UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549




FORM
10-Q




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




For
the quarterly period ended June 30, 2010




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




Commission File Number 001-32849




CASTLE
BRANDS INC.


(Exact
name of registrant as specified in its charter)


Florida
            
            41-2103550(State
      or other jurisdiction of
              incorporation
      or organization)
            
            (I.R.S.
      Employer
              Identification
      No.)122 East 42nd
      Street,
      Suite 4700,
              New
      York, New York
              (Address
      of principal executive offices)
            
            10168
              (Zip
      Code)




Registrant’s
telephone number, including area code: (646) 356-0200




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 þ   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 (§ 229.405 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 whether the registrant is a large accelerated
filer, an accelerated filer, a non-accelerated filer, or a smaller reporting
company. See the definitions of “large accelerated filer,” “accelerated filer”
and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check
one):


o Large accelerated
      filer
                
                o Accelerated
      filero Non-accelerated
      filer (Do not check if a smaller reporting company)
                
                þ 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 o   No þ




The Company had 107,202,145 shares of $0.01 par value common stock
outstanding at August 6, 2010.





TABLE OF CONTENTS




PART I. FINANCIAL
    INFORMATION
                3Item 1.
                
                Financial Statements:
                3Condensed Consolidated Balance Sheets as of June
      30, 2010 (unaudited) and March 31, 2010
                3Condensed Consolidated Statements of Operations
      for the three months ended June 30, 2010 and 2009
      (unaudited)
                4Condensed Consolidated Statement of Changes in
      Equity for the three months ended June 30, 2010
      (unaudited)
                5Condensed Consolidated Statements of Cash Flows
      for the three months ended June 30, 2010 and 2009
      (unaudited)
                6Notes to Unaudited Condensed Consolidated
      Financial Statements
                7Item 2.
                
                Management’s Discussion and Analysis of Financial
      Condition and Results of Operations
                15Item 4.
                
                Controls and Procedures
                22PART II. OTHER INFORMATION
                22Item 1.
                
                Legal Proceedings
                22Item 2.
                
                Unregistered Sales of Equity Securities and Use of
      Proceeds
                23Item 6.
                
                Exhibits
                23




2




PART I. FINANCIAL
INFORMATION


Item 1.
              
              Condensed
      Consolidated Financial
Statements




CASTLE BRANDS INC. AND
SUBSIDIARIES


Condensed
Consolidated Balance Sheets




June 30, 2010
                                          
                                          
                                          March 31, 2010(Unaudited)ASSETS:Current
      AssetsCash
      and cash equivalents
                                          
                                          $
                                          889,455
                                          
                                          
                                          $
                                          1,281,141Accounts
      receivable — net of allowance for doubtful accounts of $759,620 and
      $807,438, respectively
                                          
                                          
                                          5,293,019
                                          
                                          
                                          
                                          5,394,019Due
      from affiliates
                                          
                                          
                                          —
                                          
                                          
                                          
                                          2,192Inventories—
      net of allowance for obsolete and slow moving inventory of $362,555 and
      $370,869, respectively
                                          
                                          
                                          10,878,418
                                          
                                          
                                          
                                          9,243,801Prepaid
      expenses and other current assets
                                          
                                          
                                          1,149,172
                                          
                                          
                                          
                                          960,033Total
      Current Assets
                                          
                                          
                                          18,210,064
                                          
                                          
                                          
                                          16,881,186Equipment — net
                                          
                                          
                                          429,713
                                          
                                          
                                          
                                          482,025Other
      AssetsIntangible
      assets — net of accumulated amortization of $3,620,538 and $3,437,237,
      respectively
                                          
                                          
                                          11,492,668
                                          
                                          
                                          
                                          11,669,432Goodwill
                                          
                                          
                                          1,029,492
                                          
                                          
                                          
                                          994,044Restricted
      cash
                                          
                                          
                                          404,169
                                          
                                          
                                          
                                          693,966Other
      assets
                                          
                                          
                                          167,050
                                          
                                          
                                          
                                          169,134Total
      Assets
                                          
                                          $
                                          31,733,156
                                          
                                          
                                          $
                                          30,889,787LIABILITIES
      AND EQUITY:Current
      LiabilitiesCurrent
      maturities of notes payable and capital leases
                                          
                                          $
                                          426,328
                                          
                                          
                                          $
                                          425,435Accounts
      payable
                                          
                                          
                                          3,155,546
                                          
                                          
                                          
                                          3,826,705Accrued
      expenses
                                          
                                          
                                          341,157
                                          
                                          
                                          
                                          657,934Due
      to shareholders and affiliates
                                          
                                          
                                          1,683,903
                                          
                                          
                                          
                                          676,028Total
      Current Liabilities
                                          
                                          
                                          5,606,934
                                          
                                          
                                          
                                          5,586,102Long-Term
      LiabilitiesNotes
      payable
                                          
                                          
                                          3,315,206
                                          
                                          
                                          
                                          434,034Deferred
      tax liability
                                          
                                          
                                          2,073,874
                                          
                                          
                                          
                                          2,110,912Total
      Liabilities
                                          
                                          
                                          10,996,014
                                          
                                          
                                          
                                          8,131,048Commitments
      and Contingencies (Note 11)EquityPreferred
      stock, $.01 par value, 25,000,000 shares authorized, none
      outstanding
                                          
                                          
                                          —
                                          
                                          
                                          
                                          —Common
      stock, $.01 par value, 225,000,000 shares authorized, 107,202,145 and
      107,955,207 shares issued and outstanding at June 30, and March 31, 2010,
      respectively
                                          
                                          
                                          1,072,021
                                          
                                          
                                          
                                          1,079,552Additional
      paid-in capital
                                          
                                          
                                          135,334,668
                                          
                                          
                                          
                                          135,466,448Accumulated
      deficit
                                          
                                          
                                          (113,828,772
                                          )
                                          
                                          
                                          (112,105,964
                                          )Accumulated
      other comprehensive loss
                                          
                                          
                                          (1,979,134
                                          )
                                          
                                          
                                          (1,768,531
                                          )Total
      shareholders’ equity
                                          
                                          
                                          20,598,783
                                          
                                          
                                          
                                          22,671,505Noncontrolling
      interests
                                          
                                          
                                          138,359
                                          
                                          
                                          
                                          87,234Total
      equity
                                          
                                          
                                          20,737,142
                                          
                                          
                                          
                                          22,758,739Total
      Liabilities and Equity
                                          
                                          $
                                          31,733,156
                                          
                                          
                                          $
                                          30,889,787




See
accompanying notes to the unaudited condensed consolidated financial
statements.





3




CASTLE
BRANDS INC. AND SUBSIDIARIES


Condensed
Consolidated Statements of Operations


(Unaudited)




Three months ended June 30,2010
                                    
                                    
                                    2009Sales,
      net*
                                    
                                    $
                                    6,110,495
                                    
                                    
                                    $
                                    5,854,226Cost
      of sales*
                                    
                                    
                                    3,884,551
                                    
                                    
                                    
                                    3,960,292Reversal
      of provision for obsolete inventory
                                    
                                    
                                    (24,589
                                    )
                                    
                                    
                                    (415,072
                                    )Gross
      profit
                                    
                                    
                                    2,250,533
                                    
                                    
                                    
                                    2,309,006Selling
      expense
                                    
                                    
                                    2,511,453
                                    
                                    
                                    
                                    2,679,490General
      and administrative expense
                                    
                                    
                                    1,244,999
                                    
                                    
                                    
                                    1,374,084Depreciation
      and amortization
                                    
                                    
                                    235,731
                                    
                                    
                                    
                                    219,372Loss
      from operations
                                    
                                    
                                    (1,741,650
                                    )
                                    
                                    
                                    (1,963,940
                                    )Other
      income
                                    
                                    
                                    957
                                    
                                    
                                    
                                    2Other
      expense
                                    
                                    
                                    —
                                    
                                    
                                    
                                    (10,212
                                    )Foreign
      exchange gain
                                    
                                    
                                    57,515
                                    
                                    
                                    
                                    1,041,953Interest
      (expense) income, net
                                    
                                    
                                    (25,543
                                    )
                                    
                                    
                                    18,781Gain
      on exchange of note payable
                                    
                                    
                                    —
                                    
                                    
                                    
                                    270,275Income
      tax benefit
                                    
                                    
                                    37,038
                                    
                                    
                                    
                                    37,038Net
      loss
                                    
                                    
                                    (1,671,683
                                    )
                                    
                                    
                                    (606,103
                                    )Net
      (income) loss attributable to noncontrolling interests
                                    
                                    
                                    (51,125
                                    )
                                    
                                    
                                    47,110Net
      loss attributable to common shareholders
                                    
                                    $
                                    (1,722,808
                                    )
                                    
                                    $
                                    (558,993
                                    )Net
      loss per common share, basic and diluted, attributable to common
      shareholders
                                    
                                    $
                                    (0.02
                                    )
                                    
                                    $
                                    (0.01
                                    )Weighted
      average shares used in computation, basic and diluted, attributable to
      common shareholders
                                    
                                    
                                    108,103,518
                                    
                                    
                                    
                                    101,708,944




* Sales,
net and Cost of sales include excise taxes of $1,060,396 and $1,174,604 for the
three months ended June 30, 2010 and 2009, respectively.




See
accompanying notes to the unaudited condensed consolidated financial
statements.


4




CASTLE BRANDS INC. AND
SUBSIDIARIES


Condensed
Consolidated Statement of Changes in Equity


(Unaudited)




AccumulatedAdditional
                                
                                
                                
                                
                                
                                OtherCommon Stock
                                
                                
                                Paid-in
                                
                                
                                Accumulated
                                
                                
                                Comprehensive
                                
                                
                                Noncontrolling
                                
                                
                                TotalShares
                                
                                
                                Amount
                                
                                
                                Capital
                                
                                
                                Deficit
                                
                                
                                Income (Loss)
                                
                                
                                Interests
                                
                                
                                EquityBALANCE,
      MARCH 31,2010
                                
                                
                                107,955,207
                                
                                
                                $
                                1,079,552
                                
                                
                                $
                                135,466,448
                                
                                
                                $
                                (112,105,964
                                )
                                
                                $
                                (1,768,531
                                )
                                
                                $
                                87,234
                                
                                
                                $
                                22,758,739Comprehensive
      lossNet
      (loss) income
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                (1,722,808
                                )
                                
                                
                                
                                
                                
                                
                                51,125
                                
                                
                                
                                (1,671,683
                                )Foreign
      currency translation adjustment
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                (210,603
                                )
                                
                                
                                
                                
                                
                                
                                (210,603
                                )Total
      comprehensive loss
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                (1,882,286
                                )Repurchase
      and retirement of common stock
                                
                                
                                (3,790,562
                                )
                                
                                
                                (37,906
                                )
                                
                                
                                (985,569
                                )
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                (1,023,475
                                )Issuance
      of common stock in exchange for fine wine inventory
                                
                                
                                3,000,000
                                
                                
                                
                                30,000
                                
                                
                                
                                810,000
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                840,000Issuance
      of common stock in connection with stock option exercise
                                
                                
                                37,500
                                
                                
                                
                                375
                                
                                
                                
                                7,500
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                7,875Stock-based
      compensation
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                36,289
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                
                                36,289BALANCE,
      JUNE 30, 2010
                                
                                
                                107,202,145
                                
                                
                                $
                                1,072,021
                                
                                
                                $
                                135,334,668
                                
                                
                                $
                                (113,828,772
                                )
                                
                                $
                                (1,979,134
                                )
                                
                                $
                                138,359
                                
                                
                                $
                                20,737,142




See
accompanying notes to the unaudited condensed consolidated financial
statements.





5




CASTLE BRANDS INC. and SUBSIDIARIES


Condensed
Consolidated Statements of Cash Flows


(Unaudited)




Three months ended June 30,2010
                                    
                                    
                                    2009CASH
      FLOWS FROM OPERATING ACTIVITIES:Net
      loss
                                    
                                    $
                                    (1,671,683
                                    )
                                    
                                    $
                                    (606,103
                                    )Adjustments
      to reconcile net loss to net cash used in operating
      activities:Depreciation
      and amortization
                                    
                                    
                                    235,731
                                    
                                    
                                    
                                    219,372Reversal
      of provision for doubtful accounts
                                    
                                    
                                    14,800
                                    
                                    
                                    
                                    19,189Amortization
      of deferred financing costs
                                    
                                    
                                    2,083
                                    
                                    
                                    
                                    —Deferred
      tax benefit
                                    
                                    
                                    (37,038
                                    )
                                    
                                    
                                    (37,038
                                    )Effect
      of changes in foreign exchange
                                    
                                    
                                    (68,393
                                    )
                                    
                                    
                                    (1,332,532
                                    )Stock-based
      compensation expense
                                    
                                    
                                    36,289
                                    
                                    
                                    
                                    40,496Provision
      for obsolete inventories
                                    
                                    
                                    (24,589
                                    )
                                    
                                    
                                    (415,072
                                    )Gain
      on exchange of note payable
                                    
                                    
                                    —
                                    
                                    
                                    
                                    (270,275
                                    )Changes
      in operations, assets and liabilities:Accounts
      receivable
                                    
                                    
                                    12,063
                                    
                                    
                                    
                                    715,443Due
      from affiliates
                                    
                                    
                                    2,192
                                    
                                    
                                    
                                    (5,884
                                    )Inventory
                                    
                                    
                                    (872,818
                                    )
                                    
                                    
                                    159,763Prepaid
      expenses and supplies
                                    
                                    
                                    (193,189
                                    )
                                    
                                    
                                    (262,582
                                    )Accounts
      payable and accrued expenses
                                    
                                    
                                    (860,734
                                    )
                                    
                                    
                                    (1,572,164
                                    )Due
      to related parties
                                    
                                    
                                    1,007,875
                                    
                                    
                                    
                                    204,891Total
      adjustments
                                    
                                    
                                    (745,728
                                    )
                                    
                                    
                                    (2,536,393
                                    )NET
      CASH USED IN OPERATING ACTIVITIES
                                    
                                    
                                    (2,417,411
                                    )
                                    
                                    
                                    (3,142,496
                                    )CASH
      FLOWS FROM INVESTING ACTIVITIES:Purchase
      of equipment
                                    
                                    
                                    (23,242
                                    )
                                    
                                    
                                    (4,075
                                    )Acquisition
      of intangible assets
                                    
                                    
                                    (6,537
                                    )
                                    
                                    
                                    —Payments
      under contingent consideration agreements
                                    
                                    
                                    (35,448
                                    )
                                    
                                    
                                    —Short-term
      investments — net
                                    
                                    
                                    —
                                    
                                    
                                    
                                    (24,982
                                    )NET
      CASH USED IN INVESTING ACTIVITIES
                                    
                                    
                                    (65,227
                                    )
                                    
                                    
                                    (29,057
                                    )CASH
      FLOWS FROM FINANCING ACTIVITIES:Credit
      facilities — net
                                    
                                    
                                    1,000,000
                                    
                                    
                                    
                                    (121,775
                                    )Note
      payable — Betts & Scholl
                                    
                                    
                                    (106,024
                                    )
                                    
                                    
                                    —Promissory
      note – Frost Gamma Investments Trust
                                    
                                    
                                    2,000,000
                                    
                                    
                                    
                                    —Payments
      of obligations under capital leases
                                    
                                    
                                    —
                                    
                                    
                                    
                                    (928
                                    )Return
      of restricted cash
                                    
                                    
                                    235,706
                                    
                                    
                                    
                                    —Proceeds
      from stock option exercises
                                    
                                    
                                    7,875
                                    
                                    
                                    
                                    —Repurchase
      of common stock
                                    
                                    
                                    (1,023,475
                                    )
                                    
                                    
                                    (180,000
                                    )NET
      CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
                                    
                                    
                                    2,114,082
                                    
                                    
                                    
                                    (302,703
                                    )EFFECTS
      OF FOREIGN CURRENCY TRANSLATION
                                    
                                    
                                    (23,130
                                    )
                                    
                                    
                                    1,503NET
      DECREASE IN CASH AND CASH EQUIVALENTS
                                    
                                    
                                    (391,686
                                    )
                                    
                                    
                                    (3,472,753
                                    )CASH
      AND CASH EQUIVALENTS — BEGINNING
                                    
                                    
                                    1,281,141
                                    
                                    
                                    
                                    4,011,777CASH
      AND CASH EQUIVALENTS — ENDING
                                    
                                    $
                                    889,455
                                    
                                    
                                    $
                                    539,024SUPPLEMENTAL
      DISCLOSURES:Schedule
      of non-cash investing and financing activities:Exchange
      of $314,275 of 3% note payable, including all interest, by issuance of
      common stock for $44,000 in May 2009
                                    
                                    $
                                    —
                                    
                                    
                                    $
                                    314,275Issuance
      of common stock in exchange for fine wine inventory in June
      2010
                                    
                                    $
                                    840,000
                                    
                                    
                                    $
                                    —Interest
      paid
                                    
                                    $
                                    21,003
                                    
                                    
                                    $
                                    10,689




See
accompanying notes to the unaudited condensed consolidated financial
statements.





6


CASTLE
BRANDS INC. AND SUBSIDIARIES


Notes to
Unaudited Condensed Consolidated Financial Statements





NOTE 1 — ORGANIZATION
AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES




Basis
of Presentation




The
accompanying unaudited condensed consolidated financial statements do not
include all of the information and footnote disclosures normally included in
financial statements prepared in accordance with the rules and regulations of
the Securities and Exchange Commission (“SEC”) and U.S. generally accepted
accounting principles (“GAAP”) and, in the opinion of management, contain all
adjustments (which consist of only normal recurring adjustments) necessary for a
fair presentation of such financial information. Results of operations for
interim periods are not necessarily indicative of those to be achieved for full
fiscal years. The condensed consolidated balance sheet as of March 31, 2010
is derived from the March 31, 2010 audited financial statements. These
unaudited condensed consolidated financial statements should be read in
conjunction with Castle Brands Inc.’s (the “Company”) audited consolidated
financial statements for the fiscal year ended March 31, 2010 included in
the Company’s annual report on Form 10-K for the year ended March 31, 2010,
as amended (“2010 Form 10-K”). Please refer to the notes to the audited
consolidated financial statements included in the 2010 Form 10-K for additional
disclosures and a description of accounting policies. The Company has evaluated
subsequent events through the date the financial statements contained in this
report were issued.




The
Company expects its current cash and working capital and funds available under
its revolving credit agreement to provide sufficient funds to execute planned
operations for at least the next twelve months. The Company anticipates that
from time to time it may borrow up to the full limit of the credit facility to
fund operations, inventory requirements and potential acquisition
opportunities.





A.
              Description of
      business and business combination — The unaudited condensed
      consolidated financial statements include the accounts of the Company, its
      wholly-owned subsidiaries, Castle Brands (USA) Corp. (“CB-USA”), and
      McLain & Kyne, Ltd. (“McLain & Kyne”), and the Company’s
      wholly-owned foreign subsidiaries, Castle Brands Spirits Group Limited
      (“CB-IRL”) and Castle Brands Spirits Marketing and Sales Company Limited,
      and the Company’s 60% ownership interest in Gosling-Castle Partners, Inc.
      (“GCP”), with adjustments for income or loss allocated based upon
      percentage of ownership. The accounts of the subsidiaries have been
      included as of the date of acquisition. All significant intercompany
      transactions and balances have been
eliminated.




B.
              Organization and
      operations — The Company is principally engaged in the importation,
      marketing and sale of premium and super premium brands of vodka, whiskey,
      rums, tequila, liqueurs and fine wine in the United States, Canada,
      Europe, Latin America and the Caribbean. The vodka, Irish whiskeys and
      certain liqueurs are procured by CB-IRL, billed in Euros and imported from
      Europe into the United States. The risk of fluctuations in foreign
      currency is borne by the U.S.
entities.




C.
              Goodwill and other
      intangible assets — Goodwill represents the excess of purchase
      price including related costs over the value assigned to the net tangible
      and identifiable intangible assets of businesses acquired. Goodwill and
      other identifiable intangible assets with indefinite lives are not
      amortized, but instead are tested for impairment annually, or more
      frequently if circumstances indicate a possible impairment may exist.
      Intangible assets with estimable useful lives are amortized over their
      respective estimated useful lives, generally on a straight-line basis, and
      are reviewed for impairment whenever events or changes in circumstances
      indicate that the carrying value may not be
  recoverable.




D.
              Impairment of
      long-lived assets — Under Financial Accounting Standards Board
      (“FASB”) Accounting Standards Codification (“ASC”) 310, “Accounting for
      the Impairment or Disposal of Long-lived Assets”, the Company periodically
      reviews whether changes have occurred that would require revisions to the
      carrying amounts of its definite lived, long-lived assets. When the sum of
      the expected future cash flows is less than the carrying amount of the
      asset, an impairment loss is recognized based on the fair value of the
      asset.




E.
              Excise taxes and
      duty — Excise taxes and duty are computed at standard rates based
      on alcohol proof per gallon/liter and are paid after finished goods are
      imported into the United States and then transferred out of “bond.” Excise
      taxes and duty are recorded to inventory as a component of the cost of the
      underlying finished goods. When the underlying products are sold “ex
      warehouse”, the sales price reflects the taxes paid and the inventoried
      excise taxes and duties are charged to cost of
  sales.




7




CASTLE
BRANDS INC. AND SUBSIDIARIES
 Notes to
Unaudited Condensed Consolidated Financial Statements -
Continued






F.
              Foreign
      currency — The functional currency for the Company’s foreign
      operations is the Euro in Ireland and the British Pound in the United
      Kingdom. Under ASC 830, “Foreign Currency Matters”, the translation from
      the applicable foreign currencies to U.S. Dollars is performed for balance
      sheet accounts using exchange rates in effect at the balance sheet date
      and for revenue and expense accounts using a weighted average exchange
      rate during the period. The resulting translation adjustments are recorded
      as a component of other comprehensive income. Gains or losses resulting
      from foreign currency transactions are shown as a separate line item in
      the consolidated statements of operations. The Company’s vodka, Irish
      whiskeys and certain liqueurs are procured by CB-IRL and billed in Euros
      to CB-USA, with the risk of foreign exchange gain or loss resting with
      CB-USA. Also, the Company has funded the continuing operations of the
      international subsidiaries. The Company previously considered these
      transactions to be trading balances and short-term funding subject to
      transaction adjustment under ASC 830. As such, at each balance sheet date,
      the Euro denominated intercompany balances included on the books of the
      foreign subsidiaries were restated in U.S. Dollars at the exchange rate in
      effect at the balance sheet date, with the resulting foreign currency
      transaction gain or loss included in net loss. In November 2009, to
      improve the liquidity of the foreign subsidiaries, the Company converted
      $17,481,169 in intercompany balances into an additional investment in the
      subsidiaries. Beginning December 1, 2009, the translation gain or loss
      from the investments in the foreign subsidiaries is included in other
      comprehensive income.




G.
              Fair value of
      financial instruments — ASC 825, “Financial Instruments”, defines
      the fair value of a financial instrument as the amount at which the
      instrument could be exchanged in a current transaction between willing
      parties and requires disclosure of the fair value of certain financial
      instruments. The Company believes that there is no material difference
      between the fair-value and the reported amounts of financial instruments
      in the Company’s balance sheets due to the short term maturity of these
      instruments, or with respect to the Company’s debt, as compared to the
      current borrowing rates available to the
  Company.





The
Company’s investments are reported at fair value in accordance with
authoritative guidance, which accomplishes the following key
objectives:





•
            Defines
      fair value as the price that would be received to sell an asset or paid to
      transfer a liability in an orderly transaction between market participants
      at the measurement date;


•
            Establishes
      a three-level hierarchy (“valuation hierarchy”) for fair value
      measurements;


•
            Requires
      consideration of the Company’s creditworthiness when valuing liabilities;
      and


•
            Expands
      disclosures about instruments measured at fair
  value.





The
valuation hierarchy is based upon the transparency of inputs to the valuation of
an asset or liability as of the measurement date. A financial instrument’s
categorization within the valuation hierarchy is based upon the lowest level of
input that is significant to the fair value measurement. The three levels of the
valuation hierarchy are as follows:





•
            Level
      1 — inputs to the valuation methodology are quoted prices (unadjusted) for
      identical assets or liabilities in active
  markets.


•
            Level
      2 — inputs to the valuation methodology include quoted prices for similar
      assets and liabilities in active markets, and inputs that are directly or
      indirectly observable for the asset or liability for substantially the
      full term of the financial
instrument.


•
            Level
      3 — inputs to the valuation methodology are unobservable and significant
      to the fair value measurement.




H.
              Income taxes —
      Under ASC 740, “Income Taxes”, deferred tax assets and liabilities are
      recognized for the future tax consequences attributable to differences
      between the financial statement carrying amounts of existing assets and
      liabilities and their respective tax basis. A valuation allowance is
      provided to the extent a deferred tax asset is not considered
      recoverable.




The
Company has not recognized any adjustments for uncertain tax provisions. The
Company recognizes interest and penalties related to uncertain tax positions in
general and administrative expense; however, no such provisions for accrued
interest and penalties related to uncertain tax positions have been recorded as
of June 30, 2010 or 2009.




The
Company’s income tax benefit for the three months ended June 30, 2010 and 2009
consists of federal, state and local taxes attributable to GCP, which does not
file a consolidated income tax return with the Company. In connection with the
investment in GCP, the Company recorded a deferred tax liability on the ascribed
value of the acquired intangible assets of $2,222,222, increasing the value of
the asset. The difference between the book basis and tax basis created a
deferred tax liability that is being amortized over a period of
15 years (the life of the licensing agreement) on a straight-line basis. For
each of the three-month periods ended June 30, 2010 and 2009, the Company
recognized $37,038 of deferred tax benefits.




I.
              Accounting standards
      adopted— In February 2010, the FASB issued authoritative
      guidance which eliminated as of February 2010 therequirement for
      an SEC filer to disclose the date through which subsequent events have
      been evaluated. The adoption of this guidance did not have a material
      impact on the Company’s results of operations, cash flows or financial
      condition.




8


CASTLE
BRANDS INC. AND SUBSIDIARIES
 Notes to
Unaudited Condensed Consolidated Financial Statements -
Continued


In
January 2010, the FASB issued authoritative guidance intended to improve
disclosure about fair value measurements. The guidance requires entities to
disclose significant transfers in and out of fair value hierarchy levels and the
reasons for the transfers and to present information about purchases, sales,
issuances, and settlements separately in the reconciliation of fair value
measurements using significant unobservable inputs (Level 3). Also, the guidance
clarifies that a reporting entity should provide fair value measurements for
each class of assets and liabilities and disclose the inputs and valuation
techniques used for fair value measurements using significant other observable
inputs (Level 2) and significant unobservable inputs (Level 3). This guidance is
effective for interim and annual periods beginning after December 15, 2009,
except for the disclosure about purchases, sales, issuances and settlements in
the Level 3 reconciliation, which will be effective for interim and annual
periods beginning after December 15, 2010. As this guidance provides only
disclosure requirements, the adoption of this guidance did not have a material
impact on the Company’s results of operations, cash flows or financial
condition.




In June
2009, the FASB issued authoritative guidance which eliminates the concept of a
qualifying special-purpose entity, creates more stringent conditions for
reporting a transfer of a portion of a financial asset as a sale, clarifies
other sale-accounting criteria, and changes the initial measurement of a
transferor’s interest in transferred financial assets. This guidance became
effective for the Company on April 1, 2010. The adoption of the standard did not
have a material impact on the Company’s results of operations, cash flows or
financial condition.




In June
2009, the FASB issued authoritative guidance which eliminates exceptions to
consolidating qualifying special-purpose entities, contains new criteria for
determining the primary beneficiary, and increases the frequency of required
reassessments to determine whether a company is the primary beneficiary of a
variable interest entity. This guidance also contains a new requirement that any
term, transaction, or arrangement that does not have a substantive effect on an
entity’s status as a variable interest entity, a company’s power over a variable
interest entity, or a company’s obligation to absorb losses or its right to
receive benefits of an entity must be disregarded. The elimination of the
qualifying special-purpose entity concept and its consolidation exceptions means
more entities will be subject to consolidation assessments and reassessments.
This guidance became effective for the Company on April 1, 2010. The adoption of
the standard did not have a material impact on the Company’s results of
operations, cash flows or financial condition.




In June
2009, the FASB issued an amendment to the accounting and disclosure requirements
for the consolidation of variable interest entities. The guidance affects the
overall consolidation analysis and requires enhanced disclosures on involvement
with variable interest entities. This guidance became effective for the Company
on April 1, 2010. The adoption of the standard did not have a material impact on
the Company’s results of operations, cash flows or financial
condition.




J.
              Recent accounting
      pronouncements — In July 2010, the FASB issued authoritative
      guidance which requires expanded disclosures to help financial statement
      users understand the nature of credit risks inherent in a creditor’s
      portfolio of financing receivables; how that risk is analyzed and assessed
      in arriving at the allowance for credit losses; and the changes, and
      reasons for those changes, in both the receivables and the allowance for
      credit losses. The disclosures should be prepared on a disaggregated basis
      and provide a roll-forward schedule of the allowance for credit losses and
      detailed information on financing receivables including, among other
      things, recorded balances, nonaccrual status, impairments, credit quality
      indicators, details for troubled debt restructurings and an aging of past
      due financing receivables.  The guidance will be effective for the
      Company beginning December 15, 2010. The Company has evaluated the
      guidance and does not expect its adoption will have a material impact on
      the Company’s results of operations, cash flows or financial
      condition.




NOTE 2 — BASIC AND
DILUTED NET LOSS PER COMMON SHARE




Basic net
loss per common share is computed by dividing net loss by the weighted average
number of common shares outstanding during the period. Diluted net loss per
common share is computed giving effect to all dilutive potential common shares
that were outstanding during the period. Diluted potential common shares consist
of incremental shares issuable upon exercise of stock options and warrants
outstanding. In computing diluted net loss per share for the three months ended
June 30, 2010 and 2009, no adjustment has been made to the weighted average
outstanding common shares as the assumed exercise of outstanding options and
warrants is anti-dilutive.




Potential
common shares not included in calculating diluted net loss per share are as
follows:




Three months ended
                        June 30,2010
                      
                      
                      2009Stock
      options
                      
                      
                      4,379,000
                      
                      
                      
                      3,124,900Warrants
      to purchase common stock
                      
                      
                      2,016,814
                      
                      
                      
                      2,081,814Total
                      
                      
                      6,395,814
                      
                      
                      
                      5,206,714




9


CASTLE
BRANDS INC. AND SUBSIDIARIES
 Notes to
Unaudited Condensed Consolidated Financial Statements- Continued


NOTE 3 — INVENTORIES





June 30,
                      2010
                    
                    
                    March 31,
                      2010Raw
      materials
                    
                    $
                    3,027,880
                    
                    
                    $
                    2,961,887Finished
      goods – net
                    
                    
                    7,850,538
                    
                    
                    
                    6,281,914Total
                    
                    $
                    10,878,418
                    
                    
                    $
                    9,243,801





As of
June 30, and March 31, 2010, 54% and 47%, respectively, of raw materials and 3%
and 4%, respectively, of finished goods were located outside of the United
States.




The
Company recorded reversals of its allowance for obsolete and slow moving
inventory of $24,589 and $415,072 during the three months ended June 30, 2010
and 2009, respectively. These reversals were recorded as the Company was able to
sell certain of the goods included in the allowance recorded during previous
fiscal years. The reversals were recorded as a reduction in cost of sales. The
Company estimates the allowance for obsolete and slow moving inventory based on
analyses and assumptions including, but not limited to, historical usage,
expected future demand and market requirements.




Inventories
are stated at the lower of weighted average cost or market.




NOTE 4 — ACQUISITIONS
AND DIVESTITURES




Acquisition of McLain &
Kyne




On
October 12, 2006, the Company acquired all of the outstanding capital stock of
McLain & Kyne, pursuant to a stock purchase agreement. As consideration for
the acquisition, the Company paid $2,000,000, consisting of $1,294,800 in cash
and 100,000 shares of its common stock, valued at $705,200, at closing. Under
the McLain & Kyne agreement, as amended, the Company will also pay an
earn-out, not to exceed $4,000,000, to the sellers based on the financial
performance of the acquired business through March 31, 2011. For the three
months ended June 30, 2010, $35,448 was earned by the sellers under this
agreement. For the three months ended June 30, 2009, no such earn-out was
earned. The earn-out payments have been recorded as an increase to
goodwill.




NOTE 5 — GOODWILL
AND INTANGIBLE ASSETS




The
changes in the carrying amount of goodwill for the three months ended June 30,
2010 were as follows:




AmountBalance
      as of March 31, 2010
                      
                      $
                      994,044Payments
      under McLain and Kyne agreement
                      
                      
                      35,448Balance
      as of June 30, 2010
                      
                      $
                      1,029,492




Intangible
assets consist of the following:




June 30, 2010
                        
                        
                        March 31,2010Definite
      life brands
                        
                        $
                        170,000
                        
                        
                        $
                        170,000Trademarks
                        
                        
                        479,248
                        
                        
                        
                        479,248Rights
                        
                        
                        8,271,555
                        
                        
                        
                        8,271,555Distributor
      relationships
                        
                        
                        664,000
                        
                        
                        
                        664,000Product
      development
                        
                        
                        26,951
                        
                        
                        
                        20,350Patents
                        
                        
                        994,000
                        
                        
                        
                        994,000Other
                        
                        
                        28,480
                        
                        
                        
                        28,54410,634,234
                        
                        
                        
                        10,627,697Less:
      accumulated amortization
                        
                        
                        3,620,538
                        
                        
                        
                        3,437,237Net
                        
                        
                        7,013,696
                        
                        
                        
                        7,190,460Other
      identifiable intangible assets — indefinite lived*
                        
                        
                        4,478,972
                        
                        
                        
                        4,478,972$
                        11,492,668
                        
                        
                        $
                        11,669,432




10




CASTLE
BRANDS INC. AND SUBSIDIARIES
 Notes to
Unaudited Condensed Consolidated Financial Statements- Continued






Accumulated
amortization consists of the following:




June 30,
                        2010
                      
                      
                      March 31,
                        2010Definite
      life brands
                      
                      $
                      140,718
                      
                      
                      $
                      137,885Trademarks
                      
                      
                      139,129
                      
                      
                      
                      130,834Rights
                      
                      
                      2,889,916
                      
                      
                      
                      2,751,928Distributor
      relationships
                      
                      
                      49,800
                      
                      
                      
                      33,200Product
      development
                      
                      
                      5,088
                      
                      
                      
                      4,070Patents
                      
                      
                      395,887
                      
                      
                      
                      379,320Accumulated
      amortization
                      
                      $
                      3,620,538
                      
                      
                      $
                      3,437,237




* Other
identifiable intangible assets — indefinite lived consists of product
formulations.




NOTE 6 — RESTRICTED
CASH




At June
30, and March 31, 2010, the Company had €331,137 or $404,169 (translated at the
June 30, 2010 exchange rate) and €515,845 or $693,966 (translated at the March
31, 2010 exchange rate), respectively, of cash restricted from withdrawal and
held by a bank in Ireland as collateral for overdraft coverage, creditors’
insurance, customs and excise guaranty, and a revolving credit facility. In
April 2010, the Company reduced the aggregate amount of the credit facilities,
and the commensurate cash restricted from withdrawal, by €185,000 or $225,806
(translated at the June 30, 2010 exchange rate).




NOTE 7 — NOTES
PAYABLE AND CAPITAL LEASE





June 30,
                      2010
                    
                    
                    March 31,
                      2010Notes
      payable consist of the following:Note
      payable (A)
                    
                    $
                    527,309
                    
                    
                    $
                    633,332Note
      payable (B)
                    
                    
                    214,225
                    
                    
                    
                    226,137Credit
      agreement (C)
                    
                    
                    1,000,000
                    
                    
                    
                    —Note
      payable (D)
                    
                    
                    2,000,000
                    
                    
                    
                    —Total
                    
                    $
                    3,741,534
                    
                    
                    $
                    859,469




A.
              In
      connection with the Betts & Scholl asset acquisition in
      September 2009, the Company issued a secured promissory note in the
      aggregate principal amount of $1,094,541. This note is secured by the
      Betts & Scholl inventory acquired by the Company under a security
      agreement. This note provides for an initial payment of $250,000, paid at
      closing, and for eight equal quarterly payments of principal and interest,
      with the final payment due on September 21, 2011. Interest under this
      note accrues at an annual rate of 0.84%, compounded quarterly. This note
      contains customary events of default, which if uncured, entitle the holder
      to accelerate the due date of the unpaid principal amount of, and all
      accrued and unpaid interest on, the note. At June 30, 2010, $426,328 and
      $100,981of principal due on this note is included in current and long-term
      liabilities, respectively.




B.
              In
      December 2009, GCP issued a promissory note (the “GCP Note”) in the
      aggregate principal amount of $211,580 to Gosling's Export (Bermuda)
      Limited in exchange for credits issued on certain inventory purchases. The
      GCP Note matures on April 1, 2020, is payable at maturity, subject to
      certain acceleration events, and calls for annual interest of 5%, to be
      accrued and paid at maturity. Interest has been recorded retroactive to
      November 15, 2008. At June 30, 2010, $214,225, consisting of $211,580
      of principal and $2,645 of accrued interest, due on the GCP Note is
      included in long-term
liabilities.




11


CASTLE
BRANDS INC. AND SUBSIDIARIES
 Notes to
Unaudited Condensed Consolidated Financial Statements- Continued


C.
              In
      December 2009, the Company entered into a $2,500,000 revolving credit
      agreement with, among others, Frost Gamma Investments Trust, an entity
      affiliated with Phillip Frost, M.D., a director and principal shareholder
      of the Company, Vector Group Ltd., a principal shareholder of the Company,
      Lafferty Ltd., a principal shareholder of the Company, IVC Investors,
      LLLP, an entity affiliated with Glenn Halpryn, a Company director, Mark
      Andrews, the Company’s Chairman, and Richard J. Lampen, the Company’s
      President and Chief Executive Officer. Under the credit agreement, the
      Company may borrow from time to time up to $2,500,000 to be used for
      working capital or general corporate purposes. Borrowings under the credit
      agreement mature on April 1, 2013 and bear interest at a rate of 11%
      per annum, payable quarterly. The credit agreement provides for the
      payment of an aggregate commitment fee of $75,000 payable to the lenders
      over the three-year period. The note issued under the credit agreement
      contains customary events of default, which if uncured, entitle the
      holders to accelerate the due date of the unpaid principal amount of, and
      all accrued and unpaid interest on, such note. Amounts may be repaid and
      reborrowed under the revolving credit agreement without penalty. The note
      is secured by the inventory and trade accounts receivable of CB-USA,
      subject to certain exceptions, pursuant to a security agreement. At June
      30, 2010, $1,000,000 of principal due on this credit agreement is
      outstanding and is included in long-term
  liabilities.




D.
              In
      June 2010, the Company issued a $2,000,000 promissory note to Frost Gamma
      Investments Trust. Borrowings under the note mature on June 21, 2012 and
      bear interest at a rate of 11% per annum. Interest accrues quarterly and
      is payable at maturity. The note may be prepaid in whole or in part at any
      time prior to maturity without penalty, but with payment of accrued
      interest to the date of prepayment. At June 30, 2010, $2,000,000 of
      principal due on this note is included in long-term
      liabilities.


NOTE 8 — EQUITY




Common stock — In
June 2010, the Company issued 3,000,000 shares of its common stock in exchange
for fine wine inventory. The
inventory was valued at $840,000 based on the closing price of the common stock
on the date of the transaction.




Share repurchase – In
June 2010, the Company repurchased 3,790,562 shares of its common stock at a
price of $0.27 per share in a privately-negotiated transaction. Also, the
Company’s board of directors approved a stock repurchase program authorizing the
Company to repurchase up to an additional 2,500,000 shares of its common stock.
As of June 30, 2010, no shares of the Company’s common stock had been
repurchased under the repurchase program.




NOTE 9 — FOREIGN
CURRENCY FORWARD CONTRACTS




The
Company enters into forward contracts to reduce its exposure to foreign currency
fluctuations. The Company recognizes in the balance sheet derivative contracts
at fair value, and reflects any net gains and losses currently in earnings. At
June 30, 2010, the Company held outstanding forward exchange positions for the
purchase of Euros, which expire through September 2010, in the amount of
$372,380 with a weighted average conversion rate of €1 = $1.24126 as compared to
the spot rate at June 30, 2010 of €1 = $1.22055. At March 31, 2010, the Company
had no forward contracts outstanding. Gain or loss on foreign currency forward
contracts, which was de minimis during the periods presented, is included in
other income and expense.




NOTE 10 — STOCK-BASED
COMPENSATION




In June
2010, the Company granted to employees and directors options to purchase an
aggregate of 1,350,000 shares of the Company’s common stock at an exercise price
of $0.35 per share. The options, which expire in June 2020, vest 25% on each of
the first four anniversaries of the date of grant. The Company has valued the
options at $225,018 using the Black-Scholes option pricing
model.




Stock-based
compensation expense for the three months ended June 30, 2010 and 2009 amounted
to $36,289 and $40,496, respectively. At June 30, 2010, total unrecognized
compensation cost amounted to approximately $405,151, representing 3,113,750
unvested options. This cost is expected to be recognized over a weighted-average
period of 9.2 years. There were 10,600 shares exercised during the three
months ended June 30, 2010 and none exercised during the three months ended June
30, 2009. The Company did not recognize any related tax benefit for the three
months ended June 30, 2010 and 2009 from these option exercises.




NOTE 11 — COMMITMENTS
AND CONTINGENCIES




A.
              The
      Company has entered into a supply agreement with Irish Distillers Limited
      (“Irish Distillers”), which provides for the production of Irish whiskeys
      for the Company through 2014, subject to annual extensions thereafter,
      provided that the Company and Irish Distillers agree on the amount of
      liters of pure alcohol to be provided in the following year. Irish
      Distillers may terminate this agreement at the end of its term in 2014.
      Under this agreement, the Company is obligated to notify Irish Distillers
      annually of the amount of liters of pure alcohol it requires for the
      current contract year and contracts to purchase that amount. For the
      contract year ending June 30, 2011, the Company has contracted to
      purchase approximately €909,882 or $1,110,556 (translated at the June 30,
      2010 exchange rate) in bulk Irish whiskey. The Company is not obligated to
      pay Irish Distillers for any product not yet received. During the term of
      this supply agreement, Irish Distillers has the right to limit additional
      purchases above the commitment
amount.




12


CASTLE
BRANDS INC. AND SUBSIDIARIES
 Notes to
Unaudited Condensed Consolidated Financial Statements -
Continued


B.
              The
      Company leases office space in New York, NY, Dublin, Ireland and Houston,
      TX. The New York, NY lease began on April 1, 2010 and expires on April
      2012 and provides for monthly payments of $16,779. The Dublin lease
      commenced on March 1, 2009 and extends through November 30, 2013
      and calls for monthly payments of €1,394 or $1,701 (translated at the June
      30, 2010 exchange rate). The Houston, TX lease commenced on
      February 24, 2000 and extends through January 31, 2011 and calls
      for monthly payments of $1,778. The Company has also entered into
      non-cancelable operating leases for certain office
    equipment.







NOTE 12 — CONCENTRATIONS




A.
              Credit Risk —
      The Company maintains its cash and cash equivalents balances at various
      large financial institutions that, at times, may exceed federally and
      internationally insured limits. As of June 30, and March 31, 2010, the
      Company exceeded the insured limit by approximately $65,000 and $760,0000,
      respectively.




B.
              Customers —
      Sales to three customers accounted for approximately 43.5% of the
      Company’s revenues for the three months ended June 30, 2010 (of which one
      customer accounted for 27.1%) and approximately 43.7% of accounts
      receivable at June 30, 2010. Sales to three customers accounted for
      approximately 45.0% of the Company’s revenues for the three months ended
      June 30, 2009 (of which one customer accounted for 31.3% of total
      sales). Sales to three customers accounted for approximately 40.3% of
      accounts receivable at June 30,
2009.




NOTE 13 — GEOGRAPHIC
INFORMATION




The
Company operates in one reportable segment — the sale of premium beverage
alcohol. The Company’s product categories are vodka, rum, liqueurs, whiskey,
tequila and fine wine. The Company reports its operations in two geographic
areas: International and United States.




The
consolidated financial statements include revenues and assets generated in or
held in the U.S. and foreign countries. The following table sets forth the
amounts and percentage of consolidated revenue, consolidated results from
operations, consolidated net loss attributable to common shareholders,
consolidated income tax benefit and consolidated assets from the U.S. and
foreign countries and consolidated revenue by category.




13


CASTLE
BRANDS INC. AND SUBSIDIARIES
 Notes to
Unaudited Condensed Consolidated Financial Statements -
Continued


Three months ended June 30,2010
                                    
                                    
                                    2009Consolidated
      Revenue:International
                                    
                                    $
                                    795,986
                                    
                                    
                                    
                                    13.0
                                    %
                                    
                                    $
                                    881,688
                                    
                                    
                                    
                                    15.1
                                    %United
      States
                                    
                                    
                                    5,314,509
                                    
                                    
                                    
                                    87.0
                                    %
                                    
                                    
                                    4,972,538
                                    
                                    
                                    
                                    84.9
                                    %Total
      Consolidated Revenue
                                    
                                    $
                                    6,110,495
                                    
                                    
                                    
                                    100.0
                                    %
                                    
                                    $
                                    5,854,226
                                    
                                    
                                    
                                    100.0
                                    %Consolidated
      Results from Operations:International
                                    
                                    $
                                    15,318
                                    
                                    
                                    
                                    (1.0
                                    )%
                                    
                                    $
                                    (73,066
                                    )
                                    
                                    
                                    3.7
                                    %United
      States
                                    
                                    
                                    (1,756,968
                                    )
                                    
                                    
                                    101.0
                                    %
                                    
                                    
                                    (1,890,874
                                    )
                                    
                                    
                                    96.3
                                    %Total
      Consolidated Results from Operations
                                    
                                    $
                                    (1,741,650
                                    )
                                    
                                    
                                    100.0
                                    %
                                    
                                    $
                                    (1,963,940
                                    )
                                    
                                    
                                    100.0
                                    %Consolidated
      Net Loss Attributable to Common Shareholders:International
                                    
                                    $
                                    (59,586
                                    )
                                    
                                    
                                    3.5
                                    %
                                    
                                    $
                                    (242,212
                                    )
                                    
                                    
                                    43.3
                                    %United
      States
                                    
                                    
                                    (1,663,222
                                    )
                                    
                                    
                                    96.5
                                    %
                                    
                                    
                                    (316,781
                                    )
                                    
                                    
                                    56.7
                                    %Total
      Consolidated Net Loss Attributable to Common Shareholders
                                    
                                    $
                                    (1,722,808
                                    )
                                    
                                    
                                    100.0
                                    %
                                    
                                    $
                                    (558,993
                                    )
                                    
                                    
                                    100.0
                                    %Income
      tax benefit:United
      States
                                    
                                    
                                    37,038
                                    
                                    
                                    
                                    100.0
                                    %
                                    
                                    
                                    37,038
                                    
                                    
                                    
                                    100.0
                                    %Consolidated
      Revenue by category:Rum
                                    
                                    $
                                    2,679,634
                                    
                                    
                                    
                                    43.9
                                    %
                                    
                                    $
                                    2,267,207
                                    
                                    
                                    
                                    38.7
                                    %Liqueurs
                                    
                                    
                                    1,190,318
                                    
                                    
                                    
                                    19.5
                                    %
                                    
                                    
                                    1,038,751
                                    
                                    
                                    
                                    17.8
                                    %Whiskey
                                    
                                    
                                    869,420
                                    
                                    
                                    
                                    14.2
                                    %
                                    
                                    
                                    925,826
                                    
                                    
                                    
                                    15.8
                                    %Vodka
                                    
                                    
                                    820,404
                                    
                                    
                                    
                                    13.4
                                    %
                                    
                                    
                                    1,229,360
                                    
                                    
                                    
                                    21.0
                                    %Tequila
                                    
                                    
                                    73,600
                                    
                                    
                                    
                                    1.2
                                    %
                                    
                                    
                                    176,935
                                    
                                    
                                    
                                    3.0
                                    %Fine
      Wine
                                    
                                    
                                    170,001
                                    
                                    
                                    
                                    2.8
                                    %
                                    
                                    
                                    —
                                    
                                    
                                    
                                    —
                                    %Other*
                                    
                                    
                                    307,118
                                    
                                    
                                    
                                    5.0
                                    %
                                    
                                    
                                    216,147
                                    
                                    
                                    
                                    3.7
                                    %Total
      Consolidated Revenue
                                    
                                    $
                                    6,110,495
                                    
                                    
                                    
                                    100.0
                                    %
                                    
                                    $
                                    5,854,226
                                    
                                    
                                    
                                    100.0
                                    %
  As
      of June 30,2010
                                    
                                    
                                    As
      of March 31,2010Consolidated
      Assets:International
                                    
                                    $
                                    2,614,602
                                    
                                    
                                    
                                    8.2
                                    %
                                    
                                    
                                    3,167,893
                                    
                                    
                                    
                                    10.3
                                    %United
      States
                                    
                                    
                                    29,118,554
                                    
                                    
                                    
                                    91.8
                                    %
                                    
                                    
                                    27,721,894
                                    
                                    
                                    
                                    89.7
                                    %Total
      Consolidated Assets
                                    
                                    $
                                    31,733,156
                                    
                                    
                                    
                                    100.0
                                    %
                                    
                                    
                                    30,889,787
                                    
                                    
                                    
                                    100.0
                                    %


*
Includes related non-beverage alcohol products.


14




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




Overview




We
develop and market premium brands in the following beverage alcohol categories:
vodka, rum, whiskey, liqueurs, tequila and fine wine. We distribute these
spirits in all 50 U.S. states and the District of Columbia, in twelve primary
international markets, including Ireland, Great Britain, Northern Ireland,
Germany, Canada, Bulgaria, France, Russia, Finland, Norway, Sweden, China and
the Duty Free markets, and in a number of other countries in continental Europe
and Latin America. We market the following brands, among others, Gosling’s
Rum®, Jefferson’sTM,
Jefferson’s Reserve® and
Jefferson's Presidential SelectTM
bourbons, Clontarf® Irish
Whiskey, Pallini®
liqueurs, Boru® vodka,
Knappogue Castle Whiskey®,
TierrasTM tequila
and Betts & SchollTM
wines.




Our
objective is to continue building a distinctive portfolio of global premium
spirits, super premium and fine wine brands. We have shifted our focus from a
volume-oriented approach to a profit-centric focus. To achieve this, we continue
to seek to:




•
            increase
      revenues from existing brands. We are focusing our existing
      distribution relationships, sales expertise and targeted marketing
      activities to concentrate on our more profitable brands by expanding our
      domestic and international distribution relationships to increase the
      mutual benefits of concentrating on our most profitable brands, while
      continuing to achieve brand recognition and growth and gain additional
      market share for our brands within retail stores, bars and restaurants,
      and thereby with end consumers;




•
            improve
      value chain and manage cost structure. We have undergone a
      comprehensive review and analysis of our supply chains and cost structures
      both on a company-wide and brand-by-brand basis. This has included
      restructurings and personnel reductions throughout our company. We further
      intend to map, analyze and redesign our purchasing and supply systems to
      reduce costs in our current operations and achieve profitability in future
      operations;




•
            selectively
      add new premium brands to our portfolio. We intend to continue
      developing new brands and pursuing strategic relationships, joint ventures
      and acquisitions to selectively expand our premium spirits and fine wine
      portfolio, particularly by capitalizing on and expanding our already
      demonstrated partnering capabilities. Our criteria for new brands focuses
      on underserved areas of the beverage alcohol marketplace, while examining
      the potential for direct financial contribution to our company and the
      potential for future growth based on development and maturation of agency
      brands. We will evaluate future acquisitions and agency relationships on
      the basis of their potential to be immediately accretive and their
      potential contributions to our objectives of becoming profitable and
      further expanding our product offerings. We expect that future
      acquisitions, if consummated, would involve some combination of cash, debt
      and the issuance of our stock; and




•
            cost
      containment. We have taken significant steps to reduce our costs,
      which has resulted in a significant decrease in selling expense and
      general and administrative expense. These steps included: reducing staff
      in our U.S. and international operations; restructuring our international
      distribution system; changing distributor relationships in certain
      markets; moving production of certain products to a lower cost facility in
      the U.S.; and reducing general and administrative costs, including
      professional fees, insurance, occupancy and other overhead costs. Efforts
      to further reduce expenses
continue.




Recent Events




Promissory
Note




In June
2010, we issued a $2.0 million promissory note to Frost Gamma Investments Trust,
an entity affiliated with Phillip Frost, M.D., a director and principal
shareholder of ours, which we refer to as the Frost Note. Borrowings under the
Frost Note mature on June 21, 2012 and bear interest at a rate of 11% per annum.
Interest accrues quarterly and is due at maturity. The Frost Note may be prepaid
in whole or in part at any time prior to maturity without penalty, but with
payment of accrued interest to the date of prepayment.




Share
Repurchase




In June
2010, we repurchased 3,790,562 shares of our common stock at a price of $0.27
per share in a privately-negotiated transaction. Also, our board of directors
approved a stock repurchase program authorizing us to repurchase up to an
additional 2.5 million shares of our common stock.




15




Currency
Translation




The
functional currencies for our foreign operations are the Euro in Ireland and
continental Europe and the British Pound in the United Kingdom. With respect to
our consolidated financial statements, the translation from the applicable
foreign currencies to U.S. Dollars is performed for balance sheet accounts using
exchange rates in effect at the balance sheet date and for revenue and expense
accounts using a weighted average exchange rate during the period. The resulting
translation adjustments are recorded as a component of other comprehensive
income. Previously, gains or losses resulting from balances due from funding our
international subsidiaries, were included in other income (expenses). In
November 2009, to improve the liquidity of our foreign subsidiaries, we
converted our intercompany balances into an additional investment in these
subsidiaries. Beginning December 1, 2009, the translation gain or loss from the
restatement of the investments in our foreign subsidiaries is included in other
comprehensive income. Prior to this conversion, we considered these transactions
to be trading balances and short-term funding subject to transaction adjustment.
As such, at each balance sheet date, we restated the Euro denominated
intercompany balances included on the books of the foreign subsidiaries in U.S.
Dollars at the exchange rate in effect at the balance sheet date, with the
resulting foreign currency transaction gain or loss included in net
loss.




Where in
this report we refer to amounts in Euros, we have for your convenience also in
certain cases provided a conversion of those amounts to U.S. Dollars in
parentheses. Where the numbers refer to a specific balance sheet account date or
financial statement account period, we have used the exchange rate that was used
to perform the conversions in connection with the applicable financial
statement. In all other instances, unless otherwise indicated, the conversions
have been made using the exchange rates as of June 30, 2010, each as calculated
from the Interbank exchange rates as reported by Oanda.com. On June 30, 2010,
the exchange rate of the Euro in exchange for U.S. Dollars was €1.00 = U.S.
$1.22055 (equivalent to U.S. $1.00 = €0.81930) for Euros.




These
conversions should not be construed as representations that the Euro amounts
actually represent U.S. Dollar amounts or could be converted into U.S. Dollars
at the rates indicated.




Critical
Accounting Policies




There are
no material changes from the critical accounting policies set forth in
Item 7, “Management’s Discussion and Analysis of Financial Condition and
Results of Operations” in our annual report on Form 10-K for the year ended
March 31, 2010, as amended, which we refer to as our 2010 Annual Report.
Please refer to that section for disclosures regarding the critical accounting
policies related to our business.




Financial
performance overview




The
following table provides information regarding our case sales for the periods
presented based on nine-liter equivalent cases, which is a standard spirits
industry metric:




Three months ended
                              June 30,2010
                            
                            
                            2009CasesUnited
      States
                            
                            
                            45,842
                            
                            
                            
                            47,878International
                            
                            
                            12,968
                            
                            
                            
                            13,791Total
                            
                            
                            58,810
                            
                            
                            
                            61,669Rum
                            
                            
                            26,432
                            
                            
                            
                            23,008Vodka
                            
                            
                            14,910
                            
                            
                            
                            22,535Liqueurs
                            
                            
                            11,123
                            
                            
                            
                            9,242Whiskey
                            
                            
                            5,363
                            
                            
                            
                            6,258Tequila
                            
                            
                            258
                            
                            
                            
                            626Fine
      Wine
                            
                            
                            724
                            
                            
                            
                            —Total
                            
                            
                            58,810
                            
                            
                            
                            61,669Percentage
      of CasesUnited
      States
                            
                            
                            77.9
                            %
                            
                            
                            77.6
                            %International
                            
                            
                            22.1
                            %
                            
                            
                            22.4
                            %Total
                            
                            
                            100.0
                            %
                            
                            
                            100.0
                            %Rum
                            
                            
                            44.9
                            %
                            
                            
                            37.3
                            %Vodka
                            
                            
                            25.5
                            %
                            
                            
                            36.6
                            %Liqueurs
                            
                            
                            18.9
                            %
                            
                            
                            15.0
                            %Whiskey
                            
                            
                            9.1
                            %
                            
                            
                            10.1
                            %Tequila
                            
                            
                            0.4
                            %
                            
                            
                            1.0
                            %Fine
      Wine
                            
                            
                            1.2
                            %
                            
                            
                            0.0
                            %Total
                            
                            
                            100.0
                            %
                            
                            
                            100.0
                            %




16




Results
of operations




The table below provides, for the periods indicated, the percentage of net
sales of certain items in our consolidated financial statements:




Three months ended June 30,2010
                                  
                                  
                                  2009Sales,
      net
                                  
                                  
                                  100.0
                                  %
                                  
                                  
                                  100.0
                                  %Cost
      of sales
                                  
                                  
                                  63.6
                                  %
                                  
                                  
                                  67.6
                                  %Reversal
      of provision for obsolete inventory
                                  
                                  
                                  (0.4
                                  )%
                                  
                                  
                                  (7.0
                                  )%Gross
      profit
                                  
                                  
                                  36.8
                                  %
                                  
                                  
                                  39.4
                                  %Selling
      expense
                                  
                                  
                                  41.1
                                  %
                                  
                                  
                                  45.8
                                  %General
      and administrative expense
                                  
                                  
                                  20.4
                                  %
                                  
                                  
                                  23.4
                                  %Depreciation
      and amortization
                                  
                                  
                                  3.9
                                  %
                                  
                                  
                                  3.7
                                  %Loss
      from operations
                                  
                                  
                                  (28.6
                                  )%
                                  
                                  
                                  (33.5
                                  )%Other
      income
                                  
                                  
                                  0.0
                                  %
                                  
                                  
                                  0.0
                                  %Other
      expense
                                  
                                  
                                  0.0
                                  %
                                  
                                  
                                  (0.2
                                  )%Foreign
      exchange gain
                                  
                                  
                                  0.9
                                  %
                                  
                                  
                                  17.8
                                  %Interest
      income (expense), net
                                  
                                  
                                  (0.4
                                  )%
                                  
                                  
                                  0.3
                                  %Gain
      on exchange of note payable
                                  
                                  
                                  0.0
                                  %
                                  
                                  
                                  4.6
                                  %Income
      tax benefit
                                  
                                  
                                  0.6
                                  %
                                  
                                  
                                  0.6
                                  %Net
      loss
                                  
                                  
                                  (27.5
                                  )%
                                  
                                  
                                  (10.4
                                  )%Net
      (income) loss attributable to noncontrolling interests
                                  
                                  
                                  (0.8
                                  )%
                                  
                                  
                                  0.8
                                  %Net
      loss attributable to common shareholders
                                  
                                  
                                  (28.3
                                  )%
                                  
                                  
                                  (9.6
                                  )%




Three
months ended June 30, 2010 compared with three months ended June 30,
2009





Net sales. Net sales
increased 4.4% to $6.1 million for the three months ended June 30, 2010, as
compared to $5.9 million for the comparable prior-year period. Our U.S. case
sales as a percentage of total case sales increased to 77.9% for the three
months ended June 30, 2010, as compared to 77.6% for the comparable prior-year
period. U.S. net sales increased to $5.3 million for the three months ended
June 30, 2010 from $5.0 million for the comparable prior-year period. 2010
results include $0.1 million in revenue from sales of Jefferson’s
Presidential Select bourbon, which we launched in August 2009, and
$0.2 million in revenue from sales of our Betts & Scholl wines, which
we acquired in September 2009. The growth in U.S. sales reflects the momentum of
most of our portfolio in the U.S., particularly for our Gosling’s rums. Boru
vodka sales decreased due to our focus on improved margins for this brand and
increased competition due to price reductions by competing brands. Case
sales decreased while net sales increased in the three months ended June 30,
2010 as compared to the three months ended June 30, 2009 as we focused our
efforts on our more profitable brands and markets.




17




The table
below presents the increase or decrease, as applicable, in case sales by product
category for the three months ended June 30, 2010 as compared to the three
months ended June 30, 2009:




Increase/(decrease)
                        
                        
                        Percentagein case sales
                        
                        
                        increase/(decrease)Overall
                        
                        
                        U.S.
                        
                        
                        Overall
                        
                        
                        U.S.Rum
                        
                        
                        3,424
                        
                        
                        
                        1,324
                        
                        
                        
                        14.9
                        %
                        
                        
                        6.8
                        %Vodka
                        
                        
                        (7,625
                        )
                        
                        
                        (5,715
                        )
                        
                        
                        (33.8
                        )%
                        
                        
                        (34.4
                        )%Liqueurs
                        
                        
                        1,881
                        
                        
                        
                        1,724
                        
                        
                        
                        20.4
                        %
                        
                        
                        19.1
                        %Whiskey
                        
                        
                        (895
                        )
                        
                        
                        275
                        
                        
                        
                        (14.3
                        )%
                        
                        
                        12.2
                        %Tequila
                        
                        
                        (368
                        )
                        
                        
                        (368
                        )
                        
                        
                        (58.8
                        )%
                        
                        
                        (58.8
                        )%Fine
      Wine
                        
                        
                        724
                        
                        
                        
                        724
                        
                        
                        
                        0.0
                        %
                        
                        
                        0.0
                        %Total
                        
                        
                        (2,859
                        )
                        
                        
                        (2,036
                        )
                        
                        
                        (4.6
                        )%
                        
                        
                        (4.3
                        )%




Gross profit. Gross profit
was $2.3 million for each of the three months ended June 30, 2010 and 2009,
while our gross margin decreased to 36.8% for the three months ended June 30,
2010 compared to 39.4% for the comparable prior-year period. During the three
months ended June 30, 2010 and 2009, we recorded reversals of our allowance for
obsolete and slow moving inventory of $0.02 million and $0.4 million,
respectively. We recorded these reversals because we were able to sell certain
goods included in the allowance recorded during previous fiscal years. We
recorded the reversals as a decrease in cost of sales. Absent the reversals of
the allowance, our gross profit was $2.2 million and $1.9 million for
the three months ended June 30, 2010 and 2009, respectively, and our gross
margin was 36.4% and 32.4%, respectively. Absent
the reversals, our gross profit and gross margin increased in the current
period as we focused our efforts on our more profitable brands and
markets.


Selling expense. Selling
expense decreased 6.3% to $2.5 million for the three months ended June 30, 2010
from $2.7 million for the comparable prior-year period. This decrease in selling
expense was attributable to our continued cost containment efforts, primarily
due to a decrease in advertising, marketing and promotion expense of $0.3
million for the three months ended June 30, 2010 compared to the comparable
prior-year period. This decrease was offset by an increase in employee expense,
including salaries, related benefits and travel and entertainment, of $0.1
million for the three months ended June 30, 2010 compared to the comparable
prior-year period, due to the addition of staff in our Fine Wine Division. As a
result of our continued cost containment efforts, selling expense as a
percentage of net sales decreased to 41.1% for the three months ended June 30,
2010 as compared to 45.8% for the comparable prior-year period.




General and administrative
expense. General and administrative expense decreased 9.4% to $1.2
million for the three months ended June 30, 2010 as compared to $1.4 million for
the comparable prior-year period, primarily due to decreases of $0.1 million in
professional fees and $0.1 million in insurance expense, respectively, due to
our ongoing cost containment efforts. As a result, general and administrative
expense as a percentage of net sales decreased to 20.4% for the three months
ended June 30, 2010 as compared to 23.5% for the comparable prior-year
period.




Depreciation and
amortization. Depreciation and amortization was $0.2 million for each of
the three months ended June 30, 2010 and 2009.




Loss from operations. As a
result of the foregoing, our loss from operations improved $0.3 million, or
11.3%, to $1.7 million for the three months ended June 30, 2010 from $2.0
million for the comparable prior-year period. As a result of our continued cost
containment efforts, our focus on our more profitable brands and markets, and
expected growth from our existing brands, recently acquired brands and brands we
may acquire in the future, we anticipate continued improved results of
operations in the near term as compared to comparable prior-year periods,
although there is no assurance that we will attain such results.




Foreign exchange gain.
Foreign exchange gain for the three months ended June 30, 2010 was $0.1 million
as compared to a gain of $1.0 million for the three months ended June 30, 2009
due to the strengthening of the U.S. dollar against the Euro and the British
Pound and its effect on our Euro- and British Pound-denominated intercompany
advances to our foreign subsidiaries. In November 2009, to improve the liquidity
of our foreign subsidiaries, we converted our intercompany balances into an
additional investment in these subsidiaries. Beginning December 1, 2009, the
translation gain or loss from the restatement of the investments in our foreign
subsidiaries is included in other comprehensive income. Prior to this
conversion, we considered these transactions to be trading balances and
short-term funding subject to transaction adjustment under ASC 830, "Foreign
Currency Matters". As such, at each balance sheet date, we restated the Euro
denominated intercompany balances included on the books of the foreign
subsidiaries in U.S. Dollars at the exchange rate in effect at the balance sheet
date, with the resulting foreign currency transaction gain or loss included in
net loss.




18


Interest (expense) income,
net. We had interest expense, net of ($0.03) million for the three months
ended June 30, 2010 as compared to interest income, net of $0.02 million for the
three months ended June 30, 2009. The increase in interest expense is due to the
outstanding balances on our notes payable as described below in “Liquidity and
Capital Resources,” particularly our $2.5 million revolving credit facility. We
expect interest expense to increase in future periods due to borrowings under
the Frost Note and our expected borrowings over the next three years of up to
the full limit of our revolving credit facility to fund operations, inventory
requirements and potential acquisition opportunities.





Gain on exchange of note
payable. In May 2009, we exchanged our subsidiary's outstanding 3% note
payable for 200,000 shares of our common stock. This resulted in a pre-tax,
non-cash gain of $0.3 million for the three months ended June 30,
2009.




Net (income) loss attributable to
noncontrolling interests. Net (income) loss attributable to
noncontrolling interests during the three months ended June 30, 2010 amounted to
a loss of ($0.05) million as compared to income of $0.05 million for the
comparable prior-year period, both the result of allocated net results recorded
by our 60%-owned subsidiary, Gosling-Castle Partners, Inc.




Net loss attributable to common
shareholders. As a result of the net effects of the foregoing, net loss
attributable to common shareholders for the three months ended June 30, 2010
increased to a loss of $1.7 million from a loss of $0.6 million for the three
months ended June 30, 2009. Net loss per common share, basic and diluted, was
$0.02 per share for the three months ended June 30, 2010 as compared to $0.01
per share for the comparable prior-year period.




Liquidity
and capital resources




Since our
inception, we have incurred significant operating and net losses and have not
generated positive cash flows from operations. For the three months ended June
30, 2010, we had a net loss of $1.7 million, and used cash of $2.4 million in
operating activities. As of June 30, 2010, we had an accumulated deficit of
$113.8 million.




In June
2010, we issued the $2.0 million Frost Note. Borrowings under the Frost
Note mature on June 21, 2012 and bear interest at a rate of 11% per annum.
Interest is accrued quarterly and due at maturity. The Frost Note may be prepaid
in whole or in part at any time prior to maturity without penalty, but with
payment of accrued interest to the date of prepayment. The Frost Note does not
contain any financial covenants.




In
December 2009, we entered into a $2.5 million revolving credit agreement
with, among others, Frost Gamma Investments Trust, an entity affiliated with
Phillip Frost, M.D., a director and principal shareholder of our company, Vector
Group Ltd., a principal shareholder of our company, Lafferty Ltd., a principal
shareholder of our company, IVC Investors, LLLP, an entity affiliated with Glenn
Halpryn, a director of our company, Mark Andrews, our chairman, and Richard J.
Lampen, our president and chief executive officer. Under the credit agreement,
we may borrow from time to time up to $2.5 million to be used for working
capital or general corporate purposes. Borrowings under the credit agreement
mature on April 1, 2013 and bear interest at a rate of 11% per annum,
payable quarterly. The credit agreement provides for the payment of an aggregate
commitment fee of $75,000 payable to the lenders over the three-year period. The
note issued under the credit agreement contains customary events of default,
which if uncured, entitle the holders to accelerate the due date of the unpaid
principal amount of, and all accrued and unpaid interest on, such note. Amounts
may be repaid and reborrowed under the revolving credit agreement without
penalty. At June 30, 2010, the note was secured by $10.0 million of inventory
and $4.4 million in trade accounts receivable of Castle Brands (USA) Corp. under
a security agreement. In April 2010, we borrowed $1.0 million under the credit
agreement.





In
connection with the September 2009 Betts & Scholl acquisition, we issued a
secured promissory note in the aggregate principal amount of $1.1 million. The
note is secured under a security agreement by the Betts & Scholl inventory
acquired. The note provides for an initial payment of $0.3 million, paid at
closing, and for eight equal quarterly payments of principal and interest, with
the final payment due on September 21, 2011. Interest under the note accrues at
an annual rate of 0.84%, compounded quarterly. The note contains customary
events of default, which if uncured, entitle the holder to accelerate the due
date of the unpaid principal amount of, and all accrued and unpaid interest on,
the note.




In
December 2009, Gosling-Castle Partners, Inc., a 60% owned subsidiary, issued a
promissory note in the aggregate principal amount of $0.2 million to Gosling's
Export (Bermuda) Limited in exchange for credits issued on certain inventory
purchases. This note matures on April 1, 2020, is payable at maturity, subject
to certain acceleration events, and calls for annual interest of 5%, to be
accrued and paid at maturity. Interest has been recorded retroactive to November
15, 2008.




19


We expect
our current cash and working capital and funds available to us under our
revolving credit agreement, to provide us with sufficient funds to execute our
planned operations for at least the next twelve months. We anticipate that from
time to time we may borrow up to the full limit of our credit facility to fund
operations, inventory requirements and potential acquisition
opportunities.




As of
June 30, 2010, we had shareholders’ equity of $20.7 million as compared to $22.8
million at March 31, 2010. This decrease is primarily due to our total
comprehensive loss in three months ended June 30, 2010. We had working capital
of $12.6 million at June 30, 2010 as compared to $11.3 million as of March 31,
2010. This increase is primarily due to increased inventory, particularly
fine wine inventory.




As of
June 30, 2010, we had cash and cash equivalents of approximately $0.9 million,
as compared to $1.3 million as of March 31, 2010. The decrease is primarily
attributable to the funding of our operations and working capital needs for the
three months ended June 30, 2010. At June 30, 2010, we also had approximately
$0.4 million of cash restricted from withdrawal and held by a bank in Ireland as
collateral for overdraft coverage, creditors’ insurance, revolving credit, and
other working capital purposes.




The
following may result in a material decrease in our liquidity over the
near-to-mid term:




•
            continued
      significant levels of cash losses from
  operations;




•
            an
      increase in working capital requirements to finance higher levels of
      inventories and accounts
receivable;




•
            our
      ability to maintain and improve our relationships with our distributors
      and our routes to market;




•
            our
      ability to procure raw materials at a favorable price to support our level
      of sales;




•
            potential
      acquisition of additional brands;
and




•
            expansion
      into new markets and within existing markets in the United States and
      internationally.




We
continue to implement a plan supporting the growth of existing brands through
sales and marketing initiatives that we expect will generate cash flows from
operations in the next few years. As part of this plan, we seek to grow our
business through expansion to new markets, growth in existing markets and
strengthened distributor relationships. We are also seeking additional brands
and agency relationships to leverage our existing distribution platform. We
intend to finance our brand acquisitions through a combination of our available
cash resources, borrowings and, in appropriate circumstances, the further
issuance of equity and/or debt securities. Acquiring additional brands could
have a significant effect on our financial position, could materially reduce our
liquidity and could cause substantial fluctuations in our quarterly and yearly
operating results. We are also taking a systematic approach to expense
reduction, seeking improvements in routes to market and containing production
costs to improve cash flows.




Cash
flows




The following table summarizes our primary sources and uses of cash during
the periods presented:




Three
      months endedJune
      30,2010
                          
                          2009(in
      thousands)Net
      cash provided by (used in):Operating
      activities
                          
                          $
                          (2,418
                          )
                          
                          $
                          (3,142
                          )Investing
      activities
                          
                          
                          (65
                          )
                          
                          
                          (29
                          )Financing
      activities
                          
                          
                          2,114
                          
                          
                          
                          (303
                          )Effect
      of foreign currency translation
                          
                          
                          (23
                          )
                          
                          
                          1Net
      decrease in cash and cash equivalents
                          
                          $
                          (392
                          )
                          
                          $
                          (3,473
                          )


Operating
activities. A substantial portion of available cash has been used to fund
our operating activities. In general, these cash funding requirements are based
on operating losses, driven chiefly by the inherent costs in developing and
maintaining our distribution system and our sales and marketing activities. We
have also utilized cash to fund our receivables and inventories. In general,
these cash outlays for receivables and inventories are only partially offset by
increases in our accounts payable to our suppliers and accrued
expenses.




20


On
average, the production cycle for our owned brands is up to three months from
the time we obtain the distilled spirits, bulk wine and other materials needed
to bottle and package our products to the time we receive products available for
sale, in part due to the international nature of our business. We do not produce
Gosling’s rums, Pallini liqueurs, Tierras tequila or Brunello di Montalcino
wines. Instead, we receive the finished product directly from the owners of such
brands. From the time we have products available for sale, an additional two to
three months may be required before we sell our inventory and collect payment
from customers.




During
the three months ended June 30, 2010, net cash used in operating activities was
$2.4 million, consisting primarily of a net loss of $1.7 million, a $0.9 million
increase in inventory, a $0.2 million increase in prepaid expenses and supplies
and a $0.9 million decrease in accounts payable and accrued expenses. These uses
of cash were partially offset by a $1.0 million increase in due to related
parties and depreciation and amortization expense of $0.2 million.




During
the three months ended June 30, 2009, net cash used in operating activities
was $3.1 million, consisting primarily of a net loss of $0.6 million, a
decrease in allowance for obsolete inventories of $0.4 million, an increase
in prepaid expense and supplies of $0.3 million, a decrease in accounts
payable and accrued expenses of $1.6 million and the effects of changes in
foreign exchange of $1.3 million. These uses of cash were partially offset
by a $0.7 million decrease in accounts receivable, a $0.2 million
dollar decrease in inventories, a $0.2 million increase in due to related
parties and depreciation and amortization expense of
$0.2 million.





Investing
Activities. Net cash used in investing activities was $0.07 million for
the three months ended June 30, 2010, representing $0.03 million used in the
acquisition of fixed and intangible assets and $0.04 million in payments under
contingent consideration agreements.




Net cash
used in investing activities was $0.03 million during the three months
ended June 30, 2009, representing net purchases of certain short-term
investments.




Financing
activities. Net cash provided by financing activities for the three
months ended June 30, 2010 was $2.1 million, consisting of the $2.0 million
borrowed under the Frost Note, $1.0 million borrowed under our $2.5 million
revolving credit agreement and a $0.2 million reduction in restricted cash.
These proceeds were offset by the repayment of $0.1 million on the Betts &
Scholl note and $1.0 million for the repurchase of our common
stock.




Net cash
used in financing activities during the three months ended June 30, 2009 was
$0.3 million, consisting of the repayment of $0.1 million to a bank in
Ireland under our revolving credit facility and $0.2 million for the
repurchase of our common stock.




Recent
accounting standards issued and adopted.




We
discuss recently issued and adopted accounting standards in the “Accounting
standards adopted” and “Recent accounting pronouncements” sections of Note 1 of
the “Notes to Unaudited Condensed Consolidated Financial Statements” in the
accompanying unaudited condensed consolidated financial statements.




Cautionary
Note Regarding Forward Looking Statements




This
report includes certain “forward-looking statements” within the meaning of the
Private Securities Litigation Reform Act of 1995. These statements, which
involve risks and uncertainties, relate to the discussion of our business
strategies and our expectations concerning future operations, margins,
profitability, liquidity and capital resources and to analyses and other
information that are based on forecasts of future results and estimates of
amounts not yet determinable. We use words such as “may”, “will”, “should”,
“expects”, “intends”, “plans”, “anticipates”, “believes”, “estimates”, “seeks”,
“expects”, “predicts”, “could”, “projects”, “potential” and similar terms and
phrases, including references to assumptions, in this report to identify
forward-looking statements. These forward-looking statements are made based on
expectations and beliefs concerning future events affecting us and are subject
to uncertainties, risks and factors relating to our operations and business
environments, all of which are difficult to predict and many of which are beyond
our control, that could cause our actual results to differ materially from those
matters expressed or implied by these forward-looking statements. These risks
and other factors include those listed under “Risk Factors” in our 2010 Annual
Report, and as follows:




•
            our
      history of losses and expectation of further
  losses;




•
            the
      effect of poor operating results on our
company;




•
            the
      adequacy of our cash resources and our ability to raise additional
      capital;




21




•
            our
      ability to expand our operations in both new and existing markets and our
      ability to develop or acquire new
brands;




•
            our
      relationships with and our dependency on our
  distributors;




•
            the
      impact of supply shortages and alcohol and packaging costs in general, as
      well as our dependency on a limited number of suppliers and inventory
      requirements;




•
            the
      success of our sales and marketing
activities;




•
            economic
      and political conditions generally, including the current recessionary
      economic environment and concurrent market
  instability;




•
            the
      effect of competition in our
industry;




•
            negative
      publicity surrounding our products or the consumption of beverage alcohol
      products in general;




•
            our
      ability to acquire and/or maintain brand recognition and
      acceptance;




•
            trends
      in consumer tastes;




•
            our
      and our strategic partners’ abilities to protect trademarks and other
      proprietary information;




•
            the
      impact of litigation;




•
            the
      impact of currency exchange rate fluctuations and devaluations on our
      revenues, sales and overall financial
results;




•
            our
      executive officers, directors and principal shareholders own a substantial
      portion of our voting stock; and




•
            the
      impact of federal, state, local or foreign government
      regulations.




We
assume no obligation to publicly update or revise these forward-looking
statements for any reason, or to update the reasons actual results could differ
materially from those anticipated in, or implied by, these forward-looking
statements, even if new information becomes available in the
future.




Item 4. Controls and Procedures




Our management is responsible for establishing and maintaining adequate
internal control over financial reporting. Disclosure controls and procedures
are our controls and other procedures that are designed to ensure that
information required to be disclosed by us in the reports that we file or submit
under the Securities Exchange Act of 1934, as amended, is recorded, processed,
summarized and reported, within the time periods specified in the SEC’s rules
and forms. Disclosure controls and procedures include, without limitation,
controls and procedures designed to ensure that information required to be
disclosed by us in the reports that we file or submit under the Securities
Exchange Act of 1934, as amended, is accumulated and communicated to our
management, including our principal executive officer and principal financial
officer, as appropriate to allow timely decisions regarding
disclosure.




Under the supervision and with the participation of our management,
including our principal executive officer and principal financial officer, we
have evaluated the effectiveness of our disclosure controls and procedures (as
defined in Rules 13a—15(e) and 15d-15(e) under the Securities Exchange Act
of 1934, as amended) as of the end of the period covered by this report, and,
based on that evaluation, our principal executive officer and principal
financial officer have concluded that these controls and procedures are
effective.




Changes in Internal
Control over Financial Reporting




There were no changes in our internal control over financial reporting
identified in connection with the evaluation required by paragraph (d) of
Rule 13a-15 of the Exchange Act that occurred during the period covered by
this report that have materially affected, or are reasonably likely to
materially affect, our internal control over financial reporting.




PART II. OTHER
INFORMATION




Item 1. Legal
Proceedings




We believe that neither we nor any of our subsidiaries is currently
subject to litigation which, in the opinion of management after consultation
with counsel, is likely to have a material adverse effect on us.




We may, however, become involved in litigation from time to time relating
to claims arising in the ordinary course of our business. These claims, even if
not meritorious, could result in the expenditure of significant financial and
managerial resources.




22


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




On June
15, 2010, we issued 3,000,000 shares of common stock to an accredited investor
in exchange for fine wine inventory. The issuance was exempt from registration
pursuant to Regulation D and Section 4(6) of the Securities Act of 1933, as
amended.  No underwriters were utilized and no commissions or fees were
paid with respect to the transaction.




During the three months ended June 30, 2010, we made the following
purchases of our common stock:




Period
                      
                      Total Number of
                        Shares Purchased
                      
                      
                      Average Price Paid per
                        Share
                      
                      
                      Total Number of
                        Shares Purchased as
                        Part of Publicly
                        Announced Plans or
                        Programs
                      
                      
                      Maximum Number (or
                        Approximate Dollar
                        Value) of Shares that May
                        Yet Be Purchased Under
                        the Plans or ProgramsApril
      1 to April 30, 2010
                      
                      
                      —
                      
                      
                      
                      —
                      
                      
                      
                      —
                      
                      
                      
                      —May
      1 to May 31, 2010
                      
                      
                      —
                      
                      
                      
                      —
                      
                      
                      
                      —
                      
                      
                      
                      —June
      1 to June 30, 2010
                      
                      
                      3,790,562
                      (1)
                      
                      $
                      0.27
                      
                      
                      
                      —
                      
                      
                      
                      2,500,000
                      (2)Total
                      
                      
                      3,790,562
                      (1)
                      
                      $
                      0.27
                      
                      
                      
                      —
                      
                      
                      
                      2,500,000
                      (2)





(1) We
repurchased these shares in a private transaction.


(2) On
June 21, 2010, we announced that our board of directors approved a stock
repurchase program authorizing us to repurchase up to 2,500,000 shares of our
common stock.  The repurchase program may be terminated at any time by our
board of directors.




Item 6. Exhibits


ExhibitNumber
            
            Description4.1
            
            Note,
      dated as of June 21, 2010, made by the Company in favor of Frost Gamma
      Investments Trust (incorporated by reference to Exhibit 4.1 to the
      Company’s current report on Form 8-K filed with the SEC on June 21,
      2010).10.1
            
            Amendment
      to Amended and Restated Employment Agreement, dated as of May 6, 2010, by
      and between Castle Brands Inc. and T. Kelley Spillane (incorporated by
      reference to Exhibit 10.1 to the Company’s current report on
      Form 8-K filed with the SEC on May 7, 2010).#10.2
            
            Amendment
      to Amended and Restated Employment Agreement, dated as of May 6, 2010, by
      and between Castle Brands Inc. and Alfred J. Small (incorporated by
      reference to Exhibit 10.2 to the Company’s current report on
      Form 8-K filed with the SEC on May 7, 2010).#31.1
            
            Certification
      Pursuant to Rule 13a-14(a), as Adopted Pursuant to Section 302
      of the Sarbanes-Oxley Act of 2002. *31.2
            
            Certification
      Pursuant to Rule 13a-14(a), as Adopted Pursuant to Section 302
      of the Sarbanes-Oxley Act of 2002. *32.1
            
            Certification
      of CEO and CFO Pursuant to 18 U.S.C. Section 1350, as Adopted
      Pursuant to Section 906 of the Sarbanes-Oxley Act of
      2002*




*Filed
herewith


#
Management compensation contract


23




SIGNATURES




Pursuant
to the requirements 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.




CASTLE
      BRANDS INC.By:
              /s/
      Alfred J. SmallAlfred
      J. SmallChief
      Financial Officer
                (Principal
      Financial Officer and
                Principal
      Accounting Officer)




August
11, 2010





24