
                                      
                                      $
                                      53,800,139
                                      
                                      
                                      $
                                      (22,713,086
                                      )
                                      
                                      $
                                      765,392
                                      
                                      
                                      
                                      
                                      
                                      $
                                      31,887,575Net
      loss
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (13,623,120
                                      )
                                      
                                      
                                      
                                      
                                      
                                      $
                                      (13,623,120
                                      )Foreign
      currency adjustment
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (228,499
                                      )
                                      
                                      
                                      (228,499
                                      )(13,851,619
                                      )
                                      
                                      
                                      (13,851,619
                                      )Stock-
      based compensation expense
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      157,331
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      157,331Purchase
      of Treasury Stock
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (2,219,527
                                      )
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (2,219,527
                                      )Shares
      received as settlement of receivable
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (51,000
                                      )
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (51,000
                                      )Balance
      at December 31, 2008
                                      
                                      
                                      11,588,512
                                      
                                      
                                      
                                      231,771
                                      
                                      
                                      
                                      (2,467,168
                                      )
                                      
                                      
                                      53,957,470
                                      
                                      
                                      
                                      (36,336,206
                                      )
                                      
                                      
                                      536,893
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      15,922,760Cumulative
      effect of change in accounting principal related to adoption of FASB ASC
      815-40.  See Note 1.
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (476,873
                                      )
                                      
                                      
                                      1,459,109
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      982,236Net
      loss
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (8,477,242
                                      )
                                      
                                      
                                      
                                      
                                      
                                      
                                      (8,477,242
                                      )Foreign
      currency adjustment
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      2,854
                                      
                                      
                                      
                                      2,854$
                                      (8,474,388
                                      )
                                      
                                      
                                      (8,474,388
                                      )Stock-
      based compensation expense
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      206,347
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      206,347Purchase
      of Treasury Stock
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (494,881
                                      )
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      (494,881
                                      )Exercise
      of stock warrants
                                      
                                      
                                      60,000
                                      
                                      
                                      
                                      1,200
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      1,200Balance
      at December 31, 2009
                                      
                                      
                                      11,648,512
                                      
                                      
                                      $
                                      232,971
                                      
                                      
                                      $
                                      (2,962,049
                                      )
                                      
                                      $
                                      53,686,944
                                      
                                      
                                      $
                                      (43,354,339
                                      )
                                      
                                      $
                                      539,747
                                      
                                      
                                      
                                      
                                      
                                      
                                      $
                                      8,143,274




See
accompanying notes to consolidated financial statements.


50


PC
GROUP, INC. AND SUBSIDIARIES





CONSOLIDATED
STATEMENTS OF CASH FLOWS





For
      the Years Ended December 31,2009
                          
                          
                          2008Cash
      Flows From Operating Activities:Net
      loss
                          
                          $
                          (8,477,242
                          )
                          
                          $
                          (13,623,120
                          )(Income)
      loss from discontinued operations
                          
                          
                          (1,674
                          )
                          
                          
                          2,314,944Loss
      from continuing operations
                          
                          
                          (8,478,916
                          )
                          
                          
                          (11,308,176
                          )Adjustments
      to reconcile net loss from continuing operations to net cash provided by
      (used in) operating activities:Depreciation
      of property and equipment and amortization of identifiable intangible
      assets
                          
                          
                          2,573,583
                          
                          
                          
                          3,903,875Loss
      on abandonment of property and equipment
                          
                          
                          13,307
                          
                          
                          
                          —Loss
      on receivable settlement
                          
                          
                          —
                          
                          
                          
                          49,000Provision
      for impairment of goodwill and intangible assets
                          
                          
                          5,722,426
                          
                          
                          
                          5,700,000Gain
      on lease surrender
                          
                          
                          —
                          
                          
                          
                          (218,249
                          )Amortization
      of debt acquisition costs
                          
                          
                          360,321
                          
                          
                          
                          358,892Amortization
      of debt discount
                          
                          
                          450,000
                          
                          
                          
                          90,507Stock-based
      compensation expense
                          
                          
                          206,347
                          
                          
                          
                          157,331Reduction
      in fair value of derivative
                          
                          
                          (28,790
                          )
                          
                          
                          —Provision
      for doubtful accounts receivable
                          
                          
                          156,204
                          
                          
                          
                          231,173Deferred
      income tax provision (benefit)
                          
                          
                          (1,075,200
                          )
                          
                          
                          367,042Changes
      in operating assets and liabilities, net of acquisitions:Accounts
      receivable
                          
                          
                          1,042,927
                          
                          
                          
                          (81,013
                          )Inventories
                          
                          
                          878,373
                          
                          
                          
                          (1,332,984
                          )Prepaid
      expenses and other current assets
                          
                          
                          136,823
                          
                          
                          
                          (386,605
                          )Other
      assets
                          
                          
                          (54,746
                          )
                          
                          
                          (1,645
                          )Accounts
      payable and other current liabilities
                          
                          
                          (466,229
                          )
                          
                          
                          288,344Unearned
      revenue and other liabilities
                          
                          
                          —
                          
                          
                          
                          (21,635
                          )Net
      cash provided by (used in) operating activities of continuing
      operations
                          
                          
                          1,436,430
                          
                          
                          
                          (2,204,143
                          )Net
      cash provided by (used in) operating activities of discontinued
      operations
                          
                          
                          —
                          
                          
                          
                          (227,574
                          )Net
      cash provided by (used in) operating activities
                          
                          
                          1,436,430
                          
                          
                          
                          (2,431,717
                          )Cash
      Flows From Investing Activities:Purchase
      of property and equipment
                          
                          
                          (700,889
                          )
                          
                          
                          (760,326
                          )Net
      proceeds from sales of subsidiaries
                          
                          
                          353,918
                          
                          
                          
                          6,856,779Net
      cash provided by (used in) investing activities of continuing
      operations
                          
                          
                          (346,971
                          )
                          
                          
                          6,096,453Net
      cash provided by (used in) investing activities of discontinued
      operations
                          
                          
                          —
                          
                          
                          
                          (3,163
                          )Net
      cash provided by (used in) investing activities
                          
                          
                          (346,971
                          )
                          
                          
                          6,093,290


51


PC
GROUP, INC. AND SUBSIDIARIES





CONSOLIDATED
STATEMENTS OF CASH FLOWS (cont’d)





For
      the Years Ended December 31,2009
                  
                  
                  
                  2008Cash
      Flows From Financing Activities:Proceeds
      from the exercise of stock warrants
                  
                  
                  1,200
                  
                  
                  
                  —Purchase
      of treasury stock
                  
                  
                  (494,881
                  )
                  
                  
                  (2,219,527
                  )Repayment
      of note payable
                  
                  
                  —
                  
                  
                  
                  (9,469
                  )Net
      cash used in financing activities of continuing operations
                  
                  
                  (493,681
                  )
                  
                  
                  (2,228,996
                  )Net
      cash provided by (used in) financing activities of discontinued
      operations
                  
                  
                  —
                  
                  
                  
                  —Net
      cash used in financing activities
                  
                  
                  (493,681
                  )
                  
                  
                  (2,228,996
                  )Effect
      of exchange rate changes on cash
                  
                  
                  702
                  
                  
                  
                  (94,525
                  )Net
      increase in cash and cash equivalents
                  
                  
                  596,480
                  
                  
                  
                  1,338,052Cash
      and cash equivalents at beginning of year
                  
                  
                  4,003,460
                  
                  
                  
                  2,665,408Cash
      and cash equivalents at end of year
                  
                  $
                  4,599,940
                  
                  
                  $
                  4,003,460Supplemental
      Disclosures of Cash Flow Information:Cash
      paid during the period for:Interest
                  
                  $
                  2,570,821
                  
                  
                  $
                  2,351,719Income
      taxes
                  
                  $
                  —
                  
                  
                  $
                  49,190Supplemental
      Disclosure of Non Cash Investing Activities:Treasury
      stock received related to Regal receivable settlement
                  
                  $
                  —
                  
                  
                  $
                  51,000Release
      of funds in escrow related to the Twincraft acquisition reclassified to
      goodwill
                  
                  $
                  —
                  
                  
                  $
                  1,000,000Note
      receivable related to sale of subsidiary
                  
                  $
                  —
                  
                  
                  $
                  162,981Supplemental
      Disclosures of Non Cash Financing Activities:Accounts
      payable and accrued liabilities relating to property and
      equipment
                  
                  $
                  —
                  
                  
                  
                  31,045





See
accompanying notes to consolidated financial statements.




52


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





(1)  Name
Change




On July
23, 2009, the Company changed its name from Langer, Inc. to PC Group,
Inc.  The name change was approved at the Company’s 2009 Annual
Meeting of Stockholders held on July 14, 2009.




The new
name is intended to more accurately reflect the Company’s current business model
and scope of its product offerings.  The Company has historically
designed, manufactured and distributed a broad range of medical products
targeting the orthopedic, orthotic, and prosthetic markets.  Today,
the Company offers a more diverse line of personal care products for the private
label retail, medical and therapeutic markets and the name PC Group, Inc. is
designed to better convey this broader scope of products.




(2)  Basis of
Presentation





The
Company classifies as discontinued operations for all periods presented any
component of the business that is probable of being sold or has been sold that
has operations and cash flows that are clearly distinguishable operationally and
for financial reporting purposes.  For those components, the Company
has no significant continuing involvement after disposal, and their operations
and cash flows are eliminated from ongoing operations.  Sales of
significant components of the business not classified as discontinued operations
are reported as a component of income from continuing operations.





In
accordance with the provisions of FASB ASC 360-10 (prior authoritative
literature: Statement of Financial Accounting Standards (“SFAS”) No. 144,
“Accounting for the Impairment or Disposal of Long-Lived Assets”) the results of
operations of Langer (UK) Limited (“Langer UK”), Regal Medical Supply, LLC
(“Regal”), Bi-Op Laboratories, Inc. (“Bi-Op”), and the Langer branded custom
orthotics and related products business for the current and prior periods have
been reported as discontinued operations.  The Company sold the
capital stock of Langer UK to a third party on January 18, 2008, sold its entire
membership interest in Regal to a group of investors, including a member of
Regal’s management on June 11, 2008, and sold all of the capital stock of Bi-Op
on July 31, 2008, and sold substantially all of the operating assets and
liabilities related to the Langer branded custom orthotics and related products
business on October 24, 2008.




Description
of the Business




Through
our wholly-owned subsidiaries, Twincraft, Inc. (“Twincraft”), and Silipos Inc.
(“Silipos”), the Company offers a diverse line of personal care products for the
private label retail, medical, and therapeutic markets.  The Company
sells its medical products primarily in the United States, as well as in more
than 30 other countries, to national, regional, and international distributors.
The Company sells its personal care products primarily in North America to
branded marketers of such products, specialty and mass market retailers, direct
marketing companies, and companies that service various amenities
markets.




The
Company offers a broad range of gel-based orthopedic and prosthetics products
that are designed to correct, protect, heal and provide comfort for the patient.
The line of personal care products includes bar soap, gel-based therapeutic
gloves and socks, scar management products, and other products that are designed
to cleanse and moisturize specific areas of the body, often incorporating
essential oils, vitamins and nutrients to improve the appearance and condition
of the skin.




(3)Summary of
Significant Accounting Policies




(a)
Revenue Recognition




Revenue
from the sale of the Company’s products is recognized upon shipment. The Company
does not have any post-shipment obligations to customers.  Revenues
from shipping and handling fees are included in net sales in the consolidated
statements of operations. Costs incurred for shipping and handling are included
in cost of sales in the consolidated statements of operations.


53


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




(b)
Advertising and Promotion Expenses




Advertising
and promotion costs are expensed as incurred. Advertising and promotion expenses
were approximately $329,923 and $299,000 for the years ended December 31, 2009
and 2008, respectively.




The
Company accounts for sales and incentives which include discounts, coupons,
co-operative advertising and free products or services in accordance with FASB
ASC 605-50 (prior authoritative literature: Emerging Issues Task Force Issue No.
01-09, “Accounting for Consideration Given by a Vendor to a Customer”).
Generally, cash consideration is to be classified as a reduction of net sales,
unless specific criteria are met regarding goods or services that a vendor may
receive in return for this consideration. The Company’s consideration given to
customers does not meet these conditions and, accordingly is classified as a
reduction to revenue.




(c)
Cash Equivalents




The
Company considers all short-term, highly liquid investments purchased with a
maturity of three months or less to be cash equivalents.  The
Company’s short-term cash investments consist primarily of money market
funds.




(d)
Inventories




Inventories
are stated at the lower of cost or market. Cost is determined using the
first-in, first-out (FIFO) method.




(e)
Property and Equipment




Property
and equipment is stated at cost less accumulated depreciation and amortization.
Depreciation and amortization are calculated using the straight-line method. The
lives on which depreciation and amortization are computed are as
follows:




Building
      and improvements
              20
      yearsOffice
      furniture and equipment
              3-10
      yearsComputer
      equipment and software
              3-5
      yearsMachinery
      and equipment
              5-15
      yearsLeasehold
      improvements
              5-10
      years or term of lease if shorterAutomobiles
              3-5
      years




The
Company reviews long-lived assets and certain identifiable intangible assets
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. If the sum of expected future cash flows
(undiscounted and without interest charges) is less than the carrying value of
the asset, an impairment loss is recognized.  If an impairment loss is
required, the amount of such loss is equal to the excess of the carrying value
of the impaired asset over its fair value.







(f)
              Goodwill
      and Identifiable Intangible Assets with Indefinite Lives and Identifiable
      Intangible Assets with Definite
Lives




Goodwill
represents the excess of the purchase price and related costs over the value
assigned to net tangible and intangible assets of businesses acquired and
accounted for under the purchase method.  Accounting rules require
that the Company test at least annually for possible goodwill impairment in
accordance with the provisions of FASB ASC 350-10 (prior authoritative
literature: SFAS No. 142 “Goodwill and Other Intangible Assets”).  The
Company performs its test in the fourth quarter of each year.  In
previous periods, the Company has used an earnings capitalization model for
impairment testing for certain reporting units.  During 2009, the
Company changed its income approach method of evaluating the realization of
goodwill related to Silipos’ medical products and Silipos’ personal care
reporting units from an earnings capitalization model to a discounted cash flow
methodology.  The Company believes that this change provides a better
measure of fair value because: i) the long term valuation methodology of the
discounted cash flow model (the “DCFM”) is more appropriate where significant
changes in revenue patterns occur from year to year, ii) the DCFM provides a
better representation of the prospects of the business over a longer time
horizon and iii) the DCFM provides greater flexibility to incorporate changes in
the business that occur over multiple periods.  The goodwill of the
Company’s remaining reporting unit, Twincraft, has been and will continue to be
evaluated using the DCFM.  Furthermore, consistent with FASB ASC 820-10’s
requirement to consider fair value from a market participant’s perspective, the
above mentioned income approaches has been coupled with market participant
assumptions to estimate fair values for impairment testing at its annual
impairment testing date.  As a result of these impairment analyses,
the Company determined that the goodwill balance existing in one of the
reporting units within its personal care products segment was impaired as a
result of decreases in projected profitability.  Accordingly, the
Company recorded an impairment charge of $4,722,426 and $3,300,000, which is
included in loss from continuing operations in the consolidated statements of
operations for the years ended December 31, 2009 and 2008,
respectively.


54


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




The
Company has certain identifiable intangible assets with definite lives such as
license agreements, customer lists, and trademarks which are amortized over
their useful lives on a straight-line method or on an accelerated method which
appropriately reflects the economic benefit of the related intangible asset.
These intangibles are reviewed for impairment under FASB ASC 360-10 (prior
authoritative literature: SFAS No. 144, “Accounting for the Impairment or
Disposal of Long-Lived Assets”) when impairment indicators are
present.  As a result of these impairment analyses, the Company
recorded an impairment charge on the Twincraft customer list of $1,000,000 and
$2,400,000 for the years ended December 31, 2009 and 2008, as a result of
decreases in projected profitability.  This impairment charge is
included in loss from continuing operations in the consolidated statements of
operations.




(g)
Income Taxes




The
Company accounts for income taxes in accordance with FASB ASC 740-10 (prior
authoritative literature: Statement of Financial Accounting Standards (“SFAS”)
No. 109, “Accounting for Income Taxes”). Under this method, deferred tax assets
and liabilities are determined based on differences between financial reporting
and tax bases of assets and liabilities and are measured using the enacted tax
rates and laws that will be in effect when the differences are expected to
reverse.




In June
2006, the Financial Accounting Standards Board (“FASB”) issued FASB ASC 740-10
(prior authoritative literature: Interpretation No. 48, “Accounting for
Uncertainty in Income Taxes,” (“FIN 48”), an interpretation of SFAS No.
109).  FASB ASC 740-10 clarifies the accounting for income taxes by
prescribing a minimum recognition threshold that a tax position is required to
meet before being recognized in the financial statements.  FASB ASC
740-10 also provides guidance on derecognition, measurement, classification,
interest and penalties, accounting in interim periods and
disclosure.




The
Company adopted FASB ASC 740-10 on January 1, 2007.  Under FASB ASC
740-10, tax benefits are recognized only for tax positions that are more likely
than not to be sustained upon examination by tax authorities.  The
amount recognized is measured as the largest amount of benefit that is greater
than 50 percent likely to be realized upon ultimate
settlement.  Unrecognized tax benefits are tax benefits claimed or to
be claimed in tax returns that do not meet these measurement
standards.  The Company’s adoption of FASB ASC 740-10 did not have a
material effect on the Company’s financial statements, as the Company believes
they have no uncertain tax positions.




As
permitted by FASB ASC 740-10, the Company also adopted an accounting policy to
prospectively classify accrued interest and penalties related to any
unrecognized tax benefits in its income tax provision.  Previously,
the Company’s policy was to classify interest and penalties as an operating
expense in arriving at pre-tax income.  At December 31, 2009 and 2008,
the Company does not have accrued interest and penalties related to any
unrecognized tax benefits.  The years subject to potential audit vary
depending on the tax jurisdiction.  Generally, the Company’s statutes
of limitation for tax liabilities are open for tax years ended December 31, 2006
and forward.  The Company’s major taxing jurisdiction is the United
States.  Within the United States, Vermont and New York could give
rise to significant tax liabilities.


55


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




(h)
Net Loss Per Share




Basic
loss per share is based on the weighted average number of shares of common stock
outstanding during the period. Diluted loss per share is based on the weighted
average number of shares of common stock and common stock equivalents (options,
warrants, stock awards and convertible subordinated notes) outstanding during
the period, except where the effect would be antidilutive.




(i)
Foreign Currency Translation




Assets
and liabilities of the foreign subsidiaries that are denominated in local
currencies have been translated at year-end exchange rates, while revenues and
expenses have been translated at average exchange rates in effect during the
year. Resulting cumulative translation adjustments have been recorded as a
separate component of accumulated other comprehensive income (loss) in
stockholders’ equity.




(j)
Comprehensive Income (Loss)




Comprehensive
income (loss) consists of changes to shareholders’ equity, other than
contributions from or distributions to shareholders, and net income (loss). The
Company’s other comprehensive income (loss) consists of unrealized foreign
currency translation gains and losses. The components of, and changes in,
accumulated other comprehensive income (loss) are presented in the Company’s
consolidated statements of stockholders’ equity.




(k)
Use of Estimates




The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.




(l)
Fair Value of Financial Instruments




FASB ASC
820-10 (prior authoritative literature: SFAS No. 157 “Fair Value Measurements”),
was adopted January 1, 2008 and provides guidance related to estimating fair
value and requires expanded disclosures. The standard applies whenever other
standards require (or permit) assets or liabilities to be measured at fair
value. The standard does not expand the use of fair value in any new
circumstances. In February 2008, the FASB provided a one year deferral for the
implementation of FASB ASC 820-10 for non-financial assets and liabilities
recognized or disclosed at fair value in the financial statements on a
non-recurring basis. The Company adopted FASB ASC 820-10 for non-financial
assets and liabilities as of January 1, 2009 which did not have a material
impact on the results of operations. On a nonrecurring basis, the Company uses
fair value measures when analyzing asset impairment. Long-lived tangible assets
are reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable. If it is determined
such indicators are present and the review indicates that the assets will not be
fully recoverable, based on undiscounted estimated cash flows over the remaining
amortization periods, their carrying values are reduced to estimated fair value.
During the fourth quarter of each year, the Company evaluates goodwill and
indefinite-lived intangibles for impairment at the reporting unit
level.




The fair
value hierarchy distinguishes between assumptions based on market data
(observable inputs) and an entity’s own assumptions (unobservable
inputs).  The hierarchy consists of three levels:




·
            Level
      one— Quoted market prices in active markets for identical assets or
      liabilities;




·
            Level
      two— Inputs other than level one inputs that are either directly or
      indirectly observable; and




·
            Level
      three— Unobservable inputs developed using estimates and assumptions,
      which are developed by the reporting entity and reflect those assumptions
      that a market participant would
use.


56


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




The
following table identifies the financial assets and liabilities that are
measured at fair value by level at December 31, 2009 and 2008:




December 31, 2009
                              Fair Value Measurements Using
                            
                            
                            December 31, 2008
                              Fair Value Measurements UsingDescription
                            
                            Quoted Prices
                              in Active
                              Markets for
                              Identical
                              Assets
                              (Level 1)
                            
                            
                            Significant
                              Other
                              Observable
                              Inputs
                              (Level 2)
                            
                            
                            Significant
                              Unobservable
                              Inputs
                              (Level 3)
                            
                            
                            Quoted Prices
                              in Active
                              Markets for
                              Identical Assets
                              (Level 1)
                            
                            
                            Significant
                              Other
                              Observable
                              Inputs
                              (Level 2)
                            
                            
                            Significant
                              Unobservable
                              Inputs
                              (Level 3)Assets:Money
      Markets
                            
                            $
                            4,314,514
                            
                            
                            $
                            —
                            
                            
                            $
                            —
                            
                            
                            $
                            2,347,170
                            
                            
                            $
                            —
                            
                            
                            $
                            —Liabilities:Derivative
                            
                            $
                            —
                            
                            
                            $
                            —
                            
                            
                            $
                            1,210
                            
                            
                            $
                            —
                            
                            
                            $
                            —
                            
                            
                            $
                            —




A level 3 unobservable input is used
when little or no market data is available. The derivative liability is valued
using the Black-Scholes option pricing model using various
assumptions.  These assumptions are more fully discussed
below.




The
following table provides a reconciliation of the beginning and ending balances
of assets and liabilities valued using significant unobservable inputs (level
3):




Fair Value Measurements Using
                        Significant Unobservable
Inputs
                        (Level 3)Year
      Ended
                        December 31, 2009Derivative
      liability:Beginning
      balance (January 1, 2009)
                      
                      $
                      30,000Total
      (gains) included in earnings
                      
                      
                      (28,790
                      )Ending
      balance
                      
                      $
                      1,210




Total
gains and losses included in earnings for the year December 31, 2009 are
reported as other income in the consolidated statements of
operations.




The
following table identifies the non-financial assets that are measured at fair
value by level at December 31, 2009:




Fair
      Value Measurements UsingDescription
                  
                  Quoted
                    Prices
      in
                    Active
                    Markets for
                    Identical
                    Assets
                    (Level
      1)
                  
                  
                  Significant
                    Other
                    Observable
                    Inputs
                    (Level 2)
                  
                  
                  Significant
                    Unobservable
                    Inputs
                    (Level
      3)
                  
                  
                  Total
                    Gains
                    (Losses)Identifiable
      Intangible Assets
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  8,017,568
                  
                  
                  $
                  (1,000,000
                  )Goodwill
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  11,175,637
                  
                  
                  
                  (4,722,426
                  )Total
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  19,193,205
                  
                  
                  $
                  (5,722,426
                  )




At
December 31, 2009 and 2008, the carrying amount of the Company’s financial
instruments, including cash and cash equivalents, accounts receivable, accounts
payable and accrued liabilities, approximated fair value because of their
short-term maturity.  The carrying value of long-term debt, net of
discount, at December 31, 2009 and 2008 was $28,017,500 and $28,579,736,
respectively.  The approximated fair value of long-term debt based on
borrowing rates currently available to the Company for debt with similar terms
was $25,740,034 at December 31, 2009.


57


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




As
prescribed under adopted FASB ASC 360-10 (prior authoritative literature: FAS
142 “Goodwill and Other Intangible Assets,”) we test annually for possible
impairment to goodwill and our indefinite lived tradename. We perform our test
as of October 1st each year using a discounted cash flow analysis that requires
that certain assumptions and estimates be made regarding industry economic
factors and future growth and profitability at each of our reporting units. We
also incorporate market participant assumptions to estimate fair value for
impairment testing.   Our definite lived intangible assets are
tested under adopted FASB ASC 350-30 (prior authoritative literature: FAS 144
“Accounting for the Impairment or Disposal of Long-Lived Assets”) when
impairment indicators are present.  An undiscounted model is used to
determine if the carrying value of the asset is recoverable.  If not,
a discounted analysis is done to determine the fair value.  We engage
a valuation analysis expert to prepare the models and calculations used to
perform the tests, and we provide them with estimates regarding our reporting
units’ expected growth and performance for future years.




(m)  Discount
on Convertible Debt




In June
2008, the FASB published FASB ASC 815-40 (prior authoritative literature: EITF
Issue 07-5 “Determining Whether an Instrument is Indexed to an Entity’s Own
Stock”) to address concerns regarding the meaning of “indexed to an entity’s own
stock” contained in FASB ASC 815-40 (prior authoritative literature: FAS 133:
“Accounting for Derivative Instruments and Hedging Activities”).  FASB
ASC 815-40 addresses the issue of the determination of whether a free-standing
equity-linked instrument should be classified as equity or debt.  If
an instrument is classified as debt, it is valued at fair value, and this value
is remeasured on an ongoing basis, with changes recorded in earnings in each
reporting period.  FASB ASC 815-40 was effective for years beginning
after December 15, 2008 and earlier adoption was not
permitted.  Although FASB ASC 815-40 was effective as of January 1,
2009, any outstanding instrument at the date of adoption requires a
retrospective application of the accounting principle through a cumulative
effect adjustment to retained earnings upon adoption.  The Company
completed an analysis as it pertains to the conversion option in its convertible
debt, which was triggered by the reset provision, and has determined that the
fair value of the derivative liability was $30,000 and the debt discount was
$1,312,500 at January 1, 2009.  The Company estimates the fair value
of the derivative liability using the Black-Scholes option pricing model using
the following assumptions:




December 31, 2009
                  
                  
                  January 1, 2009Annual
      dividend yield
                  
                  
                  —
                  
                  
                  
                  —Expected
      life (years)
                  
                  
                  1.94
                  
                  
                  
                  2.94Risk-free
      interest rate
                  
                  
                  1.70
                  %
                  
                  
                  1.00
                  %Expected
      volatility
                  
                  
                  80
                  %
                  
                  
                  80
                  %




Expected volatility is based upon
historical volatility.  The Company believes this method produces an
estimate that is representative of expectations of future volatility over the
expected term of the derivative liability.  The Company currently has
no reason to believe future volatility over the expected remaining life of this
conversion option is likely to differ materially from historical
volatility.  The expected life is based on the remaining term of the
conversion option.  The risk-free interest rate is based on three-year
U.S. Treasury securities.  The Company recorded an adjustment to
retained earnings in the amount of $1,459,109, which represents the cumulative
change in the fair value of the conversion option, net of the impact of
amortization of the additional debt discount from date of issuance of the notes
(December 8, 2006) through adoption of this pronouncement.  In
addition, as required by FASB ASC 815-40, the Company recorded an adjustment to
reduce additional paid in capital in the amount of $476,873, which represents
the reversal of the value of the debt discount that was recorded in paid in
capital in connection with a reset of the bond conversion price in January
2007.  The debt discount will be amortized over the remaining life of
the debt resulting in greater interest expense in the
future.  Relating to the adoption of FASB ASC 815-40, the Company
recognized an additional interest expense in the amount of $354,862, for a total
expense of $450,000 in the year ended December 31, 2009.




(n)
Internal Use Software




In
accordance with FASB ASC 350-10 (prior authoritative literature: Statement of
Position 98-1, “Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use”), the Company capitalizes internal-use software costs
upon the completion of the preliminary project stage and ceases capitalization
when the software project is substantially complete and ready for its intended
use. Capitalized costs are amortized on a straight-line basis over the estimated
useful life of the software.


58


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




(o)
Internally Developed Intangible Assets




In accordance with FASB ASC 350-30
(prior authoritative literature: SFAS No. 142 “Goodwill and Other Intangible
Assets”), the Company capitalizes legal fees and similar costs related to it’s
internally developed patents.  Upon approval of the patent, these
costs will be amortized over the life of the patent.




(p)
Stock-Based Compensation




The
Company accounts for share-based compensation cost in accordance with FASB ASC
718-10 (prior authoritative literature: SFAS No. 123(R), “Share-Based
Payment”).  The fair value of each option award is estimated on the
date of the grant using a Black-Scholes option valuation model.  The
compensation cost is recognized over the service period which is usually the
vesting period of the award.  Expected volatility is based on the
historical volatility of the price of the Company’s stock.  The
risk-free interest rate is based on U.S. Treasury issues with a term equal to
the expected life of the option.  The Company uses historical data to
estimate expected dividend yield, expected life and forfeiture
rates.  For stock options granted as consideration for services
rendered by non-employees, the Company recognizes compensation expense in
accordance with the requirements of FASB ASC 505-50 (prior authoritative
literature:  EITF No. 96-18, “Accounting for Equity Instruments That
Are Issued to Other Than Employees for Acquiring, or in Conjunction with
Selling, Goods and Services” and EITF 00-18 “Accounting Recognition for Certain
Transactions involving Equity Instruments Granted to Other Than
Employees”).




(q)
Concentration of Credit Risk




We have a
diverse customer base, and for the year ended December 31, 2009, only one
customer accounted for more than 10.0% of our revenues.  This customer
is an amenity distributor in the hotel/resort industry.  2009 revenue
from this customer was approximately $4.5 million or 11.0% of our total
revenues.  At December 31, 2009 and 2008 accounts receivable from this
customer were approximately $628,000 and $359,000 respectively.




Financial
instruments which potentially expose the Company to concentration of credit risk
consist primarily of cash investments and accounts receivable. The Company
places its cash investments with high-credit quality financial institutions and
currently invests primarily in money market accounts. Accounts receivable are
generally diversified due to the number of customers comprising the Company’s
customer base. As of December 31, 2009 and 2008, the Company’s allowance for
doubtful accounts was approximately $314,000 and $172,000. The Company believes
no significant concentration of credit risk exists with respect to these cash
investments and accounts receivable. The carrying amounts of these financial
instruments are reasonable estimates of their fair value.




(r)
Recently Issued Accounting Pronouncements





In
December 2007, the FASB published FASB ASC 805-10 (prior authoritative
literature: SFAS No.141(R), “Business Combinations”), which requires an acquirer
to recognize the assets acquired, the liabilities assumed, and any
noncontrolling interest of an acquiree at the acquisition date, measured at
their fair values as of that date, with limited exceptions. FASB ASC 805-10
applies prospectively to business combinations for which the acquisition date is
on or after the beginning of the first annual reporting period beginning on or
after December 15, 2008.  Earlier application was
prohibited.  The Company did not complete any acquisitions in the year
ended December 31, 2009 and therefore the adoption by the Company of FASB ASC
805-10 had no effect upon the Company’s financial position or results of
operations.


59


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




In March
2008, the FASB published FASB ASC 815-10 (prior authoritative literature: SFAS
No. 161, “Disclosures and Derivative Instruments and Hedging Activities — an
Amendment of FASB Statement 133”). FASB ASC 815-10 will change the disclosure
requirements for derivative instruments and hedging activities. Entities will be
required to provide enhanced disclosures about (a) how and why an entity uses
derivative instruments, (b) how derivative instruments and related hedged items
are accounted for under Statement 133 and its related interpretations, and (c)
how derivative instruments and related hedged items affect an entity’s financial
position, financial performance and cash flows. FASB ASC 815-10 is effective for
financial statements issued for fiscal years and interim periods beginning after
November 15, 2008. The adoption by the Company of FASB ASC 815-10 did not have a
material impact on the Company’s financial position or results of
operations.




The
Company adopted FASB ASC 855-10 (prior authoritative literature: FASB Statement
No. 165 “Subsequent Events”) effective June 30, 2009.  This statement
establishes general standards of accounting for, and disclosure of, events that
occur after the balance sheet date but before financial statements are issued or
are available to be issued.  FASB ASC 855-10 requires the disclosure
of the date through which an entity has evaluated subsequent events and the
basis for that date, that is, whether that date represents the date the
financial statements were issued or were available to be issued.  The
Company evaluated subsequent events through the date the accompanying financial
statements were issued, which was March 18, 2010.  The effect of
adopting this pronouncement did not have a material effect on the Company’s
financial position or results of operations.




(4)
Sale of Subsidiaries and Businesses





Sale
of Langer (UK) Limited




On
January 18, 2008, the Company sold all of the outstanding capital stock of its
wholly owned subsidiary, Langer UK, to an affiliate of Sole Solutions, a
retailer of specialty footwear based in the United Kingdom.  The sales
price was $1,155,313, of which $934,083 was paid at closing and the remaining
balance is evidenced by a note receivable in the amount of 112,500 British
pounds (valued at $181,406 at December 31, 2009).  The note receivable
bears interest at 8.5% annually with quarterly payments of
interest.  The entire principal balance on the note receivable was due
in full on January 18, 2010.  The Company has agreed to extend the due
date of the note.  The revised terms require monthly payments of
principal of 12,500 British pounds and interest at 8.5% from April 2010 to
December 2010.  The note is included in prepaid expenses and other
current assets in the consolidated balance sheet.  In addition, upon
closing, the Company entered into an exclusive sales agency agreement and
distribution services agreement by which Langer UK will act as sales agent and
distributor for Silipos products in the United Kingdom, Europe, Africa, and
Israel.  These agreements had original terms of three years and have
been extended until December 31, 2012.  In December 2007, the Company
recorded a loss before income taxes of $175,558 associated with this sale which
included an impairment of goodwill of $462,729 and transaction costs of
$125,914.




Sale
of Regal Medical Supply, LLC




On June
11, 2008, the Company sold its entire membership interest of its wholly-owned
subsidiary, Regal, to a group of investors, including a member of Regal’s
management.  The sales price was $501,000, which was paid in cash at
closing. The Company recorded a loss before income taxes of $1,929,564 which
included an impairment of $1,277,521 related to goodwill and transaction costs
of $69,921. This loss is included in loss from operations of discontinued
subsidiaries in the consolidated statements of operations for the year ended
December 31, 2008.   During 2009, the Company recorded two
adjustments which increased the loss by $73,326.  The Company recorded
additional rent expense of $98,166 related to the former Regal offices, which
was partially offset by the reversal of an accrual of $24,840 for transaction
costs which was no longer required.  These adjustments are included in
income (loss) from operations of discontinued subsidiaries in the consolidated
statements of operations for the year ended December 31, 2009.





Sale
of Bi-Op Laboratories, Inc.




On July
31, 2008, the Company sold all of the outstanding capital stock of its
wholly-owned subsidiary, Bi-Op, to a third party, which included the general
manager of Bi-Op. The sales price of $2,040,816 was paid in cash at closing, and
was subject to adjustment following the closing to extent that working capital,
as defined by the purchase agreement, is less or greater than $488,520. In
October 2008, a working capital adjustment due to the Company in the amount of
$325,961 was agreed to by both parties to the transaction. The Company recorded
a loss before income taxes of $659,798 which included an impairment of goodwill
of $808,502 and transaction costs of $334,594.  This loss is included
in loss from operations of discontinued subsidiaries in the consolidated
statement of operations for the year ended December 31, 2008.


60


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





Sale
of Langer Branded Custom Orthotics Assets and Liabilities




On
October 24, 2008, the Company sold substantially all of the operating assets and
liabilities of the Langer branded custom orthotics and related products business
to a third party. The sales price was approximately $4,750,000, of which
$475,000 will be held in escrow for up to 12 months to satisfy indemnification
claims of the purchaser. The Company received $237,500 of the amount held in
escrow in April 2009.  The remaining escrow balance of $237,500 is
included in prepaid expenses and other current assets at December 31, 2009 and
was released and received by the Company in March 2010.  The sale
price was subject to adjustment within 90 days of closing to the extent that
working capital, as defined by the purchase agreement, is less or greater than
$1,100,000 as of the closing date.  In January 2009, a working capital
adjustment due to the Company in the amount of $116,418 was agreed to by both
parties to the transaction.  The Company recorded a loss before income
taxes on this sale of $179,715, which included an impairment of $1,672,344
related to goodwill and transaction costs of $565,327.  This loss is
included in loss from operations of discontinued subsidiaries in the
consolidated statements of operations for the year ended December 31,
2008.  In connection with this sales transaction, the Company has
surrendered its right to continue to use the Langer name and trademark,
accordingly, the Company changed its corporate name to PC Group, Inc. effective
July 23, 2009.  During 2009, the Company recorded an adjustment to
reduce this loss by $75,000 due to the reversal of an accrual for severance pay
which is no longer required.  This amount is included in income (loss)
from operations of discontinued subsidiaries in the consolidated statements of
operations for the year ended December 31, 2009.





(5)
Discontinued Operations




The
Company completed the sale of Langer UK on January 18, 2008, Regal on June 11,
2008, Bi-Op on July 31, 2008 and substantially all of the operating assets and
liabilities related to the Langer branded custom orthotics and related products
business on October 24, 2008 (see Note 4).  Also, in 2009, the Company
recorded adjustments to the losses of Regal and the Langer custom orthotics and
related products business (See Note 4).  In accordance with FASB ASC
360-10, the results of operations of these wholly owned subsidiaries and
businesses for the current and prior periods have been reported as discontinued
operations.  Operating results of these wholly owned subsidiaries and
businesses, which were formerly included in the medical products and Regal
segments, are summarized as follows:




Year
      Ended December 31,2009
                  
                  
                  2008Revenues:Langer
      UK
                  
                  $
                  —
                  
                  
                  $
                  —Regal
                  
                  
                  —
                  
                  
                  
                  1,526,301Bi-Op
                  
                  
                  —
                  
                  
                  
                  1,617,356Langer
      branded custom orthotics
                  
                  
                  —
                  
                  
                  
                  9,208,341Total
      revenues
                  
                  $
                  —
                  
                  
                  $
                  12,351,998Net
      loss from operations
                  
                  $
                  —
                  
                  
                  $
                  (77,064
                  )Gain
      (Loss) on sale
                  
                  
                  1,694
                  
                  
                  
                  (2,769,077
                  )Other
      expense, net
                  
                  
                  
                  
                  
                  
                  31,602Loss
      before income taxes
                  
                  
                  1,694
                  
                  
                  
                  (2,814,539
                  )Benefit
      from (provision for) income tax
                  
                  
                  —
                  
                  
                  
                  499,595Loss
      from discontinued operations
                  
                  $
                  1,694
                  
                  
                  $
                  (2,314,944
                  )


61


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





(Income)
Loss from discontinued operations, net of any tax benefit, is comprised of the
following for the years ended December 31, 2009 and 2008:





2009
                      
                      
                      2008Langer
      UK
                      
                      $
                      —
                      
                      
                      $
                      202,313Regal
                      
                      
                      (73,326
                      )
                      
                      
                      (2,163,721
                      )Bi-Op
                      
                      
                      —
                      
                      
                      
                      (422,195
                      )Langer
      branded custom orthotics
                      
                      
                      75,000
                      
                      
                      
                      68,659Total
                      
                      $
                      1,674
                      
                      
                      $
                      (2,314,944
                      )





(6)
Identifiable intangible assets




Identifiable
intangible assets at December 31, 2009 consisted of:




Assets
                
                Estimated
                  Useful Life
                  (Years)
                
                
                Net
      Carrying
                  Value
                
                
                Accumulated
                  Amortization
                
                
                Provision for
                  Impairment
                
                
                Net Carrying
                  ValueTrade
      names—Silipos
                
                
                18
                
                
                $
                2,688,000
                
                
                $
                149,334
                
                
                $
                —
                
                
                $
                2,538,666Repeat
      customer base—Silipos
                
                
                7
                
                
                
                1,680,000
                
                
                
                1,432,186
                
                
                
                —
                
                
                
                247,814License
      agreements and related technology—Silipos
                
                
                9.5
                
                
                
                1,364,000
                
                
                
                753,790
                
                
                
                —
                
                
                
                610,210Repeat
      customer base—Twincraft
                
                
                19
                
                
                
                4,814,500
                
                
                
                1,489,496
                
                
                
                1,000,000
                
                
                
                2,325,004Trade
      names—Twincraft
                
                
                23
                
                
                
                2,629,300
                
                
                
                333,426
                
                
                
                —
                
                
                
                2,295,874$
                13,175,800
                
                
                $
                4,158,232
                
                
                $
                1,000,000
                
                
                $
                8,017,568





Identifiable intangible assets at
December 31, 2008 consisted of:




Assets
                
                Estimated
                  Useful Life
      (Years)
                
                
                Original
                  Cost
                
                
                Accumulated
                  Amortization
                
                
                Provision
      for Impairment
                
                
                Net Carrying
                  ValueTrade
      names—Silipos
                
                Indefinite
                
                
                $
                2,688,000
                
                
                $
                —
                
                
                $
                —
                
                
                $
                2,688,000Repeat
      customer base—Silipos
                
                
                7
                
                
                
                1,680,000
                
                
                
                1,158,994
                
                
                
                —
                
                
                
                521,006License
      agreements and related technology—Silipos
                
                
                9.5
                
                
                
                1,364,000
                
                
                
                610,211
                
                
                
                —
                
                
                
                753,789Repeat
      customer base—Twincraft
                
                
                19
                
                
                
                7,214,500
                
                
                
                1,107,988
                
                
                
                2,400,000
                
                
                
                3,706,512Trade
      names—Twincraft
                
                
                23
                
                
                
                2,629,300
                
                
                
                219,108
                
                
                
                —
                
                
                
                2,410,192$
                15,575,800
                
                
                $
                3,096,301
                
                
                $
                2,400,000
                
                
                $
                10,079,499




As of
December 31, 2009 and 2008, it was determined that the carrying value of the
Twincraft customer base was not recoverable and, accordingly, was written down
to its fair value resulting in an impairment of $1,000,000 and
$2,400,000.  Also, effective January 1, 2009, the Company changed the
estimated useful life of the Silipos tradename from an indefinite life to a
useful life of 18 years.




Aggregate
amortization expense relating to the above identifiable intangible assets for
the years ended December 31, 2009 and 2008 were $1,061,930, and $1,444,990,
respectively. As of December 31, 2009, the estimated future amortization expense
is $916,961 for 2010, $657,256 for 2011, $748,775 for 2012, $699,396 for 2013,
$535,961 for 2014 and $4,459,489 thereafter.


62


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




(7)
Goodwill




Changes
in goodwill for the years ended December 31, 2008 and 2009 are as
follows:




Medical
      Products
                  
                  
                  Personal Care
                    Products
                  
                  
                  Regal
                  
                  
                  TotalBalance,
      January 1, 2008
                  
                  $
                  10,830,765
                  
                  
                  $
                  9,848,144
                  
                  
                  $
                  1,277,521
                  
                  
                  $
                  21,956,430Sale
      of Regal, included in discontinued operations
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (1,277,521
                  )
                  
                  
                  (1,277,521
                  )Allocated
      to Bi-Op, impaired and included in discontinued operations
                  
                  
                  (808,502
                  )
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (808,502
                  )Twincraft
      escrow payment
                  
                  
                  —
                  
                  
                  
                  1,000,000
                  
                  
                  
                  —
                  
                  
                  
                  1,000,000Twincraft
      impairment charge
                  
                  
                  —
                  
                  
                  
                  (3,300,000
                  
                  
                  
                  —
                  
                  
                  
                  (3,300,000
                  )Allocated
      to the Langer branded orthotics and related products business and included
      in discontinued operations
                  
                  
                  (1,672,344
                  )
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (1,672,344
                  )Balance
      at December 31, 2008
                  
                  $
                  8,349,919
                  
                  
                  $
                  7,548,144
                  
                  
                  $
                  —
                  
                  
                  $
                  15,898,063Twincraft
      impairment charge
                  
                  
                  —
                  
                  
                  
                  (4,722,426
                  
                  
                  
                  —
                  
                  
                  
                  (4,722,426
                  )Balance
      at December 31, 2009
                  
                  $
                  8,349,919
                  
                  
                  $
                  2,825,718
                  
                  
                  $
                  —
                  
                  
                  $
                  11,175,637




(8)Inventories,
net




Inventories,
net, consisted of the following:




December
      31,2009
                    
                    
                    2008Raw
      materials
                    
                    $
                    3,752,980
                    
                    
                    $
                    4,010,119Work-in-process
                    
                    
                    277,372
                    
                    
                    
                    287,823Finished
      goods
                    
                    
                    2,572,236
                    
                    
                    
                    3,177,6206,602,588
                    
                    
                    
                    7,475,562Less:
      Allowance for excess and obsolescence
                    
                    
                    (614,379
                    )
                    
                    
                    (610,268
                    )$
                    5,988,209
                    
                    
                    $
                    6,865,294




(9)Property and Equipment,
net




December
      31,2009
                                
                                
                                2008Land,
      building and improvements
                                
                                $
                                2,557,738
                                
                                
                                $
                                2,557,738Office
      furniture and equipment
                                
                                
                                364,450
                                
                                
                                
                                381,067Computer
      equipment and software
                                
                                
                                1,573,630
                                
                                
                                
                                1,501,927Machinery
      and equipment
                                
                                
                                10,138,295
                                
                                
                                
                                9,601,178Leasehold
      improvements
                                
                                
                                2,444,836
                                
                                
                                
                                2,401,53917,078,949
                                
                                
                                
                                16,443,449Less:
      Accumulated depreciation and amortization
                                
                                
                                8,588,720
                                
                                
                                
                                7,129,150$
                                8,490,229
                                
                                
                                $
                                9,314,299




Property
and equipment, net, is comprised of the following:




Depreciation
and amortization expense relating to property and equipment was $1,511,652 and
$2,596,701 for the years ended December 31, 2009 and 2008, respectively.
Property and equipment held under capital leases had a net book value of
$1,297,350 as of December 31, 2009 (See Note 12, “Long-Term
Debt”).


63


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




(10)Other Current
Liabilities




Other current liabilities consisted of
the following:




December
      31,2009
                  
                  
                  
                  2008Accrued
      payroll and taxes
                  
                  $
                  392,891
                  
                  
                  $
                  296,078Accrued
      professional fees
                  
                  
                  510,788
                  
                  
                  
                  374,972Accrued
      merchandise
                  
                  
                  649,115
                  
                  
                  
                  669,366Accrued
      transaction costs
                  
                  
                  —
                  
                  
                  
                  152,224Deferred
      interest – capital lease
                  
                  
                  90,795
                  
                  
                  
                  235,797Accrued
      bonuses
                  
                  
                  43,368
                  
                  
                  
                  103,983Accrued
      severance and severance related
                  
                  
                  —
                  
                  
                  
                  141,992Credits
      due customers
                  
                  
                  21,071
                  
                  
                  
                  72,965Accrued
      rent
                  
                  
                  269,534
                  
                  
                  
                  225,623Accrued
      royalty
                  
                  
                  19,055
                  
                  
                  
                  19,321Accrued
      sales rebates
                  
                  
                  38,487
                  
                  
                  
                  58,335Other
                  
                  
                  264,816
                  
                  
                  
                  258,569$
                  2,299,920
                  
                  
                  $
                  2,609,225





(11)Credit
Facility





On
May 11, 2007, the Company entered into a secured revolving credit facility
agreement (the “Credit Facility”) with Wachovia Bank, N.A. (“Wachovia”),
expiring on September 30, 2011.  During 2008, the Company entered into
two amendments that decreased the maximum amount that the Company may
borrow.  The Credit Facility, as amended, provides an aggregate
maximum availability, if and when the Company has the requisite levels of
assets, in the amount of $12 million, and is subject to a sub-limit of $5
million for the issuance of letter of credit obligations, another sub-limit of
$3 million for term loans, and a sub-limit of $4 million on loans against
inventory.  Loans under the Credit Facility will bear interest at 0.5
percent above the lender’s prime rate or, at the Company’s election, at 2.5
percentage points above an Adjusted Eurodollar Rate, as defined in the Credit
Facility.  The Credit Facility is collateralized by a first priority
security interest in inventory, accounts receivables and all other assets and is
guaranteed on a full and unconditional basis by the Company and each of the
Company’s domestic subsidiaries (Silipos and Twincraft) and any other company or
person that hereafter becomes a borrower or owner of any property in which the
lender has a security interest under the Credit Facility.  As of
December 31, 2009, the Company had no outstanding advances under the Credit
Facility and has approximately $5.5 million available under the Credit Facility
related to eligible accounts receivable and inventory.  In addition,
the Company has approximately $1.8 million of availability related to property
and equipment for term loans.





If
the Company’s availability under the Credit Facility drops below $3 million or
borrowings under the facility exceed $10 million, the Company is required under
the Credit Facility to deposit all cash received from customers into a blocked
bank account that will be swept daily to directly pay down any amounts
outstanding under the Credit Facility.  In such event, the Company
would not have any control over the blocked bank account.





The
Company’s borrowings availabilities under the Credit Facility are limited to 85%
of eligible accounts receivable and 60% of eligible inventory, and are subject
to the satisfaction of certain conditions. Term loans shall be secured by
equipment or real estate hereafter acquired. The Company is required to submit
monthly unaudited financial statements to Wachovia.





If
the Company’s availability is less than $3 million, the Credit Facility requires
compliance with various covenants including but not limited to a fixed charge
coverage ratio of not less than 1.0 to 1.0.  Availability under the
Credit Facility is reduced by 40% of the outstanding letters of credit related
to the purchase of eligible inventory, as defined, and 100% of all other
outstanding letters of credit. At December 31, 2009, the Company had outstanding
letters of credit related to the purchase of eligible inventory of approximately
$150,300.


64


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





To the
extent that amounts under the Credit Facility remain unused, while the Credit
Facility is in effect and for so long thereafter as any of the obligations under
the Credit Facility are outstanding, the Company will pay a monthly commitment
fee of three eights of one percent (0.375%) on the unused portion of the loan
commitment. The Company paid Wachovia a closing fee in the amount of $75,000 in
August 2007. In addition, the Company paid legal and other costs associated with
obtaining the Credit Facility of $319,556 in 2007.  In April 2008, the
Company paid a $20,000 fee to Wachovia related to an amendment of the Credit
Facility, which has been recorded as a deferred financing cost and is being
amortized over the remaining term of the Credit Facility. As of December 31,
2009, the Company had unamortized deferred financing costs in connection with
the Credit Facility of $167,254.  Amortization expense for the years
ended December 31, 2009 and 2008 was $95,574 and $94,145,
respectively.





(12)
Long-Term Debt





On
December 8, 2006, the Company entered into a note purchase agreement for the
sale of $28,880,000 of 5% convertible subordinated notes due December 7, 2011
(the “5% Convertible Notes”).  The 5% Convertible Notes are not
registered under the Securities Act of 1933, as amended. The Company filed a
registration statement with respect to the shares acquirable upon conversion of
the 5% Convertible Notes, including an additional number of shares of common
stock issuable on account of adjustments of the conversion price under the 5%
Convertible Notes, (collectively, the “Underlying Shares”) in January, 2007, and
filed Amendment No. 1 to the registration statement in November, 2007, Amendment
No. 2 in April 2008, and Amendments No. 3 and 4 in June 2008; the registration
statement was declared effective on June 18, 2008.  The 5% Convertible
Notes bear interest at the rate of 5% per annum, payable in cash semiannually on
June 30 and December 31 of each year, commencing June 30, 2007.  For
each of the years ended December 31, 2009 and 2008 the Company recorded interest
expense related to the 5% Convertible Notes of approximately
$1,444,000.  At the date of issuance, the 5% Convertible Notes were
convertible at the rate of $4.75 per share, subject to certain reset provisions.
At the original conversion price at December 31, 2006, the number of Underlying
Shares was 6,080,000. Since the conversion price was above the market price on
the date of issuance and there were no warrants attached, there was no
beneficial conversion. Subsequent to December 31, 2006, on January 8, 2007 and
January 23, 2007, in conjunction with common stock issuances related to two
acquisitions, the conversion price was adjusted to $4.6706, and the number of
Underlying Shares was thereby increased to 6,183,359, pursuant to the
anti-dilution provisions applicable to the 5% Convertible Notes.  On
May 15, 2007, as a result of the issuance of an additional 68,981 shares of
common stock to the Twincraft sellers on account of upward adjustments to the
Twincraft purchase price, and the surrender to the Company of 45,684 shares of
common stock on account of downward adjustments in the Regal purchase price, the
conversion price under the 5% Convertible Notes was reduced to $4.6617, and the
number of Underlying Shares was increased to 6,195,165 shares.  This
adjustment to the conversion price resulted in an original debt discount of
$476,873.  Effective January 1, 2009, the Company adopted the
provisions of FASB ASC 815-40 which required a retrospective adjustment to the
debt discount.  At January 1, 2009, the debt discount was adjusted to
$1,312,500.  This amount will be amortized over the remaining term of
the 5% Convertible Notes and be recorded as interest expense in the consolidated
statements of operations. The charge to interest expense relating to the debt
discount for the year ended December 31, 2009 was $450,000.





The
principal of the 5% Convertible Notes is due on December 7, 2011, subject to the
earlier call of the 5% Convertible Notes by the Company, as follows: (i) the 5%
Convertible Notes could not be called prior to December 7, 2007; (ii) from
December 7, 2007, through December 7, 2009, the 5% Convertible Notes may be
called and redeemed for cash, in the amount of 105% of the principal amount of
the 5% Convertible Notes (plus accrued but unpaid interest, if any, through the
call date); (iii) after December 7, 2009, the 5% Convertible Notes may be called
and redeemed for cash in the amount of 100% of the principal amount of the 5%
Convertible Notes (plus accrued but unpaid interest, if any, through the call
date); and (iv) at any time after December 7, 2007, if the closing price of the
common stock of the Company on the NASDAQ (or any other exchange on which the
Company’s common stock is then traded or quoted) has been equal to or greater
than $7.00 per share for 20 of the preceding 30 trading days immediately prior
to the Company’s issuing a call notice, then the 5% Convertible Notes shall be
mandatorily converted into common stock at the conversion price then
applicable.  The Company had a Special Meeting of Stockholders on
April 19, 2007, at which the Company’s stockholders approved the issuance by the
Company of the shares acquirable on conversion of the 5% Convertible
Notes.


65


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





In the
event of a default on the 5% Convertible Notes, the due date of the 5%
Convertible Notes may be accelerated if demanded by holders of at least 40% of
the 5% Convertible Notes, subject to a waiver by holders of 51% of the 5%
Convertible Notes if the Company pays all arrearages of interest on the 5%
Convertible Notes.  Events of default are defined to include change in
control of the Company.





The
payment of interest and principal of the 5% Convertible Notes is subordinate to
the Company’s presently existing capital lease obligations, in the amount of
approximately $2,700,000 as of December 31, 2009, and the Company’s obligations
under its Credit Facility. The 5% Convertible Notes would also be subordinated
to any additional debt which the Company may incur hereafter for borrowed money,
or under additional capital lease obligations, obligations under letters of
credit, bankers’ acceptances or similar credit transactions.





In
connection with the sale of the 5% Convertible Notes, the Company paid a
commission of $1,338,018 based on a rate of 4% of the amount of 5% Convertible
Notes sold, excluding the 5% Convertible Notes sold to members of the Board of
Directors and their affiliates, to Wm. Smith & Co., who served as placement
agent in the sale of the 5% Convertible Notes. The total cost of raising these
proceeds was $1,338,018, which will be amortized through December 7, 2011, the
due date for the payment of principal on the 5% Convertible Notes. The
amortization of these costs for each of the years ended December 31, 2009 and
2008 was $264,747, and is recorded as an interest expense in the consolidated
statements of operations.




Pursuant
to the acquisition of Silipos, the Company is obligated under a capital lease
covering the land and building at the Silipos facility in Niagara Falls, N.Y.
that expires in 2018.  This lease also contains two five-year renewal
options.  As of December 31, 2009 and 2008, the Company’s obligation
under the capital lease is $2,700,000.




Annual
future minimum capital lease payments are as follows:





Years
      Ending December 31:2010
                        
                        $
                        453,5122011
                        
                        
                        467,1172012
                        
                        
                        481,1302013
                        
                        
                        495,5642014
                        
                        
                        510,431Later
      years through 2018
                        
                        
                        1,864,396Total
      minimum lease payments
                        
                        
                        4,272,150Less:
      Amount representing interest
                        
                        
                        (1,572,150
                        )Present
      value of net minimum capital lease payments
                        
                        
                        2,700,000Less:
      Current installments of obligations under capital lease
                        
                        
                        (81,011
                        )Obligations
      under capital lease, excluding current installment
                        
                        $
                        2,618,989




Additionally,
the Company has accrued interest of $90,795 and $235,797 at December 31, 2009
and 2008, respectively, with respect to the capital lease which is included in
other current liabilities at the respective balance sheet dates.




December
      312009
                    
                    
                    2008Land
                    
                    $
                    278,153
                    
                    
                    $
                    278,153Building
                    
                    
                    1,654,930
                    
                    
                    
                    1,654,9301,933,083
                    
                    
                    
                    1,933,083Less:
      Accumulated Depreciation
                    
                    
                    635,733
                    
                    
                    
                    514,641$
                    1,297,350
                    
                    
                    $
                    1,418,442




At
December 31, 2009 and 2008, the gross amount of land and building and related
accumulated depreciation recorded under the capital lease was as
follows:




66


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




(13)
Commitments and Contingencies




(a) Leases




Certain
of the Company’s facilities and equipment are leased under noncancelable
operating leases. Rental expense amounted to $1,251,279 and $1,473,531 for the
years ended December 31, 2009 and 2008, respectively. The leases expire at
various dates through 2014.




Future
minimum rental payments required under current operating leases
are:




Years Ending December 31:2010
                        
                        $
                        758,3852011
                        
                        
                        484,5942012
                        
                        
                        466,1192013
                        
                        
                        460,8002014
                        
                        
                        40,404Thereafter
                        
                        
                        2,696$
                        2,212,998




(b) Royalties




The
Company has entered into several agreements with licensors, consultants and
suppliers, which require the Company to pay royalty fees relating to the sale of
certain products. Royalties in the aggregate under these agreements totaled
$119,938, and $221,320 for the years ended December 31, 2009 and 2008,
respectively.




(c) Letters of Credit




The
Company has outstanding letters of credit amounting to $150,300 related to the
purchase of inventory that expire at various dates to March 2010.




(14)
Employee Restricted Stock and Other Stock Issuances




In
January and September 2007, the Board of Directors approved a grant of 872,500
shares of restricted stock to certain officers and board members, subject to
certain performance conditions.  During the year ended December 31,
2008, the restricted shares issued to an officer were forfeited on account of
her resignation as an officer and employee effective February 5,
2008.  The Company will record stock compensation expense once the
performance criteria is probable.  As of December 31, 2009, no stock
compensation expense with respect to any of these restricted stock awards has
been recorded.




(15)
Stock Options




Effective
January 1, 2006, the Company adopted FASB ASC 718-10 (prior authoritative
literature: SFAS No. 123(R), “Share-Based Payment”).  FASB ASC 718-10
replaces SFAS No. 123 and supersedes APB Opinion No. 25 and requires that all
stock-based compensation be recognized as an expense in the financial statements
and that such costs be measured at the fair value of the award.  The
total stock compensation expense for the years ended December 31, 2009 and 2008
was $206,347 and $157,331, and are included in general and administrative
expenses in the consolidated statements of operations.




The fair
value of stock-based awards to employees is calculated through the use of option
pricing models, even though such models were developed to estimate the fair
value of freely tradable, fully transferable options without vesting
restrictions, which significantly differ from the Company’s stock option awards.
These models also require subjective assumptions, including future stock price
volatility and expected time to exercise, which greatly affect the calculated
values. Because share-based compensation expense is based on awards that are
ultimately expected to vest, share-based compensation expense is reduced for
estimated forfeitures. FASB ASC 718-10 requires forfeitures to be estimated at
the time of grant and revised, if necessary, in subsequent periods if actual
forfeitures differ from those estimates.


67


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




During
the years ended December 31, 2009 and 2008, the Company’s calculations were made
using the Black-Scholes option pricing model and are on a multiple option
valuation approach. The Black-Scholes model is affected by the Company’s stock
price as well as assumptions regarding certain subjective variables. These
variables include, but are not limited to, the Company’s expected stock price
volatility over the term of the awards, the risk-free interest rate, and the
expected life of the options. The risk-free interest rate is based on a treasury
instrument whose term is consistent with the expected life of the stock options
granted. The expected volatility, holding period, and forfeitures of options are
based on historical experience. The historical period used for volatility is
comprised of daily historical activity for a period equal to the term. For the
years ended December 31, 2009 and 2008, as permitted under FASB ASC 718-10, the
Company calculated its expected term using the short cut method as they believe
they do not have enough information related to historical activity.




The
following table lists the weighted average assumptions used by the Company in
determining the fair value of stock options for the years ended December 31,
2009 and 2008:




2009
                              
                              
                              2008Expected
      volatility
                              
                              
                              125
                              %
                              
                              
                              77
                              %Expected
      dividends
                              
                              
                              —
                              
                              
                              
                              —Expected
      terms (in number of months)
                              
                              
                              84
                              
                              
                              
                              84Risk-free
      interest rate
                              
                              
                              3.46
                              %
                              
                              
                              3.25
                              %Option
      grants (weighted average fair value)
                              
                              
                              —
                              
                              
                              $
                              3.35




At the
Company’s July 17, 2001 annual meeting, the shareholders approved and adopted a
stock incentive plan for a maximum of 1,500,000 shares of common stock (the
“2001 Plan”). Outstanding options granted under the 2001 Plan are exercisable
for a period of up to ten years from the date of grant at an exercise price at
least equal to 100 percent of the fair market value of the Company’s common
stock at the date of grant and option awards generally vest in 3 years of
continuous service, all of which are subject to the approval of the Board of
Directors.  At December 31, 2009, there were 337,752 options
outstanding under the 2001 Plan. On June 23, 2005, the shareholders approved the
Company’s 2005 Stock Incentive Plan (the “2005 Plan”), with substantially the
same terms as the 2001 Plan, pursuant to which a maximum 2,000,000 shares of
common stock are reserved for issuance and available for awards. At December 31,
2009, there were 1,080,000 options outstanding under the 2005
Plan.  On June 20, 2007, the shareholders approved the Company’s 2007
Stock Incentive Plan (the “2007 Plan”) with substantially the same terms as the
previous plans, pursuant to which a maximum of 2,000,000 shares of common stock
are reserved for issuance and available for rewards.  At December 31,
2009, there were 60,000 options outstanding under the 2007
Plan.  Additionally, 250,000 non-plan options were outstanding at
December 31, 2009.




The
following is a summary of activity to the Company’s qualified and non-qualified
stock options:




Number
      of
                    Shares
                  
                  Exercise
      Price
                    Range
      Per
                    Share
                  
                  Weighted
                    Average
                    Exercise
                    Price
      Per
                    ShareOutstanding
      at December 31, 2007
                  
                  
                  1,963,252
                  
                  
                  
                  
                  
                  
                  5.28Granted
                  
                  
                  60,000
                  
                  
                  
                  0.90
                  
                  
                  
                  0.90Cancelled
      or forfeited
                  
                  
                  (295,500
                  )
                  
                  
                  1.53
      – 8.07
                  
                  
                  
                  5.04Outstanding
      at December 31, 2008 and 2009
                  
                  
                  1,727,752
                  
                  
                  
                  
                  
                  
                  
                  5.17Vested
      at December 31, 2009
                  
                  
                  1,419,418
                  
                  
                  
                  
                  
                  
                  
                  5.20Exercisable
      at December 31, 2009
                  
                  
                  1,419,418
                  
                  
                  
                  
                  
                  
                  
                  5.20




Under the
2001 Plan, at December 31, 2009, 337,752 options were exercisable. Under the
2005 Plan, at December 31, 2009, 771,666 options were exercisable. Under the
2007 Plan, 60,000 options were exercisable at December 31,
2009.  Additionally, at December 31, 2009, there were 250,000 non-plan
options which are exercisable.




The
options outstanding at December 31, 2009 had remaining lives ranging from
approximately 1.12 years to 8.6 years, with a weighted average life of
approximately 6.1 years.


68


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




The
following table summarizes the Company’s nonvested stock option activity for the
year ended December 31, 2009:




Number
                      Outstanding
                    
                    
                    Weighted
                      Average
                      Fair
      Value
                      at
      Grant DateNon-vested
      options at December 31, 2008
                    
                    
                    329,167
                    
                    
                    $
                    997,156Options
      cancelled or forfeited
                    
                    
                    —
                    
                    
                    
                    —Chang
      in fair value of options
                    
                    
                    —
                    
                    
                    
                    (5
                    )Vested
      options at December 31, 2009
                    
                    
                    (20,833
                    )
                    
                    
                    (66,165
                    )Non-Vested
      options at December 31, 2009
                    
                    
                    308,334
                    
                    
                    $
                    930,986




The
aggregate intrinsic value of options outstanding at December 31, 2009 and 2008
was approximately $1,200 and $176,800, respectively and the aggregate intrinsic
value of exercisable options was $1,200 and $149,700, respectively. No options
were exercised during the years ended December 31, 2009 and 2008.  At
December 31, 2009, there was approximately $240,000 of unrecognized compensation
cost related to share-based payments, which is expected to be recognized over a
weighted-average period of approximately 1.2 years.




At
December 31, 2008, the Company had 60,000 warrants outstanding.  These
warrants were exercised during 2009.




(16)
Segment Information




At
December 31, 2009, the Company operated in two segments (medical products and
personal care).  The medical products segment includes the Silipos
medical business.  The personal care segment includes Twincraft and
the Silipos personal care business.  Assets and expenses related to
the Company’s corporate offices are reported under “other” as they do not relate
to any of the operating segments.  Intersegment sales are recorded at
cost.




Segment
information for the years ended December 31, 2009 and 2008 is summarized as
follows:




Year
      Ended December 31, 2009
                                                                                  
                                                                                  Medical
                                                                                  
                                                                                  
                                                                                  Personal
      Care
                                                                                  
                                                                                  
                                                                                  Other
                                                                                  
                                                                                  
                                                                                  TotalNet
      sales
                                                                                  
                                                                                  $
                                                                                  8,212,390
                                                                                  
                                                                                  
                                                                                  $
                                                                                  32,663,944
                                                                                  
                                                                                  
                                                                                  $
                                                                                  –
                                                                                  
                                                                                  
                                                                                  $
                                                                                  40,876,334Operating
      income (loss) from continuing operations
                                                                                  
                                                                                  
                                                                                  313,964
                                                                                  
                                                                                  
                                                                                  
                                                                                  (4,457,246
                                                                                  )
                                                                                  
                                                                                  
                                                                                  (2,874,810
                                                                                  )
                                                                                  
                                                                                  
                                                                                  (7,018,092
                                                                                  )Provision
      for impairment
                                                                                  
                                                                                  
                                                                                  –
                                                                                  
                                                                                  
                                                                                  
                                                                                  5,722,426
                                                                                  
                                                                                  
                                                                                  
                                                                                  –
                                                                                  
                                                                                  
                                                                                  
                                                                                  5,722,426Depreciation
      of property and equipment and amortization of identifiable intangible
      assets
                                                                                  
                                                                                  
                                                                                  771,850
                                                                                  
                                                                                  
                                                                                  
                                                                                  1,737,774
                                                                                  
                                                                                  
                                                                                  
                                                                                  63,959
                                                                                  
                                                                                  
                                                                                  
                                                                                  2,573,583Long-lived
      assets
                                                                                  
                                                                                  
                                                                                  2,707,163
                                                                                  
                                                                                  
                                                                                  
                                                                                  13,639,199
                                                                                  
                                                                                  
                                                                                  
                                                                                  161,435
                                                                                  
                                                                                  
                                                                                  
                                                                                  16,507,797Total
      assets
                                                                                  
                                                                                  
                                                                                  16,207,968
                                                                                  
                                                                                  
                                                                                  
                                                                                  22,003,963
                                                                                  
                                                                                  
                                                                                  
                                                                                  6,069,986
                                                                                  
                                                                                  
                                                                                  
                                                                                  44,281,917Capital
      expenditures
                                                                                  
                                                                                  
                                                                                  20,003
                                                                                  
                                                                                  
                                                                                  
                                                                                  678,816
                                                                                  
                                                                                  
                                                                                  
                                                                                  2,070
                                                                                  
                                                                                  
                                                                                  
                                                                                  700,889Year
      Ended December 31, 2008
                                                                                  
                                                                                  Medical
                                                                                  
                                                                                  
                                                                                  Personal
      Care
                                                                                  
                                                                                  
                                                                                  Other
                                                                                  
                                                                                  
                                                                                  TotalNet
      sales
                                                                                  
                                                                                  $
                                                                                  9,481,160
                                                                                  
                                                                                  
                                                                                  $
                                                                                  35,579,988
                                                                                  
                                                                                  
                                                                                  $
                                                                                  –
                                                                                  
                                                                                  
                                                                                  $
                                                                                  45,061,148Operating
      (loss) income from continuing operations
                                                                                  
                                                                                  
                                                                                  1,526,131
                                                                                  
                                                                                  
                                                                                  
                                                                                  (5,691,809
                                                                                  )
                                                                                  
                                                                                  
                                                                                  (4,530,753
                                                                                  )
                                                                                  
                                                                                  
                                                                                  (8,696,431
                                                                                  )Provision
      for impairment
                                                                                  
                                                                                  
                                                                                  –
                                                                                  
                                                                                  
                                                                                  
                                                                                  5,700,000
                                                                                  
                                                                                  
                                                                                  
                                                                                  –
                                                                                  
                                                                                  
                                                                                  
                                                                                  5,700,000Depreciation
      of property and equipment and amortization of identifiable intangible
      assets
                                                                                  
                                                                                  
                                                                                  572,803
                                                                                  
                                                                                  
                                                                                  
                                                                                  2,573,601
                                                                                  
                                                                                  
                                                                                  
                                                                                  757,471
                                                                                  
                                                                                  
                                                                                  
                                                                                  3,903,875Long-lived
      assets
                                                                                  
                                                                                  
                                                                                  5,382,068
                                                                                  
                                                                                  
                                                                                  
                                                                                  13,775,100
                                                                                  
                                                                                  
                                                                                  
                                                                                  236,630
                                                                                  
                                                                                  
                                                                                  
                                                                                  19,393,798Total
      assets
                                                                                  
                                                                                  
                                                                                  16,256,335
                                                                                  
                                                                                  
                                                                                  
                                                                                  31,596,294
                                                                                  
                                                                                  
                                                                                  
                                                                                  6,312,278
                                                                                  
                                                                                  
                                                                                  
                                                                                  54,164,907Capital
      expenditures
                                                                                  
                                                                                  
                                                                                  218,206
                                                                                  
                                                                                  
                                                                                  
                                                                                  520,252
                                                                                  
                                                                                  
                                                                                  
                                                                                  21,868
                                                                                  
                                                                                  
                                                                                  
                                                                                  760,326




Geographical
segment information is summarized as follows:




69


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





Year
      Ended December 31, 2009
                
                United
      States
                
                
                Canada
                
                
                Europe
                
                
                Other
                
                
                Consolidated
                  TotalNet
      sales to external customers
                
                $
                33,177,678
                
                
                $
                3,277,734
                
                
                $
                2,430,864
                
                
                $
                1,990,058
                
                
                $
                40,876,334Gross
      profit
                
                
                9,042,543
                
                
                
                776,032
                
                
                
                1,111,925
                
                
                
                921,208
                
                
                
                11,851,707Operating
      income (loss)
                
                
                (7,595,421
                )
                
                
                187,609
                
                
                
                213,459
                
                
                
                176,261
                
                
                
                (7,018,092
                )Provision
      for impairment
                
                
                5,722,426
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                5,722,426Depreciation
      of property and equipment and amortization of identifiable intangible
      assets
                
                
                2,573,583
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                2,573,583Long-lived
      assets
                
                
                16,507,797
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                16,507,797Total
      assets
                
                
                44,009,563
                
                
                
                –
                
                
                
                272,354
                
                
                
                –
                
                
                
                44,281,917Capital
      expenditures
                
                
                700,889
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                700,889





Year
      Ended December 31, 2008
                
                United
      States
                
                
                Canada
                
                
                Europe
                
                
                Other
                
                
                Consolidated
                  TotalNet
      sales to external customers
                
                $
                36,752,558
                
                
                $
                1,848,966
                
                
                $
                5,172,888
                
                
                $
                1,286,736
                
                
                $
                45,061,148Gross
      profit
                
                
                9,815,108
                
                
                
                407,542
                
                
                
                2,331,749
                
                
                
                524,770
                
                
                
                13,079,169Operating
      income (loss)
                
                
                (9,724,036
                )
                
                
                29,114
                
                
                
                827,285
                
                
                
                171,206
                
                
                
                (8,696,431
                )Provision
      for impairment
                
                
                5,700,000
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                5,700,000Depreciation
      of property and equipment and amortization of identifiable intangible
      assets
                
                
                3,903,875
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                3,903,875Long-lived
      assets
                
                
                19,393,798
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                19,393,798Total
      assets
                
                
                53,797,296
                
                
                
                –
                
                
                
                367,611
                
                
                
                –
                
                
                
                54,164,907Capital
      expenditures
                
                
                760,326
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                760,326





Export sales from the Company’s
United States operations accounted for approximately 19% and 18% of net sales
for the years ended December 31, 2009 and 2008, respectively.





(17)
Retirement Plan




The
Company has a defined contribution retirement and savings plan (the “401(k)
Plan”) designed to qualify under Section 401(k) of the Internal Revenue Code
(the “Code”). Eligible employees include those who are at least twenty-one years
old and who have worked at least 1,000 hours during any one year. The Company
may make matching contributions in amounts that the Company determines at its
discretion at the beginning of each year. In addition, the Company may make
further discretionary contributions. Participating employees are immediately
vested in amounts attributable to their own salary or wage reduction elections,
and are vested in Company matching and discretionary contributions under a
vesting schedule that provides for ratable vesting over the second through sixth
years of service. The assets of the 40l (k) Plan are invested in stock, bond and
money market mutual funds. For the years ended December 31, 2009 and 2008, the
Company made contributions totaling $8,774 and $88,314, respectively, to the
401(k) Plan.




(18)
Income Taxes




The
components of net income (loss) before the provision for (benefit from) income
taxes are as follows:




2009
                      
                      
                      2008Domestic
      operations
                      
                      $
                      (9,481,873
                      )
                      
                      $
                      (11,193,083
                      )Foreign
      operations
                      
                      
                      (41,020
                      )
                      
                      
                      294,180$
                      (9,522,893
                      )
                      
                      $
                      (10,898,903
                      )


70


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




The
provision for (benefit from) income taxes is comprised of the
following:




Years
      Ended December 31,2009
                  
                  
                  2008Current:Federal
                  
                  $
                  —
                  
                  
                  $
                  —State
                  
                  
                  31,223
                  
                  
                  
                  42,231Foreign
                  
                  
                  —
                  
                  
                  
                  —31,223
                  
                  
                  
                  42,231Deferred:Federal
                  
                  
                  (913,920
                  )
                  
                  
                  311,986State
                  
                  
                  (161,280
                  )
                  
                  
                  55,056Foreign
                  
                  
                  —
                  
                  
                  
                  —(1,075,200
                  )
                  
                  
                  367,042$
                  (1,043,977
                  )
                  
                  $
                  409,273




As of
December 31, 2009, the Company has net Federal and state tax operating loss
carryforwards of approximately $21,700,000, which may be applied against future
taxable income and which expire from 2010 through 2029.  Future
utilization of these net operating loss carryforwards will be limited under
existing tax law due to the change in control of the Company in
2001.




The
following is a summary of deferred tax assets and liabilities:




December
      31,2009
                  
                  
                  2008Current
      assets:Accounts
      receivable
                  
                  $
                  121,698
                  
                  
                  $
                  62,980Stock
      options
                  
                  
                  660,703
                  
                  
                  
                  654,379Inventory
      reserves
                  
                  
                  456,037
                  
                  
                  
                  488,329Accrued
      expenses and other
                  
                  
                  25,495
                  
                  
                  
                  25,7841,263,933
                  
                  
                  
                  1,231,472Non-current
      assets:Capital
      lease
                  
                  
                  611,300
                  
                  
                  
                  642,029Intangible
      assets
                  
                  
                  268,885
                  
                  
                  
                  186,602Net
      operating loss carryforwards
                  
                  
                  9,183,420
                  
                  
                  
                  8,449,506Other
                  
                  
                  12,082
                  
                  
                  
                  9,54310,075,687
                  
                  
                  
                  9,287,680Valuation
      allowances
                  
                  
                  (7,492,719
                  )
                  
                  
                  (6,944,138
                  )Non-current
      liabilities:Property
      and equipment
                  
                  
                  (983,082
                  )
                  
                  
                  (1,128,333
                  )Goodwill
      and Trade Names
                  
                  
                  (3,561,827
                  )
                  
                  
                  (4,219,891
                  )(4,544,909
                  )
                  
                  
                  (5,348,224
                  )Net
      deferred tax liabilities
                  
                  $
                  (698,010
                  )
                  
                  $
                  (1,773,210
                  )




The
impairment of goodwill and the customer list of Twincraft during 2009 and 2008
resulted in approximately $400,000 and $960,000 of decreases in deferred tax
liabilities, respectively.  These deferred tax liabilities resulted in
a corresponding reduction to the tax valuation allowance relating to the
Company’s net deferred tax assets.




71


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




The
Company’s provision for income taxes differs from the Federal statutory rate.
The reasons for such differences are as follows:




Years
      Ended December 31,2009
                    
                    
                    2008Amount
                    
                    
                    %
                    
                    
                    Amount
                    
                    
                    %Provision
      at Federal statutory rate
                    
                    $
                    (3,237,215
                    )
                    
                    
                    (34.0
                    )
                    
                    $
                    (3,705,627
                    )
                    
                    
                    (34.0
                    )Other
      permanent items
                    
                    
                    1,689,796
                    
                    
                    
                    20.2
                    
                    
                    
                    3,067,887
                    
                    
                    
                    11.2Increase
      (decrease) in taxes resulting from:State
      income tax expense, net of federal benefit
                    
                    
                    (85,838
                    )
                    
                    
                    (1.3
                    )
                    
                    
                    97,287
                    
                    
                    
                    0.9Expiration
      of NOL’s
                    
                    
                    139,368
                    
                    
                    
                    1.7
                    
                    
                    
                    250,626
                    
                    
                    
                    2.3Effect
      of foreign operations
                    
                    
                    13,947
                    
                    
                    
                    0.2
                    
                    
                    
                    (100,021
                    )
                    
                    
                    (0.9
                    )Change
      in valuation allowance
                    
                    
                    466,295
                    
                    
                    
                    0.7
                    
                    
                    
                    799,121
                    
                    
                    
                    24.2Other
                    
                    
                    (30,330
                    )
                    
                    
                    (0.5
                    )
                    
                    
                    —
                    
                    
                    
                    —Provision
      (benefit) for Income Taxes
                    
                    $
                    (1,043,977
                    )
                    
                    
                    (13.0
                    )%
                    
                    $
                    409,273
                    
                    
                    
                    3.7
                    %




The Other
Permanent items primarily relate to the write-off of $4,722,426 and $3,300,000
of goodwill during the years ended December 31, 2009 and 2008,
respectively.




The
Company does not provide for income taxes on the unremitted earnings of foreign
subsidiaries where, in management’s opinion, such earnings have been
indefinitely reinvested in those operations or will be remitted as dividends
with taxes substantially offset by foreign tax credits, which are immaterial. It
is not practical to determine the amount of unrecognized deferred tax
liabilities for temporary differences related to these investments.




In 2009,
the Company recognized a deferred income tax benefit of $1,075,000 resulting
from the reversal of a previously established tax valuation allowance which is
no longer required due to the change in the useful life of the Silipos tradename
from an indefinite life to a useful life of approximately 18 years effective
January 1, 2009.




The
Company adopted FASB ASC 740-10 effective January 1, 2007, wherein tax benefits
are recognized only for tax positions that are more likely than not to be
sustained upon examination by tax authorities.  The amount recognized
is measured as the largest amount of benefit that is greater than 50% likely to
be realized upon ultimate settlement.




At
December 31, 2009, the Company did not have any unrecognized tax
benefits.  The year subject to potential audit varies depending on the
tax jurisdiction.  Generally, the Company’s statutes are open for tax
years ended December 31, 2006 and forward.  The Company’s major taxing
jurisdictions include the United States, Vermont, and New York
State.




(19)
Reconciliation of Basic and Diluted Loss Per Share




Basic
loss per common share (“EPS”) is computed based on the weighted average number
of common shares outstanding during each period. Diluted loss per common share
is computed based on the weighted average number of common shares, after giving
effect to dilutive common stock equivalents outstanding during each period. The
diluted loss per share computations for the years ended December 31, 2009 and
2008 exclude approximately 1,728,000 shares, related to employee stock options
because the effect of including them would be anti-dilutive. The impact of the
5% Convertible Notes on the calculation of the fully-diluted earnings per share
was anti-dilutive and is therefore not included in the computation for the years
ended December 31, 2009 and 2008.


72


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS




(20)
Related Party Transactions




5% Convertible Subordinated
Notes.   On December 8, 2006, the Company sold $28,880,000 of the
Company’s 5% Convertible Notes due December 7, 2011 (the “5% Convertible Notes”)
in a private placement. The number of shares of common stock issuable on
conversion of the 5% Convertible Notes, as of December 31, 2009, is 6,195,165,
and the conversion price as of such date was $4.6617. The number of shares and
conversion price are subject to adjustment in certain circumstances. During the
year ended December 31, 2008, the Company’s Chairman of the Board of Directors,
and largest beneficial shareholder, Warren B. Kanders, purchased $3,250,000,
President and CEO, W. Gray Hudkins, and CFO and COO, Kathleen P. Bloch, each
purchased $250,000 of the Company’s 5% Convertible Notes from certain previous
debt holders. Mr. Kanders and trusts controlled by Mr.
Kanders  (as trustee for members of his family) own $5,250,000 of the
5% Convertible Notes, and one director, Stuart P. Greenspon, owns $150,000 of
the 5% Convertible Notes.  On September 29, 2008, an affiliate of Mr.
Kanders entered into letter agreements with Mr. Hudkins and Ms. Bloch pursuant
to which they agreed (i) not to sell, transfer, pledge, or otherwise dispose of
or convert into common stock, any portion of the 5% Convertible Notes
respectively owned by them, and (ii) to cast all votes which they respectively
may cast with respect to any shares of common stock underlying the 5%
Convertible Notes in the same manner and proportion as shares of common stock
voted by Mr. Kanders and his affiliates.




Common Stock PurchasesDuring
the year ended December 31, 2009, Warren B. Kanders, the Company’s Chairman of
the Board of Directors, acquired 52,837 shares at a cost of $30,793, which
represents an average cost of $0.58 per share.  In addition, on
September 30, 2009, Mr. Kanders exercised a warrant to purchase 15,000 shares of
the Company’s common stock at a cost of $0.02 per share.  During the
year ended December 31, 2009, Peter A. Asch, President of Twincraft as well as
one of the Company’s directors, acquired 58,037 shares at a cost of $33,913,
which represents an average cost of $0.58 per share.  Also, on
September 30, 2009, funds controlled by Wynnefield Capital Management, LLC
exercised stock warrants to purchase an aggregate of 45,000 shares of common
stock at a cost of $0.02 per share.




(21)
Litigation




On or
about February 13, 2006, Dr. Gerald P. Zook filed a demand for arbitration with
the American Arbitration Association, naming the Company and Silipos as two of
the sixteen respondents.  (Four of the other respondents are the
former owners of Silipos and its affiliates, and the other ten respondents are
unknown entities.)  The demand for arbitration alleged that the
Company and Silipos were in default of obligations to pay royalties in
accordance with the terms of a license agreement between Dr. Zook and Silipos
dated as of January 1, 1997, with respect to seven patents owned by Dr. Zook and
licensed to Silipos.  Silipos has paid royalties to Dr. Zook, but Dr.
Zook claimed that greater royalties were owed.  Silipos vigorously
disputed any liability and contested his theory of damages. Dr. Zook agreed to
drop PC Group, Inc. (then known as Langer, Inc.), but not Silipos, from the
arbitration, without prejudice. Arbitration hearings were conducted on February
2-6, 2009 at which time Dr. Zook sought almost $1 million in damages and a
declaratory judgment with respect to royalty reports.  On June 4,
2009, the arbitrator issued a decision denying and dismissing all claims of Dr.
Zook and entitling Silipos to recover its reasonable attorneys’ fees in
connection with the arbitration.  On August 17, 2009, the arbitrator issued
a final award dismissing all claims of Dr. Zook and awarding Silipos
approximately $256,000 in attorneys’ fess with simple interest at 9% per annum
accruing from October 1, 2009.  Silipos made a motion in the New York
County Supreme Court to confirm the arbitration award.  On December
22, 2009, the New York County Supreme Court entered a judgment confirming the
arbitration award in the amount of $262,191 and the time for appealing the
judgment has since expired.  The Company recorded a receivable and
reduced legal expenses in the amount of the award, and the receivable is being
reduced each month by the amount of royalties earned by Dr. Zook under the
license agreement.





The
Company received a letter from Langer Biomechanics, Inc. f/k/a Langer
Acquisition Corp. (“Langer Biomechanics”) dated September 17, 2009, alleging the
breach by the Company of certain representations and warranties contained in the
Asset Purchase Agreement dated October 24, 2008 between the Company and Langer
Biomechanics (the “Asset Purchase Agreement”), related to the sale of the assets
and liabilities of the Company’s former Langer branded custom orthotics and
related products business.  No damages were alleged by Langer
Biomechanics at the time.  As a result of Langer Biomechanics’
allegation, a receivable in the amount of $237,500 that was scheduled to be
released to the Company from escrow on October 24, 2009, continued to be held in
escrow in accordance with the terms of the Escrow Agreement dated October 24,
2008, by and among the Company, Langer Biomechanics, and The Bank of New York
Mellon.  On February 18, 2010, Langer Biomechanics filed a formal
claim of indemnification.  However, since the alleged damages were
below the alleged indemnification threshold in the Asset Purchase Agreement,
Langer Biomechanics agreed to release the remaining amount being held in
escrow.  On March 1, 2010, the remaining escrow balance was released
and received by the Company.


73


PC
GROUP INC. AND SUBSIDIARIES





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





Additionally,
in the normal course of business, the Company may be subject to claims and
litigation in the areas of general liability, including claims of employees, and
claims, litigation or other liabilities as a result of acquisitions completed.
The results of legal proceedings are difficult to predict and the Company cannot
provide any assurance that an action or proceeding will not be commenced against
the Company or that the Company will prevail in any such action or
proceeding.




An unfavorable resolution of any legal
action or proceeding could materially adversely affect the market price of the
Company’s common stock and its business, results of operations, liquidity, or
financial condition.




(22)
Stock Repurchase Plan




The Company purchased 969,103 shares of
its common stock at prices ranging from $0.38 to $0.60 during the period from
January 1, 2009 to April 15, 2009.  The stock repurchase program was
terminated effective April 15, 2009, which was the expiration date of waiver
received from Wachovia Bank, N. A. that would have otherwise precluded the
Company from making such repurchases under the terms of its Credit
Facility  (as such term is defined in Note 11).  As of
December 31, 2009, the Company held 3,799,738 shares, reflected as treasury
shares on the consolidated balance sheet, at a cost of $2,962,049.




74




PC
GROUP, INC. AND SUBSIDIARIES





Item
9.  Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure





Nothing
to report.





Item
9A(T). Controls and Procedures





Disclosure
Controls and Procedures





The
Company’s management, including its Chief Executive Officer (“CEO”) and Chief
Financial Officer (“CFO”), has evaluated the effectiveness of the Company’s
disclosure controls and procedures, as such term is defined in Rules 13a-15(e)
and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the
“Exchange Act”) as of December 31, 2009.  Based on that evaluation,
the Company’s CEO and CFO have concluded that the Company’s disclosure controls
and procedures are effective in recording, processing, summarizing and
reporting, within the time periods specified in the SEC’s rules and forms,
information required to be disclosed by the Company in the reports it files or
submits under the Exchange Act, and in ensuring that information required to be
disclosed is in the reports that the Company files or submits under the Exchange
Act is collected and conveyed to the Company’s management, including its CEO and
CFO, to allow timely decisions to be made regarding required
disclosure.





Management’s
Report on Internal Control Over Financial Reporting





The
Company’s management is responsible for establishing and maintaining adequate
control over financial reporting, as such term defined in Exchange Act Rules
13a-13(f) and 15d-15(f). The Company performed an evaluation, under supervision
and with participation of the Company’s management, including its CEO and CFO,
of the effectiveness of the Company’s internal control over financial reporting
based on the framework in Internal Control-Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway
Commission.  Based on that evaluation, the CEO and CFO concluded that
the Company’s internal control over financial reporting was effective as of
December 31, 2009.





This
annual report does not include an attestation report of the Company’s
independent registered public accounting firm regarding internal control over
financial reporting.  Management’s report was not subject to
attestation by the Company’s independent registered public accounting firm
pursuant to temporary rules of the Securities and Exchange Commission that
permits the Company to provide only management’s report in this annual
report.





Changes
in Internal Control over Financial Reporting





There
have been no changes in the Company’s internal control over financial reporting
during the most recent quarter that have materially affected, or are reasonably
likely to materially affect, the Company’s internal control over financial
reporting.


75




PART
III
  Item
10. Directors, Executive Officers and Corporate Governance
  The
Company has adopted a code of ethics that applies to its Chief Executive Officer
and Chief Financial Officer, who are the Company’s principal executive officer
and principal financial and accounting officer, and to all of its other
officers, directors and managerial employees. The code of ethics may be accessed
at www.pcgrpinc.com, our
Internet website, at the tab “About our Company—Corporate Governance”. The
Company intends to disclose future amendments to, or waivers from, certain
provision of its code of ethics, if any, on the above website within four
business days following the date of such amendment or waiver.
  The other
information required by Item 10 appearing under the caption “Election of
Directors”, “Executive Officers”, “Governance of the Company” and “Section 16(a)
Beneficial Ownership Reporting Compliance” in the proxy statement to be
distributed by the Board of Directors of the Company in connection with the 2010
Annual Meeting of Stockholders, which is expected to be filed on or before April
30, 2010, is incorporated herein by reference.
  Item
11. Executive Compensation
  The
information required by Item 11 appearing under the caption “Executive
Compensation” of the Company’s proxy statement for the 2010 Annual Meeting of
Stockholders, which is expected to be filed on or before April 30, 2010, is
incorporated herein by reference.
  Item
12. Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters
  The
information required by Item 12 appearing under the caption “Security Ownership
of Certain Beneficial Owners and Management and Related Stockholder Matters” of
the Company’s proxy statement for the 2010 Annual Meeting of Stockholders, which
is expected to be filed on or before April 30, 2010, is incorporated herein by
reference.
  Item
13. Certain Relationships and Related Transactions, and Director
Independence
  The
information required by Item 13 appearing under the caption “Certain
Relationships and Related Transactions, and Director Independence” of the
Company’s proxy statement for the 2010 Annual Meeting of the Stockholders, which
is expected to be filed on or before April 30, 2010, is incorporated herein by
reference.
  Item
14. Principal Accounting Fees and Services
  The
information required by Item 14 appearing under the caption “Principal
Accounting Fees and Services” of the Company’s proxy statement for the 2010
Annual Meeting of the Stockholders, which is expected to be filed on or before
April 30, 2010, is incorporated herein by reference.
  76
  PART
IV
  Item
15. Exhibits and Financial Statement Schedules
  1.
Financial Statements
  For a
list of the financial statements of the Company included in this report, please
see the Index to Consolidated Financial Statements appearing at the beginning of
Item 8, Financial Statements.
  2.
Exhibits
  Exhibit
                                            No.
                                          
                                          Description of Exhibit3.1
                                          
                                          Agreement
      and Plan of Merger dated as of May 15, 2002, between Langer, Inc., a New
      York corporation, and Langer, Inc., a Delaware corporation (the surviving
      corporation), incorporated herein by reference to Appendix A of our
      Definitive Proxy Statement for the Annual Meeting of Stockholders held on
      June 27, 2002, filed with the Securities and Exchange Commission on May
      31, 2002.3.2
                                          
                                          Certificate
      of Incorporation, incorporated herein by reference to Appendix B of our
      Definitive Proxy Statement for the Annual Meeting of Stockholders held on
      June 27, 2002, filed with the Securities and Exchange Commission on May
      31, 2002.3.3
                                          
                                          Certificate
      of Amendment to the Certificate of Incorporation, incorporated herein by
      reference to Exhibit 31 of the Company’s Current Report on Form 8-K filed
      on July 28, 2009.3.4
                                          
                                          By-laws,
      incorporated herein by reference to Appendix C of our Definitive Proxy
      Statement for the Annual Meeting of Stockholders held on June 27, 2002,
      filed with the Securities and Exchange Commission on May 31,
      2002.4.1
                                          
                                          Specimen
      of Common Stock Certificate, incorporated herein by reference to our
      Registration Statement of Form S-1 (File No. 2- 87183).10.1†+
                                          
                                          Consulting
      Agreement between Langer, Inc. and Kanders & Company, Inc., dated
      November 12, 2004.10.2+
                                          
                                          Option
      Agreement between Langer, Inc. and Kanders & Company, Inc., dated
      February 13, 2001, incorporated herein by reference to Exhibit (d)(1)(G)
      to the Schedule TO (File Number 005-36032).10.3
                                          
                                          Registration
      Rights Agreement between Langer, Inc. and Kanders & Company, Inc.,
      dated February 13, 2001, incorporated herein by reference to Exhibit
      (d)(1)(I) to the Schedule TO (File Number 005-36032).10.4
                                          
                                          Indemnification
      Agreement between Langer, Inc. and Kanders & Company, Inc., dated
      February 13, 2001, incorporated herein by reference to Exhibit (d)(1)(J)
      to the Schedule TO (File Number 005-36032).10.5+
                                          
                                          The
      Company’s 2001 Stock Incentive Plan incorporated herein by reference to
      Exhibit 10.18 of our Annual Report on Form 10-K for the fiscal year ended
      December 31, 2001.10.6
                                          
                                          Langer
      Group Retirement Plan, restated as of July 20, 1979 incorporated by
      reference to our Registration Statement of Form S-1 (File No.
      2-87183).10.7
                                          
                                          Agreement,
      dated March 26, 1992, and effective as of March 1, 1992, relating to our
      401(k) Tax Deferred Savings Plan, incorporated by reference to our Form
      10-K for the fiscal year ended February 29,
  1992.
  77
 
 Exhibit
                                                  No.
                                                
                                                Description of Exhibit10.8
                                                
                                                Registration
      Rights Agreement, dated May 6, 2002, among Langer, Inc., Benefoot, Inc.,
      Benefoot Professional Products, Inc., and Dr. Sheldon Langer, incorporated
      herein by reference to Exhibit 10.1 of our Current Report on Form 8-K,
      filed with the Securities and Exchange Commission on May 13,
      2002.10.9
                                                
                                                Stock
      Purchase Agreement, dated as of September 22, 2004, by and among Langer,
      Inc., LRC North America, Inc., SSL Holdings, Inc., and Silipos, Inc.,
      incorporated herein by reference to Exhibit 2.1 of our Current Report on
      Form 8-K filed with the Securities and Exchange Commission on October 6,
      2004.10.10
                                                
                                                Note
      and Warrant Purchase Agreement, dated September 30, 2004, by and among
      Langer, Inc., and the investors named therein, incorporated herein by
      reference to Exhibit 4.1 of our Current Report on Form 8-K filed with the
      Securities and Exchange Commission on October 6, 2004.10.11
                                                
                                                Form
      of Warrant to purchase shares of the common stock of Langer, Inc.,
      incorporated herein by reference to Exhibit 4.3 of our Current Report on
      Form 8-K filed with the Securities and Exchange Commission on October 6,
      2004.10.12†+
                                                
                                                Stock
      Option Agreement between Langer, Inc. and W. Gray Hudkins, dated November
      12, 2004.10.13†+
                                                
                                                Restricted
      Stock Agreement between Langer, Inc. and W. Gray Hudkins, dated November
      12, 2004.10.14†
                                                
                                                Stock
      Option Agreement between Langer, Inc. and Kanders & Company, Inc.
      dated November 12, 2004.10.15†
                                                
                                                Patent
      License Agreement, including amendment no. 1 thereto, between Applied
      Elastomerics, Inc. and SSL Americas, Inc., dated effective November 30,
      2001, incorporated herein by reference to Exhibit 10.41 of our Annual
      Report on Form 10-K for the year ended December 31, 2004, filed with the
      Securities and Exchange Commission on March 30, 2005.10.16
                                                
                                                Assignment
      and Assumption Agreement, dated as of September 30, 2004, by and between
      SSL Americas, Inc. and Silipos, Inc., incorporated herein by reference to
      Exhibit 10.42 of our Annual Report on Form 10-K for the year ended
      December 31, 2004, filed with the Securities and Exchange Commission on
      March 30, 2005.10.17
                                                
                                                License
      Agreement, dated as of January 1, 1997, by and between Silipos, Inc. and
      Gerald P. Zook, incorporated herein by reference to Exhibit 10.43 of our
      Annual Report on Form 10-K for the year ended December 31, 2004, filed
      with the Securities and Exchange Commission on March 30,
    2005.10.18
                                                
                                                Copy
      of Sublease between Calamar Enterprises, Inc. and Silipos, Inc., dated May
      21, 1998; First Amendment to Sublease between Calamar Enterprises, Inc.
      and Silipos, Inc., dated July 15, 1998; and Second Amendment to Sublease
      between Calamar Enterprises, Inc. and Silipos, Inc., dated March 1, 1999,
      incorporated herein by reference to Exhibit 10.45 of our Annual Report on
      Form 10-K for the year ended December 31, 2004, filed with the Securities
      and Exchange Commission on March 30, 2005.10.20
      +
                                                
                                                Form
      of Amendment to Stock Option Agreement, incorporated herein by reference
      to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on
      December 27, 2005.10.21 +
                                                
                                                Form
      of Amendment to Restricted Stock Award Agreement, incorporated herein by
      reference to Exhibit 10.2 of the Company’s Current Report on Form 8-K
      filed on December 27,
2005.
  78
 
 Exhibit
                                              No.
                                            
                                            Description of Exhibit10.22
                                            
                                            Form
      of Note Purchase Agreement dated as of December 7, 2006, among the Company
      and the purchasers of the Company’s 5% Convertible Notes Due December 7,
      2011, including letter amendment dated as of December 7, 2006, without
      exhibits, incorporated herein by reference to Exhibit 10.1 of the
      Company’s Current Report on Form 8-K filed on December 14,
      2006.10.23
                                            
                                            Form
      of the Company’s 5% Convertible Note Due December 7, 2011, incorporated
      herein by reference to Exhibit 10.2 of the Company’s Current Report on
      Form 8-K filed on December 14, 2006.10.24
                                            
                                            Registration
      Rights Agreement dated as of January 23, 2007, by and between the Company,
      Peter A. Asch, Richard D. Asch, A. Lawrence Litke, and Joseph M. Candido,
      incorporated herein by reference to Exhibit 10.1 of the Company’s Current
      Report on Form 8-K filed on January 29, 2007.10.25 +
                                            
                                            Employment
      Agreement dated January 23, 2007, between Twincraft, Inc. and Peter A.
      Asch, incorporated herein by reference to Exhibit 10.2 of the Company’s
      Current Report on Form 8-K filed on January 29, 2007.10.26+
                                            
                                            Employment
      Agreement dated January 23, 2007, between Twincraft, Inc. and A. Lawrence
      Litke, incorporated herein by reference to Exhibit 10.3 of the Company’s
      Current Report on Form 8-K filed on January 29, 2007.10.27+
                                            
                                            Employment
      Agreement dated January 23, 2007, between Twincraft, Inc. and Richard
      Asch, incorporated herein by reference to Exhibit 10.4 of the Company’s
      Current Report on Form 8-K filed on January 29, 2007.10.28+
                                            
                                            Consulting
      Agreement dated January 23, 2007, between Twincraft, Inc. and Fifth
      Element LLC, incorporated herein by reference to Exhibit 10.5 to the
      Company’s Current Report on Form 8-K filed on January 29,
      2007.10.29
                                            
                                            Lease
      Agreement dated January 23, 2007, between Twincraft, Inc. and Asch
      Partnership, incorporated herein by reference to Exhibit 10.6 to the
      Company’s Current Report on Form 8-K filed on January 29,
      2007.10.30
                                            
                                            Lease
      dated October 1, 2003 and as amended January 23, 2006, between Twincraft,
      Inc. and Asch Enterprises, LLC, incorporated herein by reference to
      Exhibit 10.7 to the Company’s Current Report on Form 8-K filed on January
      29, 2007.10.31
                                            
                                            Stock
      Purchase Agreement dated as of November 14, 2006, by and among Langer,
      Inc., Peter A. Asch, Richard D. Asch, A. Lawrence Litke, and Joseph M.
      Candido, incorporated herein by reference to Exhibit 10.8 to the Company’s
      Current Report on Form 8-K filed on January 29, 2007.10.32
                                            
                                            Loan
      and Security Agreement dated as of May 11, 2007, between Wachovia Bank,
      National Association, and Langer, Inc., Silipos, Inc., Regal Medical,
      Inc., and Twincraft, Inc., incorporated herein by reference to Exhibit
      10.1 to the Company’s Current Report on Form 8-K filed on May 15,
      2007.10.33 +
                                            
                                            Employment
      Agreement dated as of July 26, 2007, between the Company and Kathleen P.
      Bloch, incorporated herein by reference to Exhibit 10.1 to the Company’s
      Current Report on Form 8-K filed on July 27, 2007.10.34 +
                                            
                                            Employment
      Agreement dated as of October 1, 2007, between the Company and W. Gray
      Hudkins, incorporated herein by reference to Exhibit 10.1 to the Company’s
      Current Report on Form 8-K filed on October 12,
  2007.
  79
  
 Exhibit
                                                No.
                                              
                                              Description of Exhibit10.35
                                              
                                              Amendment
      dated June 21, 2007, to Loan and Security Agreement dated as of May 11,
      2007, between Wachovia Bank, National Association, and Langer, Inc.,
      Silipos, Inc., Regal Medical, Inc., and Twincraft,
      Inc.,  incorporated herein by reference to Exhibit 10.63 to our
      Annual Report on Form 10-K for the year ended December 31, 2007, filed on
      March 31, 2008.10.36
                                              
                                              Amendment
      No. 2 dated as of October 1, 2007, to Loan and Security Agreement dated as
      of May 11, 2007, between Wachovia Bank, N.A., and Langer, Inc., Silipos,
      Inc., Regal Medical, Inc., and Twincraft, Inc., incorporated herein by
      reference to Exhibit 10.64 to our Annual Report on Form 10-K for the year
      ended December 31, 2007, filed on March 31, 2008.10.37
                                              
                                              Form
      of Indemnification Agreement between the Company and its executive
      officers and directors, incorporated herein by reference to Exhibit 10.65
      to our Annual Report on Form 10-K for the year ended December 31, 2007,
      filed on March 31, 2008.10.38
                                              
                                              Amendment
      No. 3 dated as of April 16, 2008, to Loan and Security Agreement dated as
      of May 11, 2007, between Wachovia Bank, N.A., and Langer, Inc., Silipos,
      Inc., Regal Medical, Inc., and Twincraft, Inc., incorporated herein by
      reference to Exhibit 10.1 to our Current Report on Form 8-K, filed on
      April 18, 2008.10.39
                                              
                                              Form
      of Sublease between the Langer, Inc. as undertenant and Smile Train, Inc.,
      as overtenant with respect to premises at 245 Fifth Avenue, New York,
      N.Y., incorporated herein by reference to Exhibit 10.1 to our Current
      Report on Form 8-K, filed on May 7, 2008.10.40
                                              
                                              Sale
      Agreement dated June 11, 2008, among Langer, Inc., as seller and Messrs.
      John Shero, Carl David Ray, and Ryan Hodge, as purchasers with respect to
      the outstanding membership interests in Regal Medical Supply, LLC.,
      incorporated herein by reference to Exhibit 2.1 to our Current Report on
      Form 8-K, filed on June 17, 2008.10.41
                                              
                                              Share
      Purchase Agreement, dated as of July 31, 2008, by and among Langer Canada,
      Inc. and 9199-9200 Quebec, Inc., incorporated herein by reference to
      Exhibit 2.1 to our Current Report on Form 8-K, filed on August
      1,  2008.10.42
                                              
                                              Amendment
      No. 4 dated October 24, 2008, to Loan and Security Agreement dated May 11,
      2007, between Wachovia Bank, National Association, Langer, Inc., Silipos,
      Inc., Regal Medical, Inc., and Twincraft, Inc., incorporated herein by
      reference to Exhibit 10.1 to our Current Report on Form 8-K, filed on
      October 30, 2008.10.43
                                              
                                              Asset
      Purchase Agreement dated as October 24, 2008, by and between Langer, Inc.,
      and Langer Acquisition Corp.,  incorporated herein by reference
      to Exhibit 2.1 to our Current Report on Form 8-K, filed on October 30,
      2008.21.1
                                              
                                              Subsidiaries
      of the Registrant.23.1
                                              
                                              Consent
      of BDO Seidman, LLP.31.1
                                              
                                              Rule
      13a-14(a)/15d-14(a) Certification by Principal Executive
      Officer.31.2
                                              
                                              Rule
      13a-14(a)/15d-14(a) Certification by Principal Financial
      Officer.32.1
                                              
                                              Section
      1350 Certification by Principal Executive
  Officer.
  80
 
 Exhibit
                      No.
                    
                    Description of Exhibit32.2
                    
                    Section
      1350 Certification by Principal Financial
  Officer.
 
 
 †
              Incorporated
      herein by reference to our Registration Statement on Form S-1 (File No.
      333-120718) filed with the Securities and Exchange Commission on November
      23, 2004.
  +
              This
      exhibit represents a management contract or compensation
    plan.
  81
 
 SIGNATURES
  Pursuant
to the requirements of Section l3 or l5(d) of the Securities Exchange Act of
l934, the registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.
  PC
      GROUP, INC.Date:
      March 18, 2010
                    
                    By:
                    /s/ W. GRAY HUDKINSW.
      Gray HudkinsPresident
      and Chief Executive Officer
                      (Principal
      Executive Officer)Date:
      March 18, 2010
                    
                    By:
                    /s/ KATHLEEN P. BLOCHKathleen
      P. BlochVice
      President , Chief Operating Officerand
      Chief Financial Officer
                      (Principal
      Financial
Officer)
  Pursuant
to the requirements of the Securities Exchange Act of l934, this report has been
signed below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
  Date:
      March 18, 2010
                    
                    By:
                    /s/ WARREN B. KANDERSWarren
      B. KandersDirectorDate:
      March 18, 2010
                    
                    By:
                    /s/ PETER A. ASCHPeter
      A. AschDirectorDate:
      March 18, 2010
                    
                    By:
                    /s/ STEPHEN M. BRECHERStephen
      M. BrecherDirectorDate:
      March 18, 2010
                    
                    By:
                    /s/ BURTT R. EHRLICHBurtt
      R. EhrlichDirectorDate:
      March 18, 2010
                    
                    By:
                    /s/ STUART P. GREENSPONStuart
      P. GreensponDirectorDate:
      March 18, 2010
                    
                    By:
                    /s/ DAVID S. HERSHBERGDavid
      S. HershbergDirectorDate:
      March 18, 2010
                    
                    By:
                    /s/ W. GRAY HUDKINSW.
      Gray HudkinsDirector
  
  EXHIBIT
LIST
  Exhibit
                                No.
                              
                              Description of Exhibit21.1
                              
                              Subsidiaries23.1
                              
                              Consent
      of Independent Registered Public Accounting Firm31.1
                              
                              Certification
      of Principal Executive Officer31.2
                              
                              Certification
      of Principal Financial Officer32.1
                              
                              Certification
      of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, as
      adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
      200232.2
                              
                              Certification
      of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350, as
      adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
      2002