UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C. 20549





FORM
10-Q





x QUARTERLY REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934





For the
quarterly period ended September
30, 2009





or





 ̈ TRANSITION REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934





For the
transition period from _____to______





Commission
File Number 1-4436





THE
STEPHAN CO.


(Exact
name of registrant as specified in its charter)





Florida
            59-0676812(State
      or other jurisdiction of incorporation or organization)
            (IRS
      Employer Identification No.)





1850 West
McNab Road, Fort Lauderdale, Florida 33309


(Address
of principal executive offices)(Zip Code)





Registrant’s
telephone number, including area code: (954) 971-0600





Former
name, former address and former fiscal year, if changed since last report: not
applicable.





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 xNO  ̈





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 definitions of "large accelerated filer,” “accelerated
filer" and “smaller reporting company” in Rule 12b-2 of the Exchange
Act.





Large accelerated filer  ̈
              Accelerated filer  ̈
              Non-accelerated filer  ̈
              Smaller reporting company x(Do not check if a smaller reporting company)





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





Indicate
the number of shares outstanding of each of the registrant’s classes of common
stock, as of the latest practicable date:





4,252,675
shares of common stock, $0.01 par value, as of November 16, 2009







THE
STEPHAN CO. AND SUBSIDIARIES


INDEX TO
QUARTERLY REPORT


ON FORM
10-Q





PagePART
      I – FINANCIAL INFORMATIONItem
      1:
              Financial
      Statements
              4Item
      2:
              Management's
      Discussion and Analysis of Financial Condition and Results of
      Operations
              13Item
      3:
              Quantitative
      and Qualitative Disclosures about Market Risk
              14Item
      4T:
              Controls
      and Procedures
              14PART
      II – OTHER INFORMATIONItem
      1:
              Legal
      Proceedings
              15Item
      1A:
              Risk
      Factors
              15Item
      2:
              Unregistered
      Sales of Equity Securities and Use of Proceeds
              15Item
      3:
              Defaults
      Upon Senior Securities
              15Item
      4:
              Submission
      of Matters to a Vote of Security Holders
              15Item
      5:
              Other
      Information
              15Item
      6:
              Exhibits
              15Signatures
              16Certifications


2





PART
I – FINANCIAL INFORMATION





Item
1.                   Financial
Statements





Certain
statements in this Quarterly Report on Form 10-Q ("Form 10-Q") under "Item 1.
Financial Statements" and "Item 2. Management’s Discussion and Analysis of
Financial Condition and Results of Operations," constitute "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995 (the "Reform Act"). Such forward-looking statements involve known and
unknown risks, uncertainties and other factors which may cause our actual
results, condition (financial or otherwise), performance or achievements to be
materially different from any future results, performance, condition or
achievements expressed or implied by such forward-looking
statements.





Words
such as "projects," "believe," "anticipates," "estimate," "plans," "expect,"
"intends," and similar words and expressions are intended to identify
forward-looking statements and are based on our current expectations,
assumptions, and estimates about us and our industry. In addition, any
statements that refer to expectations, projections or other characterizations of
future events or circumstances are forward-looking statements. Although we
believe that such forward-looking statements are reasonable, we cannot assure
you that such expectations will prove to be correct.





Our
actual results could differ materially from those anticipated in such
forward-looking statements as a result of several factors, risks and
uncertainties. These factors, risks and uncertainties include, without
limitation, our ability to satisfactorily address any material weakness in our
financial controls; general economic and business conditions; competition; the
relative success of our operating initiatives; our development and operating
costs; our advertising and promotional efforts; brand awareness for our product
offerings; the existence or absence of adverse publicity; acceptance of any new
product offerings; changing trends in customer tastes; the success of any
multi-branding efforts; changes in our business strategy or development plans;
the quality of our management team; the availability, terms and deployment of
capital; the business abilities and judgment of our personnel; the availability
of qualified personnel; our labor and employee benefit costs; the availability
and cost of raw materials and supplies; changes in or newly-adopted accounting
principles; changes in, or our failure to comply with, applicable laws and
regulations; changes in our product mix and associated gross profit margins, as
well as management’s response to these factors, and other factors that may be
more fully described in the Company’s literature, press releases and
publicly-filed documents with the Securities and Exchange Commission. You are
urged to carefully review and consider these disclosures, which describe certain
factors that affect our business.





We do not
undertake, subject to applicable law, any obligation to publicly release the
results of any revisions, which may be made to any forward-looking statements to
reflect events or circumstances occurring after the date of such statements or
to reflect the occurrence of anticipated or unanticipated
events.  Therefore, we caution each reader of this report to carefully
consider the specific factors and qualifications discussed herein with respect
to such forward-looking statements, as such factors and qualifications could
affect our ability to achieve our objectives and may cause actual results to
differ materially from those projected, anticipated or implied
herein.


3


The
Stephan Co.
 Condensed
Consolidated Balance Sheets
 At
September 30, 2009 and December 31, 2008
 (in
thousands, except share and per share amounts)
 Audited2009
                    
                    
                    2008CURRENT
      ASSETSCash
      and cash equivalents
                    
                    $
                    8,396
                    
                    
                    $
                    7,967Accounts
      receivable, net
                    
                    
                    1,211
                    
                    
                    
                    976Current
      inventories
                    
                    
                    5,342
                    
                    
                    
                    5,162Prepaid
      expenses and other current assets
                    
                    
                    219
                    
                    
                    
                    248TOTAL
      CURRENT ASSETS
                    
                    
                    15,168
                    
                    
                    
                    14,353Other
      assets, net
                    
                    
                    3,074
                    
                    
                    
                    3,106Property,
      plant and equipment, net
                    
                    
                    1,297
                    
                    
                    
                    1,383Trademarks
      and goodwill, net
                    
                    
                    6,762
                    
                    
                    
                    6,744TOTAL
      ASSETS
                    
                    $
                    26,301
                    
                    
                    $
                    25,586CURRENT
      LIABILITIESCurrent
      portion of long-term debt
                    
                    $
                    138
                    
                    
                    $
                    136Accounts
      payable and accrued expenses
                    
                    
                    2,228
                    
                    
                    
                    1,922TOTAL
      CURRENT LIABILITIES
                    
                    
                    2,366
                    
                    
                    
                    2,058Long-term
      debt, less current portion
                    
                    
                    255
                    
                    
                    
                    326COMMITMENTS
      AND CONTINGENCIESSTOCKHOLDERS'
      EQUITYPreferred
      stock, $.01 par value; 1,000,000 shares authorized; none
      issuedCommon
      stock, $.01 par value; 25,000,000 shares authorized; 4,389,611 shares
      issued at September 30, 2009 and December 31, 2008
                    
                    
                    44
                    
                    
                    
                    44Additional
      paid-in capital
                    
                    
                    17,893
                    
                    
                    
                    17,833Retained
      earnings
                    
                    
                    6,054
                    
                    
                    
                    5,606Treasury
      stock, 136,936 and 123,048 shares, at cost
                    
                    
                    (311
                    )
                    
                    
                    (281
                    )TOTAL
      STOCKHOLDERS' EQUITY
                    
                    
                    23,680
                    
                    
                    
                    23,202TOTAL
      LIABILITIES & STOCKHOLDERS' EQUITY
                    
                    $
                    26,301
                    
                    
                    $
                    25,586








4


The
Stephan Co.
 Condensed
Consolidated Statements of Operations
 Three and
Nine Months Ended September 30, 2009 and 2008
 (in
thousands, except per share data)
 
 Three
      Months
                    
                    
                    Nine
      Months2009
                    
                    
                    2008
                    
                    
                    2009
                    
                    
                    2008Revenue
                    
                    $
                    4,910
                    
                    
                    $
                    5,420
                    
                    
                    $
                    13,912
                    
                    
                    $
                    14,129Cost
      of revenue
                    
                    
                    2,836
                    
                    
                    
                    2,849
                    
                    
                    
                    7,685
                    
                    
                    
                    7,281Gross
      profit
                    
                    
                    2,074
                    
                    
                    
                    2,571
                    
                    
                    
                    6,227
                    
                    
                    
                    6,848Selling,
      general and administrative expenses
                    
                    
                    1,734
                    
                    
                    
                    2,194
                    
                    
                    
                    5,491
                    
                    
                    
                    6,130Operating
      income
                    
                    
                    340
                    
                    
                    
                    377
                    
                    
                    
                    736
                    
                    
                    
                    718Net
      interest (expense) income
                    
                    
                    (5
                    )
                    
                    
                    33
                    
                    
                    
                    6
                    
                    
                    
                    184Income
      before income taxes
                    
                    
                    335
                    
                    
                    
                    410
                    
                    
                    
                    742
                    
                    
                    
                    902Provision
      for income taxes
                    
                    
                    13
                    
                    
                    
                    164
                    
                    
                    
                    39
                    
                    
                    
                    360NET
      INCOME
                    
                    $
                    322
                    
                    
                    $
                    246
                    
                    
                    $
                    703
                    
                    
                    $
                    542Basic
      income per share
                    
                    $
                    0.08
                    
                    
                    $
                    0.06
                    
                    
                    $
                    0.17
                    
                    
                    $
                    0.12Diluted
      income per share
                    
                    $
                    0.08
                    
                    
                    $
                    0.06
                    
                    
                    $
                    0.17
                    
                    
                    $
                    0.12Dividends
      per share
                    
                    $
                    0.02
                    
                    
                    $
                    0.02
                    
                    
                    $
                    0.06
                    
                    
                    $
                    0.06Weighted
      average common shares outstanding
                    
                    
                    4,253
                    
                    
                    
                    4,379
                    
                    
                    
                    4,255
                    
                    
                    
                    4,386




5


The
Stephan Co.
 Condensed
Consolidated Statements of Cash Flows
 Nine
Months Ended September 30, 2009 and 2008
 (in
      thousands)
                      
                      2009
                      
                      
                      2008CASH
      FLOWS FROM OPERATING ACTIVITIESNET
      INCOME
                      
                      $
                      703
                      
                      
                      $
                      542Adjustments
      to reconcile net income to net cash flowsprovided
      by (used in) operating activities:Depreciation
                      
                      
                      95
                      
                      
                      
                      87Stock
      option compensation
                      
                      
                      60
                      
                      
                      
                      60Deferred
      income taxes
                      
                      
                      -
                      
                      
                      
                      277Changes
      in operating assets & liabilities(Increase)
      decrease in accounts receivable
                      
                      
                      (235
                      )
                      
                      
                      76Increase
      in current inventories
                      
                      
                      (180
                      )
                      
                      
                      (1,089
                      )Decrease
      (increase) in prepaid expenses and other current assets
                      
                      
                      29
                      
                      
                      
                      (50
                      )Decrease
      in other assets
                      
                      
                      32
                      
                      
                      
                      4Increase
      (decrease) in accounts payable and accrued expenses
                      
                      
                      306
                      
                      
                      
                      (354
                      )Total
      adjustments to net income
                      
                      
                      107
                      
                      
                      
                      (989
                      )NET
      CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES
                      
                      
                      810
                      
                      
                      
                      (447
                      )CASH
      FLOWS FROM INVESTING ACTIVITIESProceeds
      from sale of short-term investments
                      
                      
                      -
                      
                      
                      
                      800Acquisition
      of Bowman
                      
                      
                      (18
                      )
                      
                      
                      (500
                      )Purchase
      of property, plant and equipment
                      
                      
                      (9
                      )
                      
                      
                      (17
                      )NET
      CASH FLOWS (USED IN) PROVIDED BY INVESTING ACTIVITIES
                      
                      
                      (27
                      )
                      
                      
                      283CASH
      FLOWS FROM FINANCING ACTIVITIESChange
      in restricted cash
                      
                      
                      -
                      
                      
                      
                      832Repayment
      of long-term debt
                      
                      
                      (69
                      )
                      
                      
                      (832
                      )Dividends
                      
                      
                      (255
                      )
                      
                      
                      (263
                      )Purchases
      of treasury stock
                      
                      
                      (30
                      )
                      
                      
                      (56
                      )NET
      CASH FLOWS (USED IN) FINANCING ACTIVITIES
                      
                      
                      (354
                      )
                      
                      
                      (319
                      )NET
      INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
                      
                      
                      429
                      
                      
                      
                      (483
                      )CASH
      AND CASH EQUIVALENTS AT BEGINNING OF YEAR
                      
                      
                      7,967
                      
                      
                      
                      4,977CASH
      AND CASH EQUIVALENTS AT END OF THIRD QUARTER
                      
                      $
                      8,396
                      
                      
                      $
                      4,494


See Notes
to Condensed Consolidated Financial Statements.


6





The
Stephan Co. and Subsidiaries


Notes to
Condensed Consolidated Financial Statements


Quarters
ended September 30, 2009 and 2008





NOTE
1:  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES





NATURE OF
OPERATIONS:  The Company is engaged in the manufacture, sale and
distribution of hair grooming and personal care products, principally throughout
the United States, and has allocated substantially all of its business into two
segments: Brands and Distributors.





BASIS OF
PRESENTATION: In the opinion of management, the accompanying unaudited, interim
condensed consolidated financial statements have been prepared by the Company
pursuant to the rules and regulations of the Securities and Exchange Commission.
These interim financial statements do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements and should be read in conjunction with the Company’s annual
financial statements as of December 31, 2008. These interim financial statements
have not been audited. However, management believes the accompanying unaudited,
interim financial statements contain all adjustments, consisting of only normal
recurring adjustments, necessary to present fairly the consolidated financial
position of The Stephan Co. and subsidiaries as of September 30, 2009 and the
results of their operations and cash flows for the three and nine months then
ended. The results of operations and cash flows for the interim periods are not
necessarily indicative of the results of operations or cash flows that can be
expected for the year ending December 31, 2009. Certain
reclassifications (having no net profit or loss impact) have been made to the
previously reported amounts in the 2008 financial statements to reflect
comparability with the 2009 presentation.





USE OF
ESTIMATES: The preparation of consolidated financial statements in conformity
with U.S. GAAP 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 consolidated financial statements and
the reported amounts of revenue and expenses during the reporting
period.  Actual results could differ significantly from those
estimates if different assumptions were used or different events ultimately
transpire. The most notable estimates included in the consolidated financial
statements include the probability of collection for the allowance for doubtful
accounts, inventory provisions, estimated useful lives of fixed assets, and
realizability of deferred taxes.





PRINCIPLES
OF CONSOLIDATION:  The consolidated financial statements include the
accounts of The Stephan Co. and its subsidiaries, all of which are wholly owned:
Foxy Products, Inc., Old 97 Company, Williamsport Barber and Beauty Supply
Corp., Stephan & Co., Scientific Research Products, Inc. of Delaware, Sorbie
Distributing Corporation, Stephan Distributing, Inc., Morris Flamingo-Stephan,
Inc., Major Advance, Inc., American Manicure, Inc., and Bowman Barber and Beauty
Supply, Inc. (“Bowman” and, collectively, the "Company").  All
significant inter-Company balances and transactions have been eliminated in
consolidation.





IMPAIRMENT
OF LONG-LIVED ASSETS AND GOODWILL: The Company periodically evaluates whether
events or circumstances have occurred that would indicate that long-lived assets
may not be recoverable or that their remaining useful lives may be
impaired.  When such events or circumstances are present, the Company
assesses the recoverability of long-lived assets by determining whether the
carrying value will be recovered through the expected future cash flows
resulting from the use of the asset.  If the results of this testing
indicates an impairment of the carrying value of the asset, an impairment loss
equal to the excess of the asset's carrying value over its fair value is
recorded. The long-term nature of these assets requires the projection of their
associated cash flows and then the discounting of these projected cash flows to
their present value.





Trademarks
and goodwill are evaluated for impairment on an annual basis and, between annual
tests, whenever events or circumstances indicate that the carrying value of an
asset may exceed its fair value. At September 30, 2009, the Company had less
than $7.0 million of intangibles (approximately $3.1 million of trademarks and
$3.7 million of goodwill) subject to future impairment testing.  No
events or circumstances occurred that indicated a possible impairment of
intangible assets during the quarter ended September 30, 2009.





MAJOR
CUSTOMERS:  There were no sales to any single customer in excess of
10% of revenue in the three or nine months ended September 30,
2009.  The Company performs ongoing credit evaluations of its
customers' financial condition and, generally, requires no
collateral.  The Company does not believe that its customers' credit
risk represents a material risk of loss to the Company.





STOCK-BASED
COMPENSATION:  The Company’s net income for the quarters ended
September 30, 2009 and 2008 was reduced as a result of the recognition of stock
option compensation expense of $20,000 in each year. Year-to-date net income in
2009 and 2008 was reduced by $60,000 in each year. These amounts have been
included in Selling, General and Administrative Expenses.  The impact
on basic and diluted earnings per share for the three months ended September 30
of each year was approximately $0.005 per common share and $0.015 per share for
the nine-month periods. The Company employed the Black-Scholes option pricing
model to estimate the fair value of stock options using assumptions consistent
with past practices.  Assumptions used in the determination of stock
option expense included volatility ranging from 77% to 91%, dividend yield of
approximately 2.0%, risk-free rates ranging from 2.7% to 3.7% and terms ranging
from five to 10 years.  On January 1, 2009 the company granted options
to purchase 50,000 shares at $1.96, the market price just prior to grant, to our
CEO; these options vest one year from the date of
grant.  Additionally, we granted a total of 20,248 options to our
outside directors at $2.40, the market price of our stock on the date of grant,
June 30, 2009.


7





FAIR
VALUE OF FINANCIAL INSTRUMENTS: The Company, using available market information
and recognized valuation methodologies, has determined the estimated fair values
of financial instruments that are presented herein.  However,
considerable judgment is required in interpreting market data to develop
estimates of fair value.  Accordingly, the estimates presented herein
are not necessarily indicative of amounts that the Company could realize in a
current market sale of such instruments.





The
following methods and assumptions were used to estimate fair value: 1) the
carrying amounts of cash and cash equivalents, accounts receivable and accounts
payable were assumed to approximate fair value due to their short-term nature;
2) debt service cash flows were discounted using current interest rates for
financial instruments with similar characteristics and maturity to determine the
fair value of long-term debt. As of September 30, 2009 and December 31, 2008,
there were no significant differences in the carrying values and fair value of
financial instruments.





REVENUE
RECOGNITION:  Revenue is recognized when all significant contractual
obligations, which involve the shipment of the products sold and reasonable
assurance as to the collectibility of the resulting account receivable, have
been satisfied.  The Company does not sell on a consignment basis;
returns are permitted for damaged or unsalable items only.  Revenue is
shown after deductions for prompt payment and volume discounts and
returns.  The Company estimates that these discounts and returns will
approximate 1% of gross revenue, and we accrue for these costs accordingly. The
Company participates in various promotional activities in conjunction with its
retailers and distributors, primarily through the use of discounts, new
warehouse allowances, slotting allowances, co-op advertising and periodic price
reduction programs. These costs have been subtracted from revenue and
approximated $96,000 and $61,000 for the three months ended September 30, 2009
and 2008, respectively.  These costs approximated $178,000 and
$221,000 for the nine months ended September 30, 2009 and 2008, respectively.
The allowances for sales returns and trade promotion liabilities are established
based on the Company’s estimate of the amounts necessary to settle future and
existing obligations for such items on products sold as of the balance sheet
date.


COST OF
GOODS SOLD:  This item includes the costs of raw materials, packaging,
inbound freight, direct labor and depreciation.  Other
manufacturing-related overhead, including purchasing, receiving, inspection,
internal transfer costs, warehousing and manufacturing center costs (principally
rent, real estate taxes and insurance related to product manufacturing and
warehousing) are classified in Selling, General and Administrative Expenses in
the Condensed Consolidated Statements of Operations.  For the quarters
ended September 30, 2009 and 2008, the manufacturing-related overhead included
in Selling, General and Administrative Expenses was approximately $145,000 and
$183,000, respectively. For the nine-month periods ended September 30, 2009 and
2008, the manufacturing-related overhead included in Selling, General and
Administrative Expenses was approximately $430,000 and $572,000,
respectively.


SHIPPING
AND HANDLING FEES AND COSTS: Expenses for the shipping and delivery of products
sold to customers were approximately $200,000 and $417,000 for the quarters
ended September 30, 2009 and 2008, respectively. For the nine-month periods
ended September 30, 2009 and 2008, these costs were approximately $820,000 and
$1.2 million, respectively.





CASH AND
CASH EQUIVALENTS:  Cash and cash equivalents are comprised principally
of cash maintained in FDIC-insured bank accounts.





ALLOWANCE
FOR DOUBTFUL ACCOUNTS: The allowance is based upon specific identification of
customer balances that are unlikely to be collected plus an estimated amount for
potentially uncollectible amounts.





INVENTORIES:  Inventories
are stated at the lower of cost (determined on the first-in, first-out basis) or
market. Other manufacturing –related costs, classified in Selling, General and
Administrative expenses, are also allocated to finished goods inventory. The
amount of these allocations to inventory was approximately $750,000 at both
September 30, 2009 and December 31, 2008. We periodically evaluate our inventory
composition, giving consideration to factors such as the probability and timing
of anticipated usage and the physical condition of the items, and then estimate
an allowance (reducing the inventory) to be provided for slow moving, obsolete
or damaged inventory.  These estimates could vary significantly,
either favorably or unfavorably, from actual requirements based upon future
economic conditions, customer inventory levels or competitive factors that were
not foreseen or did not exist when the inventory write-downs were
established.





OTHER
ASSETS: At September 30, 2009 and December 31, 2008, we classified as Other
assets approximately $5.1 million of slower-moving inventories that are utilized
as needed.  We have subtracted obsolescence reserves of approximately
$2.0 million from these inventories in both periods presented.  The
amounts of slower-moving inventories, net of the obsolescence reserves, have
been classified in Other assets.


8





PROPERTY,
PLANT AND EQUIPMENT:  Property, plant and equipment are recorded at
cost.  Routine repairs and maintenance are expensed as
incurred.  Depreciation is provided on a straight-line basis over the
estimated useful lives of the assets as follows:





Buildings
      and improvements
                        15-30
      yearsMachinery
      and equipment
                        5-10
      yearsFurniture
      and office equipment
                        3-5
      years





INCOME
TAXES: Income taxes are calculated using the asset and liability method of
accounting. Deferred income taxes are computed by multiplying statutory rates
applicable to estimated future year differences between the financial statement
and tax basis carrying amounts of assets and liabilities. At December 31, 2008,
the Company carried no net deferred tax assets on its books even though it had
in excess of $3.0 million net operating loss carryforwards (“NOLs”) because, at
that time, we felt that it was “more likely than not” that any deferred tax
assets (primarily NOLs) would not be utilized to offset future taxable income.
However, in 2009 the Company continued its profitable trend and now believes
that a portion of the previously unrecorded deferred tax assets are likely to be
realized. The Company, consequently, has recorded only current tax expense
during 2009 for certain state taxes where the Company files returns on an
unconsolidated basis.





BASIC AND
DILUTED EARNINGS PER SHARE:  Basic and diluted earnings per share are
computed by dividing net income by the weighted average number of shares of
common stock outstanding during the quarters and for the year-to-date periods
(4.3 million in 2009 and 4.4 million in 2008). The Company had approximately
350,000 stock options outstanding of which approximately 70,000 had exercise
prices that were less than the Company’s stock price at September 30,
2009.  The dilutive effect of the “in the money” options was not
material. No additional equivalent shares, in addition to the actual weighted
average shares outstanding, were assumed to be outstanding for purposes of
calculating diluted net income per share in any period presented.





SUBSEQUENT
EVENTS: For the three and nine months ended September 30, 2009, the
Company evaluated, for potential recognition and disclosure, events that
occurred prior to the filing of the Company’s Quarterly Report on Form 10-Q for
the quarter ended September 30, 2009, on November 16, 2009.





NOTE 2:
RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS





In June
2009, the Financial Accounting Standards Board (“FASB”) issued ASC Statement No.
105,   the FASB Accounting Standards Codification and the Hierarchy of
Generally Accepted Accounting Principles (“ASC 105”).  ASC 105 will
become the single source authoritative nongovernmental U.S. generally accepted
accounting principles (“GAAP”), superseding existing FASB, American Institute of
Certified Public Accountants, Emerging Issues Task Force, and related accounting
literature.  ASC 105 reorganized the thousands of GAAP pronouncements
into roughly 90 accounting topics and displays them using a consistent
structure.  Also included is relevant SEC guidance organized using the
same topical structure in separate sections.  The Company adopted ASC
105 for the financial statements ended September 30, 2009.  The
adoption of ASC 105 did not have an impact on the Company’s financial position
or results of operations.





Effective
January 1, 2009, the Company adopted new accounting guidance on fair value
measurements with respect to non-financial assets and liabilities measured on a
non-recurring basis. The application of the fair value framework to these fair
value measurements did not have a material impact on the Company’s condensed
consolidated financial position, results of operations or cash
flows.





The
Company adopted new accounting guidance regarding noncontrolling interests in
consolidated financial statements on January 1, 2009. The new accounting
guidance requires (i) classification of noncontrolling interests, commonly
referred to as minority interests, within stockholders’ equity; (ii) net
income to include the net income attributable to the noncontrolling interest;
and (iii) enhanced disclosure of activity related to noncontrolling
interests. There are no noncontrolling interests held in the Company’s
consolidated subsidiaries.





In
April 2009, the Company adopted new accounting guidance on fair value
measurements, which provides additional guidance in determining whether a market
is active or inactive and whether a transaction is distressed. The guidance is
applicable to all assets and liabilities (i.e., financial and nonfinancial) and
requires enhanced disclosures. The adoption did not have an impact on the
Company’s condensed consolidated financial statements.





In
April 2009, the Company adopted new accounting guidance on fair value
measurements which requires disclosures about fair value of financial
instruments in interim as well as in annual financial statements. The adoption
of the amended guidance did not affect the Company’s condensed consolidated
financial statements.


9


In the
second quarter of 2009, the Company adopted new accounting guidance on
subsequent events. The new accounting guidance establishes standards for
accounting and disclosure of events that occur after the balance sheet date but
before financial statements are issued. The adoption did not impact the
Company’s condensed consolidated financial statements.





NOTE
3.  ACQUISITION





On August
14, 2008, we acquired 100% of the outstanding common stock of Bowman Beauty and
Barber Supply, Inc., a distributor located in Wilmington, NC
(“Bowman”).  If Bowman had been acquired at the beginning of 2008, pro
forma estimated revenue for the Company for the third quarter and year-to-date
periods ended September 30, 2008 would have approximated $5.7 million and $15.9
million, respectively.  Pro forma net income and net income per share
for the periods in 2008 previously referred to would not have been materially
impacted by the inclusion of Bowman results.   In the second
quarter of 2009, intangible assets were adjusted by $18,000 to reflect a true-up
reclassification of certain minor assets and liabilities acquired in the Bowman
stock purchase in 2008.    During the third quarter of 2009,
the Company finalized its purchase price allocation for the
acquisition.  The Company determined that there were no separately
identified intangibles other than goodwill, and as a result, the excess of net
assets acquired over the purchase price has been allocated to
goodwill





NOTE
4:  INVENTORIES





Inventories
at September 30, 2009 and December 31, 2008 consisted of the
following:





(in
      thousands)
                    
                    2009
                    
                    
                    2008Raw
      materials
                    
                    $
                    1,082
                    
                    
                    $
                    1,151Packaging
      and components
                    
                    
                    2,105
                    
                    
                    
                    2,008Work-in-process
                    
                    
                    446
                    
                    
                    
                    523Finished
      goods
                    
                    
                    6,770
                    
                    
                    
                    6,541Total
      inventories
                    
                    
                    10,403
                    
                    
                    
                    10,223Less:
      estimated non-current inventories
                    
                    
                    (5,061
                    )
                    
                    
                    (5,061
                    )Current
      inventories
                    
                    $
                    5,342
                    
                    
                    $
                    5,162





Raw
materials include surfactants, chemicals and fragrances used in the production
process.  Packaging materials include cartons, inner sleeves and boxes
used in the actual product, as well as outer boxes and cartons used for shipping
purposes.  Components are bottles or containers (plastic or glass),
jars, caps, pumps and similar materials that will become part of the finished
product. Finished goods also include hair dryers, electric clippers, lather
machines, scissors and salon furniture.





Non-current
inventories are included in Other assets.  See Note 1 to these
Condensed Consolidated Financial Statements.


10


NOTE
5:  SEGMENT INFORMATION





We
have identified two reportable operating segments based upon the way in which we
evaluate our business: Distributors and Brands.  The Distributors
segment generally has a customer base of distributors that purchase the
Company's hair products and beauty and barber supplies for sale to salons and
barbershops.  Our sales to beauty schools are also classified in this
segment.  The Brands segment includes sales to mass merchandisers,
chain drug stores and distributors.  The Company conducts operations
primarily in the United States; sales to international customers are not
material to consolidated revenue. The following table summarizes significant
items by reportable segment:





Quarters ended September
30,
 
 2009
                    
                    
                    2008(in
      thousands)
                    
                    Distributors
                    
                    
                    Brands
                    
                    
                    Total
                    
                    
                    Distributors
                    
                    
                    Brands
                    
                    
                    TotalRevenue
                    
                    $
                    3,962
                    
                    
                    $
                    948
                    
                    
                    $
                    4,910
                    
                    
                    $
                    4,183
                    
                    
                    $
                    1,237
                    
                    
                    $
                    5,420Operating
      income
                    
                    
                    188
                    
                    
                    
                    152
                    
                    
                    
                    340
                    
                    
                    
                    77
                    
                    
                    
                    300
                    
                    
                    
                    377Net
      interest (expense) income
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (5
                    )
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    33Income
      taxes
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (13
                    )
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    (164
                    )Net
      income
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    $
                    322
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    $
                    246
 
 Year-to-Date Periods Ended September
30,
 
 2009
                                  
                                  
                                  2008(in
      thousands)
                                  
                                  Distributors
                                  
                                  
                                  Brands
                                  
                                  
                                  Total
                                  
                                  
                                  Distributors
                                  
                                  
                                  Brands
                                  
                                  
                                  TotalRevenue
                                  
                                  $
                                  11,030
                                  
                                  
                                  $
                                  2,882
                                  
                                  
                                  $
                                  13,912
                                  
                                  
                                  $
                                  10,674
                                  
                                  
                                  $
                                  3,455
                                  
                                  
                                  $
                                  14,129Operating
      income
                                  
                                  
                                  51
                                  
                                  
                                  
                                  685
                                  
                                  
                                  
                                  736
                                  
                                  
                                  
                                  (20
                                  )
                                  
                                  
                                  738
                                  
                                  
                                  
                                  718Net
      interest income
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  6
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  184Income
      taxes
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (39
                                  )
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (360
                                  )Net
      income
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  $
                                  703
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  $
                                  542Segment
      assets (at September 30, 2009 and December 31, 2008)
                                  
                                  
                                  7,617
                                  
                                  
                                  
                                  10,327
                                  
                                  
                                  
                                  17,944
                                  
                                  
                                  
                                  7,407
                                  
                                  
                                  
                                  10,403
                                  
                                  
                                  
                                  17,810Items
      not allocated to segments:Cash
      and cash equivalents
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  8,396
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  7,967Eliminations/other
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (39
                                  )
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (191
                                  )Consolidated
      total assets
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  $
                                  26,301
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  $
                                  25,586
 
 Note1:
Corporate overhead was allocated to the segments based upon
revenue.
 Note 2:
Capital expenditures and depreciation expense were
immaterial.


11





NOTE
6:  CONTINGENCIES AND COMMITMENTS





CEO
Compensation





The
Company has an employment agreement with its Chief Executive
Officer.  The agreement expires on December 31, 2011, but provides for
the renewal by the CEO.  The agreement includes an incentive bonus
award based on increases in consolidated earnings per share as defined in the
employment agreement.





In July
2005, the CEO took a voluntary, unilateral reduction in base compensation to
$540,000 annually.  In accordance with his employment agreement this
amount was subject to annual increases of 10%.  In June 2009, the CEO
took another voluntary, unilateral reduction in base compensation to
$519,000.





The CEO
and the Board have agreed, in principal, to certain amendments to his employment
agreement to become effective January 1, 2010.  Under the terms of the
amended employment agreement as currently proposed, the CEO’s base compensation
would be fixed at its current level, subject to performance bonuses “capped” at
a maximum of $250,000 annually.  Further, in the event of (i)
termination without “cause” or (ii) a “change in control” of the Company without
majority approval of the current Board, both terms as defined in the proposed
amendments to the employment agreement, the CEO would receive $10.0
million.


12





Item
2.              
    Management’s Discussion and Analysis of Financial
Condition and Results of Operations





Liquidity and Capital
Resources





As of
September 30, 2009, we had cash and cash equivalents of approximately $8.4
million.  Our long-term debt was less than $0.4 million and was
comprised primarily of that issued to the former owner of
Bowman.  Cash and cash equivalents increased by $429,000 during the
first nine months of 2009.  The increase was due principally to cash
flow from operations of $810,000 exceeding spending for dividends ($255,000),
repayment of Bowman debt ($69,000) and treasury stock purchases
($30,000).





We have
adequate liquidity and do not foresee the need for additional capital for
day-to-day operations in the next twelve months.





Our cash
balance will vary with growth or decline in operating income and changes in
non-cash, non-debt working capital. Our cash flow will also benefit from the
utilization of net operating loss carryforwards eliminating or reducing future
federal income tax payments.  At December 31, 2008, we had over $3.0
million of net operating loss carryforwards to offset future taxable
income.





We have
paid dividends every quarter since mid-1995. In 2004, we paid a special dividend
of $2.00 per share, or about $9.0 million.





In
mid-2008, we began the purchase of our stock in the open
market.  Since then we have purchased treasury stock of $311,000,
including $30,000 in 2009.





Cash flow
is driven by operating income which we endeavor to manage by 1) keeping expenses
low, 2) competitively bidding significant purchases, 3) developing new products,
4) searching out new markets or expanding existing markets through new product
offerings to existing customers, 5) updating technology in critical customer
service areas, 6) reducing purchases by utilizing existing inventory when
possible, 7) increasing selling prices to the extent possible and 8)
centralizing administrative functions.





As the
overall economy expands and contracts, or as we gain or lose customers, our cash
flow will vary because we have, especially in the Brands Segment, high variable
gross margins, and an increase or decrease in this segment’s revenue could be
significant to overall results.  We expect soft demand in 2009 due to
current economic conditions resulting in the probability of lower operating
income.  Cash and cash equivalents may be adversely impacted by these
events.





Cash may
also be used to acquire other strategically-advantageous businesses. In 2008, we
paid $500,000 as part of the total consideration for all of the outstanding
common stock of Bowman Barber and Beauty Supply, Inc. (“Bowman”), a distributor
in Wilmington, NC.





We have
no significant off-balance sheet financing arrangements, except for an operating
lease related to the Danville, IL warehouse.  The annual lease payment
is approximately $320,000 subject to CPI changes.  The lease is also
the subject to a lawsuit referred to in Legal Proceedings, Item 1, Part II of
this report on Form 10-Q. Capital expenditures generally are not significant for
daily operations; however, we have been in negotiations with Shaheen & Co.
to purchase the property we now lease from Shaheen & Co.  There is
no agreement to purchase the building at this time, but negotiations are
ongoing.





Results of
Operations





YEAR-TO-DATE 2009 v.
YEAR-TO-DATE 2008





Net
income for the first nine months of 2009 was $703,000 or 30.0% more than that in
the comparable period of 2008. Lower operating expenses and income taxes in 2009
offset softer brand revenues and higher interest income in 2008. Earnings per
share were $0.17 in 2009 compared to $0.12 in 2008, an increase of
42.0%.





Revenue
for the nine months ended September 30, 2009 was $13.9 million (including
Bowman, acquired in mid-August 2008, of $2.1 million) compared to $14.1 million
(including Bowman of $0.4 million) in the comparable period of
2008.  Expenses were $640,000 less in 2009 compared to nine-month
period of 2008 and helped to offset the gross profit decline caused by lower
revenues and a shift from higher-margin branded to lower-margin distributor
revenue. As a result of the effects of the foregoing items, operating income for
the nine-month period of 2009 was $736,000 compared to $718,000 in the
comparable period of 2008.





Net
interest income was approximately $180,000 less in 2009 due to generally lower
short-term interest rates available on investments compared to those available
in 2008.  Through the third quarter of 2008 we were invested in
auction rate securities that we sold, at par, in the fourth quarter of
2008.  These instruments carried substantially higher rates of
interest than we have earned in 2009, in part because of penalty provisions that
were activated when auctions of these securities began to “fail” in 2008.
Further, at September 30, 2008, these securities were classified as short-term
investments, not as cash and cash equivalents.  Consequently, the
accompanying statement of cash flows for the nine months of 2008 reflects
approximately $4.0 million less cash and cash equivalents (and $4.0 million more
short-term investments) than that reflected at December 31,
2008.


13


The
Company had a full valuation allowance against its deferred tax assets at
September 30, 2009 and December 31, 2008.  We did not record deferred
tax expense through the third quarter of 2009 due to the Company’s net operating
loss (“NOL”) carryforward position. Through its continual evaluation of the
realizability of its deferred tax assets, the Company concluded that it is more
likely than not that a portion of its NOL carryforwards will be realized, given
its continued profitability. If not for the full valuation allowance against its
deferred tax assets, deferred tax expense of approximately $250,000 would have
been recorded in the nine-month period ended September 30,
2009.  Gross net operating loss carryforwards were in excess of $3.0
million as of December 31, 2008.





We
anticipate continued softness in our Distributor segment in the fourth quarter
of 2009 due primarily to lower beauty school enrollments affecting our Morris
Flamingo – Stephan, Inc. subsidiary.  We have, however, seen renewed
interest in our Image and Sorbie brands resulting, in part, from our new
direct-to-salon, no diversion, marketing campaign.





THIRD QUARTER 2009 v. THIRD
QUARTER 2008





Net
income increased to $322,000 in the third quarter of 2009 from $246,000 in the
comparable period of 2008. Lower operating expenses and income taxes in 2009
offset softer brand revenues and higher interest income in 2008. Earnings per
share were $0.08 in the third quarter of 2009 compared to $0.06 in 2008, an
increase of more than 30.0%.





Revenue
for the third quarter of calendar 2009 was $4.9 million (including Bowman of
$0.7 million) compared to $5.4 million (including Bowman of $0.4 million) in the
comparable period of 2008.  Expenses were lower in the third quarter
of 2009 compared to third quarter of 2008: $1.7 million in 2009 versus $2.2
million in 2008 and helped to offset the gross profit decline caused by lower
revenues and a shift from higher-margin branded to lower-margin distributor
revenue. As a result of the effects of the foregoing items, operating income for
the third quarter of 2009 was $340,000 compared to $377,000 in the comparable
period of 2008.





Net
interest income was approximately $40,000 less in 2009 due to generally lower
short-term interest rates available on investments compared to those available
in 2008.





The
Company had a full valuation allowance against its deferred tax assets at
September 30, 2009 and December 31, 2008.  We did not record deferred
tax expense through the third quarter of 2009 due to the Company’s net operating
loss (“NOL”) carryforward position. Through its continual evaluation of the
realizability of its deferred tax assets, the Company concluded that it is more
likely than not that a portion of its NOL carryforwards will be realized, given
its continued profitability. If not for the full valuation allowance against its
deferred tax assets, deferred tax expense of approximately $115,000 would have
been recorded in the third quarter of 2009.





Item
3.             Quantitative
and Qualitative Disclosures about Market Risk


Not
required.





Item
4T:          Controls and
Procedures


(a)
            Evaluation
      of Disclosure Controls and
Procedures


We are
responsible for establishing and maintaining adequate internal control over
financial reporting for the Company.  During 2008 we reviewed
procedures at all of our subsidiaries and evaluated the control structure of the
Company as a whole. However, because of organization changes recently made in
our company, including the acquisition of Bowman, we have not had a chance to
fully document our procedures and assess risk, and we continue to enhance
controls over inventory. Therefore, we believe it prudent to report that our
Company did not have effective internal control over financial reporting at
September 30, 2009.  Management plans to complete its Sarbanes-Oxley
requirements in accordance with Securities and Exchange Commission
regulations.





(b)           Internal
Control over Financial Reporting


There
were no significant changes in our internal control over financial reporting to
the knowledge of our management, or in other factors that have materially
affected or are reasonably likely to materially affect these internal controls
over financial reporting subsequent to the evaluation date.


14





PART
II – OTHER INFORMATION





Item
1.                   Legal
Proceedings





In
addition to the matters set forth below, the Company is involved in other
litigation arising in the normal course of business.  It is the
opinion of management that none of such matters, at September 30, 2009, would
likely, if adversely determined, have a material adverse effect on the Company's
financial position or results of operations.





1) In
March 2006, in a case styled Trevor Sorbie International, Plc. v. Sorbie
Acquisition Co. (CASE NO. 05-14908-09), filed in the Circuit Court of the
17th
Judicial Circuit in and for Broward County, Florida, Trevor Sorbie
International, Plc. (“TSI”) instituted efforts to collect on a judgment it has
against Sorbie Acquisition Co. (“SAC,” a subsidiary of the
Company).  The judgment derives from an October 25, 2004, Pennsylvania
arbitration award in favor of TSI and against SAC with respect to certain
royalties and interest due.  The condensed consolidated balance sheet
for the Company at September 30, 2009, reflected a liability that, in
management’s opinion, was adequate to cover the likely liability in the case.
Among other things, the Florida lawsuit alleges fraud and names as additional
defendants The Stephan Co., Trevor Sorbie of America, Inc. and Sorbie
Distributing Corporation, also subsidiaries of the Company. This matter is
currently unresolved and the Company is unable, at this time, to determine the
outcome of the litigation. The Company is vigorously defending this legal
action.  While we believe that we may ultimately prevail and/or settle
for an amount substantially less than that accrued, due to the limited discovery
taken and the complexities of the issues involved, the Company cannot predict
the outcome of the litigation.





2) On May
4, 2005, the Company entered into a Second Amendment of Lease Agreement (the
"Amendment") with respect to the Danville, IL facility, Morris Flamingo –
Stephan, Inc., extending the term of the lease to June 30, 2015, with a
five-year renewal option, and increasing the annual rental to approximately
$320,000.  The base rent is adjustable annually, in accordance with
the existing master lease, the terms of which, including a 90-day right of
termination by the Company, remain in full force and effect.  The
Amendment provides a purchase option, effective during the term of the lease, to
purchase the premises at the then fair market value of the building, or to match
any bona fide third-party offer to purchase the premises.





On July
6, 2005, the landlord, Shaheen & Co., Inc., the former owner of Morris
Flamingo, notified the Company that its interpretation of the Amendment differed
from that of the Company as to the existence of the 90-day right of
termination.  In October 2005, the landlord filed a lawsuit in the
Circuit Court for the 17th Circuit of Florida in and for Broward County, FL,
styled Shaheen & Co., Inc. (Plaintiff) v. The Stephan Co., Case number
05-15175 seeking a declaratory judgment with respect to the validity of the
90-day right of termination.  In addition, the lawsuit alleges damages
with respect to costs incurred and the weakening marketability of the
property.  This matter is currently unresolved and the Company is
unable, at this time, to determine the outcome of the
litigation.  However, if it is ultimately determined that the early
termination provision has been eliminated with the Amendment, the Company’s
minimum lease obligation would amount to $320,000 in each of the years 2009
through 2013 and approximately $480,000 thereafter, subject to adjustments for
increases in the Consumer Price Index. We believe that we will prevail in this
matter since the lease has a specific clause stating that it is cancelable upon
90 days’ notice of termination to the landlord. Shouky A. Shaheen, a minority
owner of Shaheen & Co., Inc., is currently a member of the Board of
Directors and a significant shareholder of the Company.





Item
1A:              Risk
Factors


Not required.





Item
2:                 Unregistered
Sales of Equity Securities and Use of Proceeds


None.





Item
3:                 Defaults
upon Senior Securities


None.





Item
4:                 Submission
of Matters to a Vote of Security Holders


None.





Item
5:                 Other
Information


None.





Item
6:                 Exhibits


Exhibit
31.1     Certification of Chief Executive
Officer


Exhibit
31.2     Certification of Chief Financial
Officer


Exhibit
32.1     Certification of Chief Executive
Officer


Exhibit
32.2     Certification of Chief Financial
Officer


15





SIGNATURES





Pursuant
to the requirements of Section 13 of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.





THE
      STEPHAN CO.By:
                        /s/ Frank F. FerolaFrank
      F. FerolaPresident
      and Chairman of the BoardNovember
      16, 2009By:
                        /s/
      Robert C. SpindlerRobert
      C. SpindlerChief
      Financial OfficerNovember
      16,
2009


16