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**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C.  20549**

 

**FORM 10-Q**

 

| **x**      | **QUARTERLY REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**   |
|------------|----------------------------------------------------------------------------------------------------------|
|       |                                                                                                     |
| ** ** | **For the  Quarterly Period Ended January 31, 2010**                                                |
| ** ** | ** **                                                                                               |
| ** ** | **or**                                                                                                   |
|       |                                                                                                     |
| **o**      | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |

 

**For the Transition Period From     to     **

 

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**COMMISSION FILE NUMBER 0-22354**

 

**MARTEKBIOSCIENCES CORPORATION**

(Exact name of registrantas specified in its charter)

 

| **Delaware**                                                    | ** ** | **52-1399362**                           |
|-----------------------------------------------------------------|------------|------------------------------------------|
| (State or other  jurisdiction of incorporation or organization) |       | (I.R.S. Employer  Identification Number) |

 

**6480 Dobbin Road, Columbia,Maryland  21045**

(Address of principalexecutive offices)

 

Registrant’s telephonenumber, including area code:  **(410) 740-0081**

 

**None**

(Former name, formeraddress and former fiscal year, if changed since last report)

 

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Indicate by check mark whether the registrant (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2) hasbeen subject to such filing requirements for the past 90 days.  x  Yes o  No

 

Indicate by check mark whether the registrant hassubmitted electronically and posted on its corporate Web site, if any, everyInteractive Data File required to be submitted and posted pursuant to Rule 405of Regulation S-T during the preceding 12 months (or for such shorter periodthat the registrant was required to submit and post such files).  o  Yes  o  No

 

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

 

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

 

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

 

The number of shares ofCommon Stock outstanding as of March 8, 2010 was 33,309,034.

 

 

 

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MARTEKBIOSCIENCES CORPORATION

FORM 10-Q

 

ForThe Quarterly Period Ended January 31, 2010

 

INDEX

 
| PART I  | FINANCIAL INFORMATION                                                                       |   |
|--------------|---------------------------------------------------------------------------------------------|--------|
| Item 1.      | Financial Statements                                                                        | 3      |
| Item 2.      | Management’s  Discussion and Analysis of Financial Condition and Results of Operations | 17     |
| Item 3.      | Quantitative  and Qualitative Disclosures about Market Risk                                 | 26     |
| Item 4.      | Controls and  Procedures                                                                    | 26     |
|         |                                                                                        |   |
| PART II | OTHER INFORMATION                                                                           |   |
| Item 1.      | Legal Proceedings                                                                           | 27     |
| Item 1A.     | Risk Factors                                                                                | 30     |
| Item 2.      | Unregistered  Sales of Equity Securities and Use of Proceeds                                | 33     |
| Item 3.      | Defaults Upon  Senior Securities                                                            | 33     |
| Item 4.      | Reserved                                                                                    | 33     |
| Item 5.      | Other Information                                                                           | 33     |
| Item 6.      | Exhibits                                                                                    | 33     |
|         |                                                                                        |   |
|         | Signatures                                                                                  | 34     |

 

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**PART I- FINANCIAL INFORMATION**

**Item 1.Financial Statements.**

 

**MARTEK BIOSCIENCES CORPORATION**

 

CONSOLIDATED BALANCE SHEETS

 
| ** **                                                                                                                           | ** ** | **January 31,** | ** ** | **October 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------|------------|----------------------|------------|
| **In  thousands, except share and per share data**                                                                                   | ** ** | **2010**             | ** ** | **2009**             | ** ** |
| ** **                                                                                                                           | ** ** | **(unaudited)**      | ** ** | ** **           | ** ** |
| ** **                                                                                                                           | ** ** | ** **           | ** ** | ** **           | ** ** |
| **Assets**                                                                                                                           |       |                 |       |                 |       |
| *Current assets*                                                                                                                     |       |                 |       |                 |       |
| Cash  and cash equivalents                                                                                                           |       | $                    | 150,072    |                 | $          | 141,063 |   |
| Short-term  investments                                                                                                              |       | 7,278                |       | 7,301                |       |
| Accounts  receivable, net                                                                                                            |       | 55,087               |       | 44,304               |       |
| Inventories,  net                                                                                                                    |       | 114,006              |       | 116,179              |       |
| Deferred  tax asset                                                                                                                  |       | 25,184               |       | 24,303               |       |
| Other  current assets                                                                                                                |       | 4,638                |       | 5,240                |       |
| Total  current assets                                                                                                                |       | 356,265              |       | 338,390              |       |
|                                                                                                                                 |       |                 |       |                 |       |
| Property,  plant and equipment, net                                                                                                  |       | 250,231              |       | 252,279              |       |
| Long-term  investments                                                                                                               |       | 4,556                |       | 4,495                |       |
| Goodwill                                                                                                                             |       | 51,592               |       | 51,592               |       |
| Other  intangible assets, net                                                                                                        |       | 41,872               |       | 42,631               |       |
| Other  assets, net                                                                                                                   |       | 3,733                |       | 430                  |       |
|                                                                                                                                 |       |                 |       |                 |       |
| Total  assets                                                                                                                        |       | $                    | 708,249    |                 | $          | 689,817 |   |
|                                                                                                                                 |       |                 |       |                 |       |
| **Liabilities and stockholders’ equity**                                                                                        |       |                 |       |                 |       |
| *Current liabilities*                                                                                                                |       |                 |       |                 |       |
| Accounts  payable                                                                                                                    |       | $                    | 13,919     |                 | $          | 13,122 |   |
| Accrued  liabilities                                                                                                                 |       | 19,736               |       | 18,243               |       |
| Current  portion of notes payable and other long-term obligations                                                                    |       | 389                  |       | 410                  |       |
| Current  portion of deferred revenue                                                                                                 |       | 1,670                |       | 2,981                |       |
| Total  current liabilities                                                                                                           |       | 35,714               |       | 34,756               |       |
|                                                                                                                                 |       |                 |       |                 |       |
| Notes  payable and other long-term obligations                                                                                       |       | 1,149                |       | 400                  |       |
| Long-term  portion of deferred revenue                                                                                               |       | 8,290                |       | 8,426                |       |
| Deferred  tax liability                                                                                                              |       | 15,898               |       | 10,091               |       |
|                                                                                                                                 |       |                 |       |                 |       |
| Total  liabilities                                                                                                                   |       | 61,051               |       | 53,673               |       |
|                                                                                                                                 |       |                 |       |                 |       |
| Commitments                                                                                                                          |       |                 |       |                 |       |
|                                                                                                                                 |       |                 |       |                 |       |
| *Stockholders’ equity*                                                                                                          |       |                 |       |                 |       |
| Preferred  stock, $.01 par value, 4,700,000 shares authorized; none issued or  outstanding                                           |       | —               |       | —               |       |
| Common  stock, $.10 par value; 100,000,000 shares authorized; 33,302,834 and  33,269,686 shares issued and outstanding, respectively |       | 3,330                |       | 3,327                |       |
| Additional  paid-in capital                                                                                                          |       | 558,889              |       | 557,519              |       |
| Accumulated  other comprehensive loss                                                                                                |       | (636                 | )          | (674                 | )          |
| Retained  earnings                                                                                                                   |       | 85,615               |       | 75,972               |       |
|                                                                                                                                 |       |                 |       |                 |       |
| Total  stockholders’ equity                                                                                                     |       | 647,198              |       | 636,144              |       |
|                                                                                                                                 |       |                 |       |                 |       |
| Total  liabilities and stockholders’ equity                                                                                     |       | $                    | 708,249    |                 | $          | 689,817 |   |

 

*See accompanying notes.*

 

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**MARTEK BIOSCIENCES CORPORATION**

 

CONSOLIDATED STATEMENTS OF INCOME

 
| ** **                                           | ** ** | **Three months ended January 31,** | ** ** |
|------------------------------------------------------|------------|-----------------------------------------|------------|
| **Unaudited - In thousands,  except per share data** | ** ** | **2010**                                | ** ** | **2009** | ** ** |
|                                                 |       |                                    |       |   |   |
| **Revenues:**                                        |       |                                    |       |   |   |
| Product sales                                        |       | $                                       | 84,086     |   | $ | 84,022 |   |
| Contract  manufacturing and services                 |       | 5,670                                   |       | 3,341 |   |
|                                                 |       |                                    |       |   |   |
| Total revenues                                       |       | 89,756                                  |       | 87,363 |   |
|                                                 |       |                                    |       |   |   |
| **Cost of  revenues:**                               |       |                                    |       |   |   |
| Cost of product sales                                |       | 45,937                                  |       | 46,909 |   |
| Cost of contract manufacturing and services          |       | 5,233                                   |       | 3,409 |   |
|                                                 |       |                                    |       |   |   |
| Total cost of  revenues                              |       | 51,170                                  |       | 50,318 |   |
|                                                 |       |                                    |       |   |   |
| Gross margin                                         |       | 38,586                                  |       | 37,045 |   |
|                                                 |       |                                    |       |   |   |
| **Operating  expenses:**                             |       |                                    |       |   |   |
| Research and  development                            |       | 7,066                                   |       | 6,749 |   |
| Selling, general  and administrative                 |       | 13,289                                  |       | 13,097 |   |
| Amortization of  intangible assets                   |       | 1,445                                   |       | 1,781 |   |
| Acquisition  costs                                   |       | 1,187                                   |       | — |   |
| Other operating  expenses                            |       | 34                                      |       | 153 |   |
|                                                 |       |                                    |       |   |   |
| Total operating  expenses                            |       | 23,021                                  |       | 21,780 |   |
|                                                 |       |                                    |       |   |   |
| Income from  operations                              |       | 15,565                                  |       | 15,265 |   |
|                                                 |       |                                    |       |   |   |
| Interest and  other income, net                      |       | (49                                     | )          | 255 |   |
| Interest expense                                     |       | (88                                     | )          | (95 | ) |
|                                                 |       |                                    |       |   |   |
| Income before  income tax provision                  |       | 15,428                                  |       | 15,425 |   |
| Income tax  provision                                |       | 5,785                                   |       | 5,819 |   |
|                                                 |       |                                    |       |   |   |
| Net income                                           |       | $                                       | 9,643      |   | $ | 9,606 |   |
|                                                 |       |                                    |       |   |   |
| Net income per  share                                |       |                                    |       |   |   |
| Basic                                                |       | $                                       | 0.29       |   | $ | 0.29 |   |
| Diluted                                              |       | $                                       | 0.29       |   | $ | 0.29 |   |
|                                                 |       |                                    |       |   |   |
| Weighted average  common shares outstanding     |       |                                    |       |   |   |
| Basic                                                |       | 33,276                                  |       | 33,150 |   |
| Diluted                                              |       | 33,454                                  |       | 33,399 |   |

 

*See accompanying notes.*

 

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**MARTEK BIOSCIENCES CORPORATION**

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

 
| ** **                                                                                                   | ** ** | **Three months ended  January 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------|------------|------------------------------------------|------------|
| **Unaudited  – In thousands**                                                                           | ** ** | **2010**                                 | ** ** | **2009** | ** ** |
|                                                                                                         |       |                                     |       |   |   |
| **Operating activities**                                                                                     |       |                                     |       |   |   |
|                                                                                                         |       |                                     |       |   |   |
| Net  income                                                                                                  |       | $                                        | 9,643      |   | $ | 9,606 |   |
| Adjustments  to reconcile net income to net cash provided by operating activities:                           |       |                                     |       |   |   |
| Depreciation  and amortization                                                                               |       | 7,911                                    |       | 7,046 |   |
| Deferred  tax provision                                                                                      |       | 6,038                                    |       | 4,768 |   |
| Equity-based  compensation expense                                                                           |       | 900                                      |       | 836 |   |
| Incremental  tax benefit from exercise of non-qualified stock options and vesting of  restricted stock units |       | —                                   |       | (30 | ) |
| Loss  on asset disposal and other, net                                                                       |       | 2                                        |       | 340 |   |
| Changes  in operating assets and liabilities:                                                                |       |                                     |       |   |   |
| Accounts  receivable                                                                                         |       | (10,782                                  | )          | (9,155 | ) |
| Inventories                                                                                                  |       | 2,193                                    |       | (3,895 | ) |
| Other  assets                                                                                                |       | 626                                      |       | 57 |   |
| Accounts  payable                                                                                            |       | 1,115                                    |       | 6,175 |   |
| Accrued  liabilities                                                                                         |       | (85                                      | )          | (7,110 | ) |
| Deferred  revenue and other liabilities                                                                      |       | (1,136                                   | )          | (37 | ) |
|                                                                                                         |       |                                     |       |   |   |
| Net  cash provided by operating activities                                                                   |       | 16,425                                   |       | 8,601 |   |
|                                                                                                         |       |                                     |       |   |   |
| **Investing activities**                                                                                     |       |                                     |       |   |   |
|                                                                                                         |       |                                     |       |   |   |
| Sales  and maturities of investments                                                                         |       | 50                                       |       | — |   |
| Expenditures  for property, plant and equipment                                                              |       | (3,433                                   | )          | (2,531 | ) |
| Capitalization  of intangible and other assets                                                               |       | (1,138                                   | )          | (1,309 | ) |
|                                                                                                         |       |                                     |       |   |   |
| Net  cash used in investing activities                                                                       |       | (4,521                                   | )          | (3,840 | ) |
|                                                                                                         |       |                                     |       |   |   |
| **Financing activities**                                                                                     |       |                                     |       |   |   |
|                                                                                                         |       |                                     |       |   |   |
| Repayments  of notes payable and other long-term obligations                                                 |       | (30                                      | )          | (29 | ) |
| Payment  of debt issuance costs                                                                              |       | (3,328                                   | )          | — |   |
| Issuance  of common stock under employee stock plans                                                         |       | 472                                      |       | 61 |   |
| Tax  payments from shares withheld upon vesting of restricted stock units                                    |       | (9                                       | )          | (9 | ) |
| Incremental  tax benefit from exercise of non-qualified stock options and vesting of  restricted stock units |       | —                                   |       | 30 |   |
|                                                                                                         |       |                                     |       |   |   |
| Net  cash (used in) provided by financing activities                                                         |       | (2,895                                   | )          | 53 |   |
|                                                                                                         |       |                                     |       |   |   |
| Net  increase in cash and cash equivalents                                                                   |       | 9,009                                    |       | 4,814 |   |
| Cash  and cash equivalents, beginning of period                                                              |       | 141,063                                  |       | 102,495 |   |
|                                                                                                         |       |                                     |       |   |   |
| Cash  and cash equivalents, end of period                                                                    |       | $                                        | 150,072    |   | $ | 107,309 |   |
|                                                                                                         |       |                                     |       |   |   |
| Supplemental cash flow disclosures:                                                                          |       |                                     |       |   |   |
| Interest paid                                                                                                |       | $                                        | 49         |   | $ | 50 |   |
| Income taxes paid                                                                                            |       | $                                        | 58         |   | $ | 337 |   |

 

*See accompanying notes.*

 

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**NOTES TOCONSOLIDATED FINANCIAL STATEMENTS (Unaudited)**

 

***1.BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES***

 

***Basis of Presentation***  The accompanying unaudited consolidatedfinancial statements of Martek Biosciences Corporation (the “Company” or “Martek”)have been prepared in accordance with accounting principles generally acceptedin the United States for interim financial information and with the instructionsto Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of theinformation and footnotes required by accounting principles generally acceptedin the United States for complete financial statements.  In the opinion of management, all adjustments(consisting of normal recurring adjustments) considered necessary for a fairpresentation have been included. Operating results for the three months ended January 31, 2010 arenot necessarily indicative of the results that may be expected for the yearending October 31, 2010.  Theaccompanying unaudited financial statements and these notes should be read inconjunction with the consolidated financial statements and footnotes theretoincluded in the Company’s Annual Report on Form 10-K for the year ended October 31,2009.

 

***Consolidation*** Theconsolidated financial statements include the accounts of Martek and itswholly-owned subsidiaries, Martek Biosciences Boulder Corporation and MartekBiosciences Kingstree Corporation, after elimination of all significantintercompany balances and transactions.

 

***Useof Estimates***Thepreparation of consolidated financial statements in conformity with accountingprinciples generally accepted in the United States requires management to makeestimates and assumptions that affect the amounts reported in the Company’sconsolidated financial statements and accompanying notes. On an ongoing basis,the Company evaluates its estimates and judgments, which are based onhistorical and anticipated results and trends and on various other assumptionsthat the Company believes to be reasonable under the circumstances. By theirnature, estimates are subject to an inherent degree of uncertainty and, assuch, actual results may differ from the Company’s estimates.

 

***SegmentInformation*******The Company currently operates in one material businesssegment, the development and commercialization of high value nutritionalproducts from microbial sources, including algae, fungi and other microbes. TheCompany is managed and operated as one business. The entire business iscomprehensively managed by a single management team that reports to the ChiefExecutive Officer. The Company does not operate any material separate lines ofbusiness or separate business entities with respect to its products or productcandidates. Accordingly, the Company does not have separately reportablesegments.

 

***RevenueRecognition***The Company derivesrevenue from three sources: product sales, contract manufacturing andcollaborations. The Company recognizes product sales revenue when persuasiveevidence of an arrangement exists, the fee is fixed or determinable,collectibility is probable, the product is shipped and title and risk ofloss are transferred. A number ofinfant formula license contractsinclude an upfront license fee, a prepayment of product sales and establishedpricing on future product sales, which also may include discounts based on theachievement of certain volume purchases. The consideration from these contractsis allocated based on the relative fair values of the separate elements.Revenue is recognized on product sales when goods are shipped and all otherconditions for revenue recognition are met. If volume pricing discounts aredeemed to be a separate element, revenue on related product shipments isrecognized using the estimated average price to the customer over the term ofthe discount period, which requires an estimation of total production shipmentsover that time frame.  Amounts billed in excess ofthe estimated average price are recorded as deferred revenue.  Conversely, a receivable isrecorded for the excess of the estimated average price over amounts billed.Estimates of average prices are reviewed and, if necessary, adjustedperiodically based on updated estimates of product shipments during eachcontract year.  The Company’s historicalestimates of product shipments have approximated actual results.  Amounts recorded as either deferred revenueor a receivable are settled at the end of each contract year, which generallyis December 31.  Once the requisite volume thresholds have been satisfied, thepreviously recorded deferred revenue is recognized over the remaining discountperiod.  Cash received as a prepayment onfuture product purchases is deferred and recognized as revenue when product isshipped. Revenue from product licenses is deferred and recognized on astraight-line basis over the term of the agreement.  The Company’s terms of sale allow for limitedrights of return with such rights based solely on compliance with agreed-uponcustomer product specifications.  TheCompany tests the product for compliance with customer product specificationsprior to shipment. Such returns have not been material.

 

Royalty incomeis recorded when earned, based on information provided by the Company’scustomers.  Royalty income was notmaterial in the three months ended January 31, 2010 and 2009.

 

Contractmanufacturing revenue is recognized when goods are shipped to customers and allother conditions for revenue recognition are met. Cash received that is relatedto future performance under such contracts is deferred and recognized asrevenue when earned.

 

Revenueearned from collaboration work may come from stand-alone arrangements forcertain discrete development work or multiple deliverable arrangements thatinclude such development work followed by larger-scale manufacturing efforts.Revenue is recognized based on the nature of the arrangements, with each of themultiple deliverables in a given arrangement having distinct and separate fairvalues. Fair values are determined via consistent pricing between stand-alonearrangements and multiple deliverable arrangements, as well as a competitivebidding process. Collaborations may be performed on a time and materials basisor fixed fee basis. For time and materials arrangements, revenue is recognizedas services are performed and billed. For fixed fee arrangements where customerdelivery and acceptance provisions are substantive, revenue is recognized uponcompletion and acceptance by the customer.

 

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***ShippingIncome and Costs***** **Shippingcosts charged to customers are recorded as revenue in the period that therelated product sale revenue is recorded, and associated costs of shipping areincluded in cost of revenues.  Shippingand handling costs were approximately $800,000 in the three months ended January 31,2010 and $700,000 in the three months ended January 31, 2009.

 

***IncomeTaxes*********Income tax provisionor benefit includes U.S. federal, state and local income taxes and is based onpre-tax income or loss.  The interimperiod provision or benefit for income taxes is based upon the Company’sestimate of its annual effective income tax rate.  In determining the estimated annual effectiveincome tax rate, the Company analyzes various factors, including projections ofthe Company’s annual earnings and taxing jurisdictions in which the earningswill be generated, the impact of state and local income taxes and the abilityof the Company to use tax credits and net operating loss carryforwards.

 

The Company recognizes the benefits of taxpositions in the financial statements if such positions are more likely thannot to be sustained upon examination by the taxing authority and satisfy theappropriate measurement criteria.  If therecognition threshold is met, the tax benefit is generally measured andrecognized as the tax benefit having the highest likelihood, in management’sjudgment, of being realized upon ultimate settlement with the taxing authority,assuming full knowledge of the position and all relevant facts.  The Companyalso recognizes interest and penalties accrued related to unrecognized taxbenefits in the provision for income taxes. The Company believes appropriate provisions for all outstanding issueshave been made for all jurisdictions and all open tax years.  It is reasonably possible that the totalamount of unrecognized tax benefits as of January 31, 2010 will decrease withinthe next 12 months as various uncertainties are resolved.  The Company cannot reasonably estimate therange of potential outcomes.

 

***ForeignCurrency Transactions and Hedging Activities*****Foreign currencytransactions are translated into U.S. dollars at prevailing rates. Gains orlosses resulting from foreign currency transactions are included in currentperiod income or loss as incurred. All material transactions of the Company aredenominated in U.S. dollars with the exception of a portion of purchases of arachidonic acid (“ARA”) from DSM Food SpecialtiesB.V. (“DSM”), which are denominated in Euros.

 

The Company periodically enters into foreigncurrency forward contracts to reduce its transactional foreign currencyexposures associated with the purchases of ARA from DSM.  The Company does not use derivative financialinstruments for speculative purposes. These forward contracts are highly effective cash flow hedges andqualify for hedge accounting.  Consequently,the resulting unrealized gains and losses are recorded as a component of othercomprehensive income until the related product is sold.  As of January 31,2010, there were no outstanding forward contracts.  Amounts recorded due to hedge ineffectivenesshave not been material.

 

***Advertising***Advertising costs are expensed asincurred.  Advertising costs, includingprint, television and internet-based advertising, were approximately $500,000in the three months ended January 31, 2010 and $300,000 in the threemonths ended January 31, 2009.

 

***Comprehensive Income***Comprehensive income is comprised of net earnings and othercomprehensive income, which includes certain changes in equity that areexcluded from net income. The Company includes unrealized holding gains andlosses on available-for-sale securities as well as changes in the market valueof exchange rate forward contracts designated as cash flow hedges in othercomprehensive income in the Consolidated Statement of Stockholders’ Equity.

 

***Investments***The Company has classified investmentsat January 31, 2010 and October 31, 2009 as either trading oravailable-for-sale. Unrealized gains and losses on available-for-salesecurities are reported as accumulated other comprehensive income, which is aseparate component of stockholders’ equity. Unrealized gains and losses ontrading securities and realized gains and losses on both types of securitiesare included in other income as incurred based on the specific identificationmethod.

 

The Company periodically evaluates whether anydeclines in the fair value of its available-for-sale investments are other thantemporary.  This evaluation consists of areview of several factors, including, but not limited to: length of time andextent that a security has been in an unrealized loss position; the existenceof an event that would impair the issuer’s future earnings potential; the nearterm prospects for recovery of the market value of a security; the intent ofthe Company to sell the impaired security; and whether the Company will berequired to sell the security prior to the anticipated recovery in marketvalue.  Declines in value below cost fordebt securities where it is considered probable that all contractual terms ofthe security will be satisfied, where the decline is due primarily to changesin interest rates (and not because of increased credit risk), and where theCompany does not intend to sell the investment prior to a recovery of amortizedcost, are assumed to be temporary. If management determines that another-than-temporary impairment exists, the carrying value of the investmentwill be reduced to the current fair value of the investment.  An other-than-temporary impairment resultingfrom credit-related matters is recognized as a charge in the consolidatedstatements of income equal to the amount of the carrying value reduction.Other-than-temporary impairment write-downs resulting from non-credit-relatedmatters are recognized in other comprehensive income.

 

The fair value option for financial assets and liabilities permits anentity to elect to measure eligible items at fair value (“fair value option”),including many financial instruments. The decision to elect the fair valueoption is made individually for each instrument and is irrevocable oncemade.  Changes in fair value for theselected instruments are recorded in earnings. The Company has elected the fairvalue option for the auction rate securities rights agreement (the “PutAgreement”), which is recorded within short-term investments at January 31,2010. The Put Agreement is the only instrument of its nature or type held bythe Company and for which the Company has elected the fair value option. SeeNote 3 for further discussion.

 

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The Company classifies its investments aseither current or long-term based upon the investments’ contractual maturitiesand the Company’s ability and intent to convert such instruments to cash withinone year.

 

***FairValue of Financial Instruments***The Company considers the carrying cost of its financial assets andliabilities, which consist primarily of cash and cash equivalents, investments,accounts receivable, accounts payable, notes payable and long-term debt, toapproximate the fair value of the respective assets and liabilities at January 31,2010 and October 31, 2009.  See Note4 for further discussion of the Company’s fair value measurements.

 

***PatentCosts***TheCompany has filed a number of patent applications in the U.S. and in foreigncountries. Certain external legal and related costs are incurred in connectionwith patent applications. If a future economic benefit is anticipated from theresulting patent or an alternate future use is available to the Company, suchcosts are capitalized and amortized over the expected life of the patent.  The Company also capitalizes external legalcosts incurred in the defense of its patents when it is believed that thefuture economic benefit of the patent will be maintained or increased and asuccessful defense is probable. Capitalized patent defense costs are amortizedover the remaining life of the related patent.

 

***Goodwilland Other Intangible Assets*******Goodwill istested for impairment annually, on August 1, or more frequently whenevents occur or circumstances change that would more likely than not reduce thefair value of the asset below its carrying amount.  The Company operates as one reporting unitand determines fair value of the reporting unit using the market approach.

 

Purchasedintangible assets other than goodwill are amortized over their useful livesunless these lives are determined to be indefinite. The Company’s intangibleassets are carried at cost less accumulated amortization. Amortization iscomputed over the estimated useful lives of the respective assets, generallyten to seventeen years.

 

***Impairmentof Long-Lived Assets*** TheCompany reviews long-lived assets and certain identifiable intangibles forimpairment whenever events or changes in circumstances indicate that thecarrying amount of an asset may not be recoverable. Recoverability of assets tobe held and used is measured by a comparison of the carrying amount of an assetto future undiscounted net cash flows expected to be generated by the asset.Assets are grouped and evaluated for impairment at the lowest level for whichthere is identified cash flows.   TheCompany deems an asset to be impaired if a forecast of undiscounted cash flowsis less than its carrying amount.  Theimpairment to be recognized is measured by the amount by which the carryingamount of assets exceeds the fair value of the assets. The Company generallymeasures fair value by discounting projected future cash flows.  Assets to be disposed of are reported at thelower of the carrying amount or fair value less costs to sell. 

 

***RecentlyIssued Accounting Pronouncements***In December 2007,the FASB issued Statement No. 141(R), “Business Combinations”, which hasprincipally been codified in FASB Accounting Standards Codification (“ASC”)Topic 805, “Business Combinations” (“ASC 805”).  ASC 805 establishes principles andrequirements for how an acquirer recognizes and measures in its financialstatements the identifiable assets acquired, the liabilities assumed, anynoncontrolling interest in the acquiree and the goodwill acquired. ASC 805 alsoestablishes disclosure requirements to enable the evaluation of the nature andfinancial effects of the business combination. ASC 805 was effective for theCompany beginning with the first quarter of fiscal 2010. As further describedin Note 13, the Company acquired Charter Amerifit LLC and all of itssubsidiaries (“Amerifit”) in February 2010. The adoption of ASC 805 didnot have a cumulative effect upon adoption; however, ASC 805 will be materialto the Company’s financial condition and results of operations.  Specifically, the adoption of ASC 805required the immediate expensing of acquisition-related costs and additionalimpacts of ASC 805 are anticipated as the total purchase price is allocated toAmerifit’s net tangible and intangible assets based on their estimated fairvalues on the date of acquisition.

 

***2.DSM SUPPLY AND LICENSE AGREEMENT***

 

In July 2009, theCompany entered into the First Amended and Restated ARA Alliance, Purchase, andProduction Agreement (the “Restated Agreement”) with DSM. The RestatedAgreement, which extends the original supply term through December 31,2023,  amended, consolidated and restatedall existing agreements between the two parties governing the cross-licensing,purchase, supply and production of ARA. While, subject to certain limitedexceptions, Martek is committed to purchasing all of its ARA requirements fromDSM through the term of the Restated Agreement, the Restated Agreement also setminimum ARA purchase quantities for Martek in calendar years 2010 and2011.  As of January 31, 2010, thevalue of the remaining calendar year 2010 and full calendar year 2011 minimumpurchase requirements are approximately $88.4 million and $87.1 million,respectively. These minimum purchase quantities approximate the amountsexpected to be procured by Martek in the normal course of business. Undercertain circumstances, either Martek or DSM may terminate the RestatedAgreement after 2012. Upon early termination by Martek, Martek would berequired to make a payment to DSM with the value of such payment decreasingover the remaining term of the Restated Agreement and being dependent uponDSM’s physical infrastructure at the early termination date. A terminationpayment by Martek as of January 1, 2013 would currently range from $15 millionto $20 million and a termination payment as of January 1, 2016 would currentlyrange from less than $1 million to $7 million. 

 

***3. INVESTMENTS***

 

At January 31, 2010 and October 31,2009, the Company had investments consisting of auction rate securities (“ARS”),the underlying assets of which are student loans originated under the FederalFamily Education Loan Program (“FFELP”). FFELP student loans are guaranteed by state guarantors who have reinsuranceagreements with the U.S. Department of Education.  These ARS are intended to provide liquidityvia an auction process that resets the applicable interest rate approximatelyevery 30 days and allows the Company to either roll over its holdings or gainimmediate liquidity by selling such investments at par. The underlyingmaturities of these investments range from 17 to 38 years. Since February 2008,as a result of negative conditions in the global credit markets, the largemajority of the auctions for the Company’s investment in these securities havefailed to settle, resulting in Martek continuing to hold such securities.Consequently, the investments are not currently liquid and the Company will notbe able to access these funds, except as noted below, until a future auction ofthese investments is successful, a buyer is found outside of the auctionprocess or the investments reach their contractual maturity date.

 

While Martek continues to receive interestpayments on these investments involved in failed auctions, the Company believesthat the estimated fair value of these ARS no longer approximates par value.Such fair value was estimated by the Company and considers, among other items,the creditworthiness of the issuer, the collateralization underlying thesecurities and the timing of expected future cash flows.

 

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In November 2008, the Companyexecuted a Put Agreement with a financial institution that provides Martek theability to sell certain of its ARS to the financial institution and allows thefinancial institution, at its sole discretion, to purchase such ARS at parduring the period June 30, 2010 through July 2, 2012. The Company’sARS holdings to which this relates have a cost basis of approximately $7.3million and a fair value at January 31, 2010 of approximately $6.1million.  Upon execution of the PutAgreement, the Company no longer had the intent or unilateral ability to holdthe ARS covered by the Put Agreement to maturity.  Therefore, the Company has classified suchinvestments as “trading”.  Net gainsassociated with these ARS during the three months ended January 31, 2010were not material.  In the three monthsended January 31, 2009, the Company recognized a $1.7 million impairmentcharge on these ARS, which was recognized in interest and other income in theconsolidated statements of income.  Theimpairment charge consisted of $1.0 million of unrealized losses reclassifiedfrom other comprehensive income and $700,000 of unrealized fair value declinesoccurring after such reclassification.

 

The Company has recorded the PutAgreement at its fair value, which as of January 31, 2010 is approximately$1.2 million. The Company elected to adopt the fair value option for the PutAgreement so that future changes in thefair value of this asset will largely offset the fair value movements of therelated ARS. The Company believes that the accounting for the Put Agreementwill then match its purpose as an economic hedge to the changes in the fairvalue of the related ARS. The ability of the Put Agreement to act as aneconomic hedge is subject to the continued expected performance by thefinancial institution of its obligations under the agreement. The fair value ofthe Put Agreement considers, among other things, the creditworthiness of theissuer and the liquidity of the financial instrument.  Due to the Company’s intent to sell its ARScovered by the Put Agreement to the financial institution on June 30,2010, the fair value of such ARS along with the fair value of the Put Agreementare classified as short-term investments in the accompanying consolidatedbalance sheet as of January 31, 2010. Net losses associated with the Put Agreement during the three monthsended January 31, 2010 were not material. In the three months ended January 31, 2009, the Company recognizeda gain of $1.6 million related to the Put Agreement, which was recognized ininterest and other income in the consolidated statements of income.

 

As of January 31, 2010, theCompany’s ARS holdings not covered by the Put Agreement have a cost basis ofapproximately $5.6 million and a fair value of approximately $4.6 million. Thetotal decline in fair value of $1.0 million has been recorded as a netreduction to other comprehensive income. The Company believes that theunrealized losses on these ARS are temporary. In making this determination, Martek primarily considered the financialcondition of the issuers, collateralization underlying the securities, theintent of the Company to sell the impaired security, and whether the Companywill be required to sell the security prior to the anticipated recovery inmarket value.  The Company continues tomonitor the market for ARS and consider its impact, if any, on the fair valueof these investments. If the Company determines that any valuation adjustmentis other than temporary, the Company would record an impairment charge toearnings.  Dueto the underlying maturities of these investments and the Company’s belief thatthe market for the ARS not covered by the Put Agreement may take in excess oftwelve months to fully recover, the fair value of such ARS is classified aslong-term investments in the accompanying consolidated balance sheet as of January 31,2010.  Net unrealized gains associatedwith these ARS during the three months ended January 31, 2010 were notmaterial.  In the three months ended January 31,2009, the Company recognized $900,000 as a reduction to other comprehensiveincome related to the temporary unrealized losses for the Company’s ARS notcovered by the Put Agreement.

 

***4. FAIR VALUE MEASUREMENTS***

 

The Company has adopted the provisions ofguidance codified as ASC Topic 820, “Fair Value Measurements and Disclosures” (“ASC820”) for financial instruments. ASC 820 defines fair value, establishes a fairvalue hierarchy for assets and liabilities measured at fair value and requiresexpanded disclosures about fair value measurements.  The ASC 820 hierarchy ranks the quality andreliability of inputs, or assumptions, used in the determination of fair valueand requires assets and liabilities carried at fair value to be classified anddisclosed in one of the following three categories:

 

Level 1          —     quotedprices in active markets for identical assets and liabilities;

Level 2          —     inputsother than Level 1 quoted prices that are directly or indirectly observable;and

Level 3          —     unobservableinputs that are not corroborated by market data.

 

The Companyevaluates financial assets and liabilities subject to fair value measurementson a recurring basis to determine the appropriate level at which to classifythem for each reporting period. This determination requires highly subjectivejudgments as to the significance of inputs used in determining fair value andwhere such inputs lie within the ASC 820 hierarchy.

 

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As of January 31,2010, the Company held certain assets that are required to be measured at fairvalue on a recurring basis.  These financial assets were as follows(in thousands):

 
| ** **                             | ** ** | **As of January 31, 2010** | ** ** |
|----------------------------------------|------------|---------------------------------|------------|
| ** **                             | ** ** | **Level 1**                     | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Balance** | ** ** |
|                                   |       |                            |       |   |   |   |   |   |   |
| Available-for-sale  securities (1)     |       | $                               | —     |   | $ | — |   | $ | 4,556 |   | $ | 4,556 |   |
| Trading securities (2)                 |       | —                          |       | — |   | 6,088 |   | 6,088 |   |
| Put Agreement(2)                       |       | —                          |       | — |   | 1,190 |   | 1,190 |   |
| Investments in money  market funds (3) |       | 109,173                         |       | — |   | — |   | 109,173 |   |
|                                   |       |                            |       |   |   |   |   |   |   |
| Total                                  |       | $                               | 109,173    |   | $ | — |   | $ | 11,834 |   | $ | 121,007 |   |

 

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(1)  Includedin long-term investments in the accompanying consolidated balance sheets.

(2)  Includedin short-term investments in the accompanying consolidated balance sheets.

(3)  Includedin cash and cash equivalents in the accompanying consolidated balance sheets.

 

The table belowprovides a reconciliation of the beginning and ending balances of the Company’sinvestments measured at fair value using significant unobservable inputs (Level3) for the three months ended January 31, 2010 and 2009 (in thousands):

 
| ** **                                          | ** ** | **Auction Rate  Securities** | ** ** | **Put Agreement** | ** ** | **Total** | ** ** |
|-----------------------------------------------------|------------|------------------------------|------------|-------------------|------------|-----------|------------|
|                                                |       |                         |       |              |       |      |       |
| Balance on November 1, 2009                    |       | $                            | 10,575     |              | $          | 1,221     |       | $ | 11,796 |   |
|                                                |       |                         |       |              |       |      |       |
| Transfers to/(from)  Level 3                        |       | —                       |       | —            |       | —    |       |
| Total gains (losses)  (realized or unrealized): (1) |       |                         |       |              |       |      |       |
| Included in earnings                                |       | 58                           |       | (31               | )          | 27        |       |
| Included in other  comprehensive income             |       | 61                           |       | —            |       | 61        |       |
| Purchases, sales,  issuances and settlements, net   |       | (50                          | )          | —            |       | (50       | )          |
|                                                |       |                         |       |              |       |      |       |
| Balance on  January 31, 2010                   |       | $                            | 10,644     |              | $          | 1,190     |       | $ | 11,834 |   |

 

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(1) See Note 3 for discussion of Auction RateSecurities and related Put Agreement.

 
| ** **                                          | ** ** | **Auction Rate  Securities** | ** ** | **Put Agreement** | ** ** | **Total** | ** ** |
|-----------------------------------------------------|------------|------------------------------|------------|-------------------|------------|-----------|------------|
|                                                |       |                         |       |              |       |      |       |
| Balance on November 1, 2008                    |       | $                            | 11,336     |              | $          | —    |       | $ | 11,336 |   |
|                                                |       |                         |       |              |       |      |       |
| Transfers to/(from)  Level 3                        |       | —                       |       | —            |       | —    |       |
| Total gains (losses)  (realized or unrealized): (1) |       |                         |       |              |       |      |       |
| Included in earnings                                |       | (1,717                       | )          | 1,588             |       | (129      | )          |
| Included in other  comprehensive income             |       | 103                          |       | —            |       | 103       |       |
| Purchases, sales,  issuances and settlements, net   |       | —                       |       | —            |       | —    |       |
|                                                |       |                         |       |              |       |      |       |
| Balance on  January 31, 2009                   |       | $                            | 9,722      |              | $          | 1,588     |       | $ | 11,310 |   |

 

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(1) SeeNote 3 for discussion of Auction Rate Securities and related Put Agreement.

 

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Some of the inputs into the discounted cashflow models from which the Company bases its Level 3 valuations for the ARS andPut Agreement are unobservable in the market and have a significant effect onvaluation. The assumptions used in preparing the models include, but are notlimited to, periodic coupon rates, market required rates of return, theexpected term of each security and the credit-adjusted rate of the counterpartyto the Put Agreement. The coupon rate was estimated using implied forward ratedata on interest rate swaps and U.S. Treasuries, and limited where necessary byany contractual maximum rate paid under a scenario of continuing auctionfailures. Assumptions regarding required rates of return were based onrisk-free interest rates and credit spreads for investments of similar creditquality. The expected term for the ARS was based on a weightedprobability-based estimate of the time the principal will become available tothe Company. The expected term for the Put Agreement was based on the earliestdate on which the Company can exercise the Put Agreement rights.

 

***5.  INVENTORIES***

 

Inventoriesconsist of the following (in thousands):

 
| ** **       | ** ** | **January 31,** | ** ** | **October 31,** | ** ** |
|------------------|------------|----------------------|------------|----------------------|------------|
| ** **       | ** ** | **2010**             | ** ** | **2009**             | ** ** |
|             |       |                 |       |                 |       |
| Finished goods   |       | $                    | 64,048     |                 | $          | 56,203 |   |
| Work in process  |       | 46,832               |       | 56,501               |       |
| Raw materials    |       | 3,126                |       | 3,475                |       |
|             |       |                 |       |                 |       |
| Inventories, net |       | $                    | 114,006    |                 | $          | 116,179 |   |

 

Inventorylevels are evaluated by management based upon anticipated product demand,shelf-life, future marketing plans and other factors.  Reserves for obsolete and slow-movinginventories are recorded for amounts that may not be realizable.

 

***6.  PROPERTY, PLANT AND EQUIPMENT***

 

Property,plant and equipment consists of the following (in thousands):

 
| ** **                                      | ** ** | **January 31,** | ** ** | **October 31,** | ** ** |
|-------------------------------------------------|------------|----------------------|------------|----------------------|------------|
| ** **                                      | ** ** | **2010**             | ** ** | **2009**             | ** ** |
|                                            |       |                 |       |                 |       |
| Land                                            |       | $                    | 2,320      |                 | $          | 2,320 |   |
| Building and improvements                       |       | 68,057               |       | 67,094               |       |
| Machinery and equipment                         |       | 266,806              |       | 266,257              |       |
| Furniture and fixtures                          |       | 3,116                |       | 3,094                |       |
| Computer hardware and software                  |       | 17,332               |       | 17,220               |       |
|                                            |       | 357,631              |       | 355,985              |       |
| Less: accumulated depreciation and amortization |       | (119,294             | )          | (113,437             | )          |
|                                            |       | 238,337              |       | 242,548              |       |
| Construction in progress                        |       | 11,894               |       | 9,731                |       |
|                                            |       |                 |       |                 |       |
| Property, plant and equipment, net              |       | $                    | 250,231    |                 | $          | 252,279 |   |

 

Assetsavailable for commercial use that were not in productive service had a net bookvalue of $32.9 million and $34.4 million at January 31, 2010 and October 31,2009, respectively.  Depreciation as wellas certain other fixed costs related to such idle assets is recorded as cost ofproduct sales in the accompanying consolidated statements of income.

 

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***7.  GOODWILL AND OTHER INTANGIBLE ASSETS***

 

Intangibleassets and related accumulated amortization consist of the following (inthousands):

 
| ** **           | ** ** | **January 31, 2010** | ** ** | **October 31, 2009** | ** ** |
|----------------------|------------|---------------------------|------------|---------------------------|------------|
| ** **           | ** ** | ** **                | ** ** | **Accumulated**           | ** ** | ** ** | ** ** | ** ** | ** ** | **Accumulated** | ** ** | ** ** | ** ** |
| **Intangible Asset** | ** ** | **Gross**                 | ** ** | **Amortization**          | ** ** | **Net** | ** ** | **Gross** | ** ** | **Amortization** | ** ** | **Net** | ** ** |
|                 |       |                      |       |                      |       |   |   |   |   |   |   |   |   |
| Trademarks           |       | $                         | 2,219      |                      | $          | (1,045 | ) | $ | 1,174 |   | $ | 2,202 |   | $ | (1,004 | ) | $ | 1,198 |   |
| Patents              |       | 26,875                    |       | (9,996                    | )          | 16,879 |   | 25,732 |   | (9,046 | ) | 16,686 |   |
| Core technology      |       | 1,708                     |       | (826                      | )          | 882 |   | 1,708 |   | (797 | ) | 911 |   |
| Current products     |       | 10,676                    |       | (5,541                    | )          | 5,135 |   | 10,676 |   | (5,363 | ) | 5,313 |   |
| Licenses and other   |       | 23,191                    |       | (5,389                    | )          | 17,802 |   | 23,191 |   | (4,668 | ) | 18,523 |   |
|                 |       | 64,669                    |       | (22,797                   | )          | 41,872 |   | 63,509 |   | (20,878 | ) | 42,631 |   |
|                 |       |                      |       |                      |       |   |   |   |   |   |   |   |   |
| Goodwill             |       | 51,592                    |       | —                    |       | 51,592 |   | 51,592 |   | — |   | 51,592 |   |
|                 |       |                      |       |                      |       |   |   |   |   |   |   |   |   |
|                 |       | $                         | 116,261    |                      | $          | (22,797 | ) | $ | 93,464 |   | $ | 115,101 |   | $ | (20,878 | ) | $ | 94,223 |   |

 

InFebruary 2009, Martek entered into a license agreement with an internationalfood company for certain patented technology expected to be used in theproduction of Martek’s *life’sDHATM* forcertain applications. Under the agreement, Martek was granted a perpetual andgenerally exclusive license to the technology. As consideration for thislicense, Martek paid an upfront license fee of $1.0 million and will pay,subject to the successful completion by the licensor of certain developmentgoals related to the licensed technology, additional fees of up toapproximately $5.0 million. In addition, Martek will be required to payroyalties of up to 4.5% of sales of products produced using the licensedtechnology, including certain minimum royalty payments of approximately $2.0million, the timing of which is also subject to the successful completion ofthe development goals.  The license feespaid in connection with this arrangement are being amortized over 10years.  

 

Most ofthe amortization associated with the Company’s intangible assets is reflectedin amortization of intangible assets in the accompanying consolidatedstatements of income.  Included inamortization of intangible assets is approximately $1.2 million in the threemonths ended January 31, 2010 and approximately $1.6 million in the threemonths ended January 31, 2009 related to assets supporting the Company’scommercial products and approximately $200,000 in the three months ended January 31,2010 and January 31, 2009 related to assets supporting the Company’sresearch and development initiatives.

 

***8.  NOTES PAYABLE AND LONG-TERM DEBT***

 

In January 2010, the Company entered intoa Credit Agreement (the “Credit Agreement”) that includes a $75 million termloan (the “Term Loan”) and a $50 million secured revolving credit facility (the“Revolver”).  The Credit Agreementreplaced the existing $135 million credit facility (the “Former Facility”). Theproceeds from the Term Loan were received by, and the funds under the Revolverbecame available to, Martek on February 12, 2010, coincident with theclosing of the Company’s acquisition of Amerifit (see further discussion inNote 13).

 

The Term Loan and the Revolver arecollateralized by certain of the Company’s and its subsidiaries’ assets,including accounts receivable, deposit accounts, inventory and certainsoftware, general intangibles and records pertaining to the foregoing as wellas a pledge of 100% of its domestic subsidiaries’ equity.  The Revolver, which may be increasedduring the term of the facility by up to an additional $50 million subject tocertain conditions, expires in February 2013.  The Term Loan maturesin February 2013. Martek is required to make quarterly installment paymentson the Term Loan of $3,750,000 beginning April 2010 plus additional annualrepayments on January 31 of each year based on consolidated excess cashflow, as defined in the Credit Agreement, of the preceding fiscal year.

 

The Term Loan will bear interest at theelection of Martek at either LIBOR plus up to 3.375% or a base rate plus up to1.25% depending upon the consolidated leverage ratio during each precedingfiscal quarter. The Revolver will bear interest at the election of Martek ateither LIBOR plus up to 3.00% or a base rate plus up to 1.00% depending uponthe consolidated leverage ratio during each preceding fiscal quarter.  Thebase rate is the higher of the lender’s prime rate, the federal funds rate plus0.50% or LIBOR plus 1.50%.  LIBOR is the greater of 1.50% per annum orLIBOR at the time of such determination.

 

There were no amounts outstanding under theFormer Facility in the three months ended January 31, 2010.  Theweighted average annual commitment fee rate on unused amounts was approximately0.1% for the three months ended January 31, 2010 and 2009, all of whichwas applicable to the Former Facility.  The commitment fee rate under theCredit Agreement of up to 0.50% on the Revolver is based on the Company’sconsolidated leverage ratio during each preceding fiscal quarter. Among otherthings, the Credit Agreement contains restrictions on future debt, the paymentof dividends and the further encumbrance of assets. In addition, the CreditAgreement requires that the Company comply with specified financial ratios andtests, including minimum coverage ratios and maximum leverage ratios.

 

In connection with the January 2010financing, the Company incurred debt issuance costs totaling approximately $3.3million. Such amounts were allocated to the Term Loan and the Revolver on apro-rata basis. Amounts allocated to the Term Loan are amortized using theeffective interest method and amounts allocated to the Revolver are amortizedusing the straight-line method.

 

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Thecarrying amounts of notes payable at January 31, 2010 and October 31,2009 approximate their fair values based on instruments of similar termsavailable to the Company.

 

***9.  COMMITMENTS AND CONTINGENCIES***

 

***ScientificResearch Collaborations***TheCompany has entered into various collaborative research and license agreementsfor its algal technology. Under these agreements, the Company is required tofund research or to collaborate on the development of potential products.Certain of these agreements also commit the Company to pay royalties upon thesale of certain products resulting from such collaborations.

 

In May 2008,the Company entered into a collaboration agreement with a global biotechnologycompany to jointly develop and commercialize a canola seed that producesDHA.  Martek and its co-collaboratoranticipate a multi-year effort to produce this oil. The Company’s financialcommitments associated with this development initiative are subject to thesuccessful completion of identified milestones. As of January 31, 2010, the Company’s financial commitment,primarily through internal research efforts, to the first projected milestonedate totals approximately $500,000.  Commitmentsthereafter, also primarily through internal research efforts, assumingsuccessful achievement of all identified milestones, total approximately $5.6million.

 

In August 2009,the Company entered into a collaboration agreement with BP for the jointdevelopment of biofuels from microbial oils. Under the terms of the agreement,Martek and BP will work together to establish proof of concept for large-scale,cost-effective microbial biodiesel production through fermentation. Inconnection with this agreement, BP has agreed to contribute up to $10 millionto the initial phases of the collaboration, which utilizes Martek’s significantexpertise in microbial oil production and BP’s production and commercializationexperience in biofuels as the platform for the joint development effort. Martekwill perform the biotechnology research and development associated with theinitial phases and receive fees from BP for such efforts.  All intellectual property owned prior to theexecution of the collaboration agreement will be retained by each respectivecompany, and all intellectual property developed during the collaborationperiod will be owned by BP, with an exclusive license to Martek forcommercialization in nutrition, cosmetic and pharmaceutical applications.Additionally, each party is entitled to certain commercial payments from thecounterparty for commercialization of the technology in the other party’sfields of use.

 

***PatentInfringement Litigation***In September 2003, the Company filed a patent infringement lawsuit in theU.S. District Court in Delaware against Nutrinova Nutrition Specialties &Food Ingredients GmbH (“Nutrinova”) and others alleging infringement of certainof our U.S. patents.  In December 2005,Nutrinova’s DHA business was sold to Lonza Group LTD, a Swiss chemical andbiotechnology group, and the parties agreed to add Lonza to the U.S.lawsuit.  In October 2006, theinfringement action in the United States was tried, and a verdict favorable toMartek was returned.  The jury found thatthe defendants infringed all the asserted claims of three Martek patents andthat these patents were valid.  It alsofound that the defendants willfully infringed one of these patents.  In October 2007, the judge upheld the October 2006jury verdict that the defendants infringed all of the asserted claims of U.S.Patent Nos. 5,340,594 and 6,410,281 and that these patents were not invalid.The judge has granted a permanent injunction against the defendants withrespect to those two patents.  The judgealso upheld the jury verdict that the defendants had acted willfully in theirinfringement of U.S. Patent No. 6,410,281.  Regarding the thirdpatent involved in the case, U.S. Patent No. 6,451,567, the judge reversedthe jury verdict and found that the asserted claims of this patent wereinvalid.  Martek’s request to the judgeto reconsider his ruling on the third patent was denied.  Martek and the defendants appealed aspects ofthe judge’s final decision and a hearing was held before the U.S. Court ofAppeals in April 2009.  In September 2009,the Court of Appeals ruled in Martek’s favor on all of the patents that werethe subject of the appeal, which included U.S. Patent Nos. 5,340,594,6,410,281, 6,451,567 noted above and 5,698,244, which was included in Martek’sappeal as a result of the trial court’s decision at a pre-trial hearing on themeaning and scope of the patent claims in dispute. With respect to U.S. Patent No. 5,698,244,the Court of Appeals reversed the trial court’s interpretation of certain claimlanguage and remanded this patent to the trial court for furtherproceedings.  U.S. Patent Nos. 5,340,594and 6,454,567 have expired and U.S. Patent Nos. 6,410,281 and 5,698,244 arescheduled to expire in August 2011 and December 2014,respectively.  The defendants requested arehearing with the Court of Appeals on the decision, but their request wasdenied.  Additionally, the defendantshave requested reexamination of U.S. Patent Nos. 6,410,281 and 5,698,244in the U.S. Patent and Trademark Office.

 

In January 2004,the Company filed a patent infringement lawsuit in Germany against Nutrinovaand Celanese Ventures GmbH.  Lonza Ltd.and a customer of Nutrinova have also been added to this lawsuit.  The complaint alleges infringement of Martek’sEuropean patent relating to DHA-containing oils.  A hearing was held in a district court inDusseldorf in September 2007 and the court issued its decision in October 2007,ruling that Martek’s patent was infringed by the defendants.  The defendants have appealed, and the appealis expected to be heard in 2010 or 2011. This patent is scheduled to expire in February 2011.

 

Inconnection with these patent lawsuits, the Company has incurred and capitalizedsignificant external legal costs. As of January 31, 2010, the patentsbeing defended in the Lonza matter had a net book value of approximately $4.1million, including capitalized legal costs, which is being amortized over aweighted average remaining period of approximately five years.  This amount is subject to future impairment,in whole or in part, pending the outcome of these patent lawsuits.

 

These lawsuits are further described in Item1. “Legal Proceedings” of Part II of this Form 10-Q.

 

***Other*** The Company isinvolved in various other legal actions. Management believes that these actions, either individually or in theaggregate, will not have a material adverse effect on the Company’s results ofoperations or financial condition.

 

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***10.  STOCKHOLDERS’ EQUITY***

 

The Company recognized approximately $900,000in the three months ended January 31, 2010 and approximately $800,000 inthe three months ended January 31, 2009 in compensation cost related toemployee stock plans.  Such costs wererecorded approximately 75%, 15% and 10% as selling, general and administrativeexpenses, research and development expenses and cost of revenues, respectively,in all periods.

 

The Company granted 384,926 restricted stockunits during the three months ended January 31, 2010, which generally vestover 62 months from the date of grant. The total fair value of the restricted stock units granted of $7.2million was based on fair market value on the date of grant.

 

As of January 31, 2010, there wasapproximately $18.1 million remaining in unrecognized compensation cost relatedto restricted stock units. The cost is expected to be recognized through fiscal2015 with a weighted average recognition period of approximately two years.

 

Unrecognized compensation cost relatedto unvested stock options as of January 31, 2010 is not material.

 

***11.  NET INCOME PER SHARE***

 

Basicnet income per share is computed using the weighted average number of commonshares outstanding. Diluted net income per share is computed using the weightedaverage number of common shares outstanding, giving effect to stock options andrestricted stock units using the treasury stock method.

 

Thefollowing table presents the calculation of basic and diluted net income pershare (in thousands, except per share amounts):

 
| ** **                                   | ** ** | **Three  months ended January 31,** | ** ** |
|----------------------------------------------|------------|------------------------------------------|------------|
| ** **                                   | ** ** | **2010**                                 | ** ** | **2009** | ** ** |
|                                         |       |                                     |       |   |   |
| Net income                                   |       | $                                        | 9,643      |   | $ | 9,606 |   |
|                                         |       |                                     |       |   |   |
| Weighted average shares outstanding, basic   |       | 33,276                                   |       | 33,150 |   |
| Effect of dilutive potential common shares:  |       |                                     |       |   |   |
| Stock options                                |       | 48                                       |       | 152 |   |
| Restricted stock units                       |       | 130                                      |       | 97 |   |
| Total dilutive potential common shares       |       | 178                                      |       | 249 |   |
| Weighted average shares outstanding, diluted |       | 33,454                                   |       | 33,399 |   |
|                                         |       |                                     |       |   |   |
| Net income per share, basic                  |       | $                                        | 0.29       |   | $ | 0.29 |   |
| Net income per share, diluted                |       | $                                        | 0.29       |   | $ | 0.29 |   |

 

Stockoptions to purchase approximately 2.1 million shares were outstanding but werenot included in the computation of diluted net income per share for the threemonths ended January 31, 2010, and stock options to purchase approximately1.8 million shares were outstanding but were not included in the computation ofdiluted net income per share for the three months ended January 31, 2009,because the effects would have been antidilutive.

 

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***12. COMPREHENSIVE INCOME***

 

Comprehensiveincome and its components for the three months ended January 31, 2010 and2009 were as follows (in thousands):

 
| ** **                                                                                           | ** ** | **Three months ended January 31,** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|-----------------------------------------|------------|
| ** **                                                                                           | ** ** | **2010**                                | ** ** | **2009** | ** ** |
|                                                                                                 |       |                                    |       |   |   |
| Net income, as reported                                                                              |       | $                                       | 9,643      |   | $ | 9,606 |   |
|                                                                                                 |       |                                    |       |   |   |
| Other comprehensive income (loss):                                                                   |       |                                    |       |   |   |
| Reclassification of available-for-sale securities, net of tax of $— and $383, respectively      |       | —                                  |       | 646 |   |
| Unrealized gain (loss) on available-for-sale  securities, net of tax of $22 and $(344), respectively |       | 38                                      |       | (582 | ) |
| Realized loss on exchange rate forward contracts, net  of tax of $— and $436, respectively      |       | —                                  |       | 735 |   |
| Unrealized gain on exchange rate forward contracts,  net of tax of $— and $48, respectively     |       | —                                  |       | 208 |   |
|                                                                                                 |       |                                    |       |   |   |
| Comprehensive income                                                                                 |       | $                                       | 9,681      |   | $ | 10,613 |   |

 

***13. SUBSEQUENT EVENT — ACQUISITION OF CHARTERAMERIFIT LLC***

 

On February 12, 2010, Martek completedthe acquisition of the Charter Amerifit LLC and all of its subsidiaries (“Amerifit”).Amerifit develops, markets and distributes branded consumer health and wellnessproducts and holds leading brand positions in all of its key productcategories. Amerifit products are sold in most major mass, club, drug, groceryand specialty stores and include: Culturelle®, a leading probiotic supplement;AZO®, the leading OTC brand addressing symptom relief, detection and preventionof urinary tract infections; and ESTROVEN®, the leading all-natural nutritionalsupplement brand addressing the symptoms of menopause.

 

Upon the closing of the acquisition, Martekpaid for the benefit of Amerifit’s equity holders total cash consideration ofapproximately $201 million, net of cash acquired, of which amount $27 millionwas placed into an escrow that secures certain post-closing adjustmentobligations and certain indemnification obligations.  The considerationincluded approximately $1 million related to the effects of the preliminarydeterminations of Amerifit’s net debt level and net working capital, both ofwhich are subject to adjustment based on the final determinations of Amerifit’snet debt level and net working capital at closing.  To finance the Amerifit acquisition, Martekutilized existing cash of approximately $115 million along with the proceedsfrom the $75 million Term Loan and $11 million drawn from the Revolver.  See Note 8 for additional discussion of thesedebt instruments.

 

In addition to the Company’s expectation thatthe Amerifit acquisition will be financially accretive, Martek expects to beable to use Amerifit’s marketing platform to commercialize and distribute thenutritional health and wellness products that Martek is currently developing.

 

Under the acquisition method of accounting,the total purchase price will be allocated to Amerifit’s net tangible andintangible assets based on their estimated fair values as of the February 12,2010 closing date of the acquisition. The final purchase price will bedetermined following completion of the closing balance sheet and post-closingadjustments and valuation report of acquired intangible assets. Martek has madea preliminary allocation of the estimated purchase price using estimates. Weare in the process of completing our assessment of the fair value of the assetsacquired and liabilities assumed and finalizing our calculation of the finalpurchase price. The completion of the valuation report of acquired intangibleassets and final purchase price may result in material revisions to the fairvalues noted below.

 

The table below summarizes the preliminaryestimated fair values of assets acquired and liabilities assumed based onmanagement’s current best estimates.

 

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| **(In thousands)**                             |   |    |    |
|------------------------------------------------|--------|---------|---------|
|                                           |   |    |    |
| Assets                                         |   |    |    |
| Current assets                                 |   | $       | 20,800  |   |
| Identifiable intangible assets                 |   | 112,600 |    |
| Property, equipment and other long-term assets |   | 3,000   |    |
|                                           |   |    |    |
| Total identifiable assets acquired             |   | 136,400 |    |
|                                           |   |    |    |
| Liabilities                                    |   |    |    |
| Current liabilities                            |   | (10,400 | )       |
| Deferred tax liability                         |   | (34,200 | )       |
| Other liabilities                              |   | (3,400  | )       |
|                                           |   |    |    |
| Total liabilities assumed                      |   | (48,000 | )       |
|                                           |   |    |    |
| Net identifiable assets acquired               |   | 88,400  |    |
| Goodwill                                       |   | 112,600 |    |
|                                           |   |    |    |
| Net assets acquired                            |   | $       | 201,000 |   |

 

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**Item2.  Management’s Discussion and Analysisof Financial Condition and Results of Operations.**

 

*This Management’s Discussion and Analysis of Financial Condition andResults of Operations contains forward-looking statements concerning ourbusiness and operations, including, among other things, statements concerningthe following:*

 

·                  *expectations regarding future revenue,revenue growth, gross margin, operating cash flow and profitability of Martekand its newly-acquired subsidiary, Charter Amerifit LLC and all of itssubsidiaries (“Amerifit”);*

·                  *expectations regarding product introductionsand growth in nutritional product sales;*

·*                 **expectations regarding Martek’sability to use the marketing platform of Amerifit to commercialize productsunder development;*

·                  *expectations regarding potentialcollaborations and acquisitions;*

·                  *expectations regarding demand for productswith our nutritional oils;*

·                  *expectations regarding sales to and by ourinfant formula customers and supplemented infant formula market penetrationlevels;*

·                  *expectations regarding marketing of our oilsby our infant formula customers;*

·                  *expectations regarding future agreementswith, and revenues from, companies in the food and beverage, pregnancy andnursing, nutritional supplement and animal feed markets;*

·                  *expectations regarding future revenues fromcontract manufacturing customers;*

·                  *expectations regarding future revenues fromcollaborations;*

·                  *expectations regarding growing consumerrecognition of the key health benefits of DHA and ARA;*

·                  *expectations regarding competitive products;*

·                  *expectations regarding future efficienciesand improvements in manufacturing processes and the cost of production of ournutritional oils;*

·                  *expectations regarding future purchasevolumes and costs of third-party manufactured oils;*

·                  *expectations regarding the amount ofproduction capacity and our ability to meet future demands for our nutritionaloils;*

·                  *expectations regarding the amount ofinventory held by us or our customers;*

·                  *expectations regarding production capacityutilization and the effects of excess production capacity;*

·                  *expectations regarding future selling, generaland administrative and research and development costs;*

·                  *expectations regarding future capitalexpenditures;*

·                  *expectations regarding levels of consumptionthrough governmental programs of infant formula products containing ournutritional oils; and*

·                  *expectations regarding our ability tomaintain and protect our intellectual property.*

 

*Forward-looking statements include those statements containing wordssuch as the following:*

 

·                  *“will,”*

·                  *“should,”*

·                  *“could,”*

·                  *“anticipate,”*

·                  *“believe,”*

·                  *“plan,”*

·                  *“estimate,”*

·                  *“expect,”*

·                  *“intend,” and other similar expressions.*

 

*All of these forward-looking statements involve risks anduncertainties. They and other forward-looking statements in this Form 10-Qare all made pursuant to the safe harbor provisions of the Private SecuritiesLitigation Reform Act of 1995. We wish to caution you that our actual resultsmay differ significantly from the results we discuss in our forward-lookingstatements. We discuss some of the risks that could cause such differences in Part II,Item 1A. “Risk Factors” in this report on Form 10-Q and in our variousother filings with the Securities and Exchange Commission.  Our forward-looking statements speak only asof the date of this document, and we do not intend to update these statementsto reflect events or circumstances that occur after that date.*

 

**GENERAL**

 

Martek was founded in 1985. We are a leader inthe innovation, development, production and sale of high-value products frommicrobial sources that promote health and wellness through nutrition.  Our technology platform consists of our coreexpertise, broad experience and proprietary technology in areas such asmicrobial biology, algal genomics, fermentation and oil processing.  This technology platform has resulted in ourdevelopment of a number of products including our flagship product, *life’sDHA*TM, a sustainable and vegetarian source of algal DHA(docosahexaenoic acid) important for brain, heart and eye health throughoutlife for use in infant formula, pregnancy and nursing products, foods andbeverages and dietary supplements. We also produce *life’sARA*TM(arachidonic acid), an omega-6 fatty acid, for use in infant formula andgrowing-up milks.  On February 

 

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12, 2010, we acquired Amerifit.  Amerifit develops, markets and distributesbranded consumer health and wellness products and holds leading brand positionsin all of its key product categories. Amerifit products are sold in most majormass, club, drug, grocery and specialty stores and include: Culturelle®, aleading probiotic supplement; AZO®, the leading OTC brand addressing symptomrelief, detection and prevention of urinary tract infections; and ESTROVEN®,the leading all-natural nutritional supplement brand addressing the symptoms ofmenopause. We currently have a number of nutritional health and wellnessproducts under development that we plan to commercialize and distribute throughAmerifit’s marketing platform. See “Recent Highlights” below for furtherdiscussion of Amerifit.

 

We selloils containing these fatty acids as *life’sDHATM*,DHASCO®, Neuromins®, ARASCO® and *life’sARATM*. Wederive DHA from microalgae and ARA from fungi, using proprietaryprocesses.  Cell membranes throughout thebody contain these fatty acids, and they are particularly concentrated in thebrain, central nervous system, retina and heart.  Research has shown that DHA and ARA mayenhance mental and visual development in infants.  In addition, research has shown that DHA mayplay a pivotal role in brain function throughout life and may reduce the riskof cardiovascular disease. Low levels of DHA in adults have been linked to avariety of health risks, including Alzheimer’s disease, dementia,cardiovascular problems and various other neurological and visual disorders.Further research is underway to assess the role of supplementation with our DHAon mitigating a variety of health risks.

 

We aresupplying over 35 infant formula customers with our nutritional oils.  These companies collectively representapproximately 75% of the estimated $15 billion worldwide retail market forinfant formula and nearly 100% of the estimated $4.5 billion U.S. retail marketfor infant formula, including the retail value of Women, Infants and Childrenprogram (“WIC”) rebates. WIC is a federal grant program administered by thestates for the benefit of low-income, nutritionally at-risk women, infants andchildren.  Our customers include infantformula market leaders Mead Johnson Nutritionals, Nestle, Abbott Nutrition,Pfizer and Danone, each of whom is selling infant formula supplemented with ournutritional oils.  Our customers are nowselling infant formula products containing our oils collectively in over 75countries.  Supplemented infant formulasfrom Mead Johnson Nutritionals, Abbott Nutrition, PBM Products, Nestle, HainCelestial and Nutricia North America are currently being sold in the UnitedStates. In addition, certain infant formula customers are selling products inthe United States and abroad that contain our nutritional oils and target themarkets for children ages nine months to seven years of age and older.

 

We arecurrently marketing and selling *life’sDHATM,*eitherdirectly or through distributors, for food and beverage, supplement and animalfeed applications to both U.S. and international companies. To date, over 200domestic and international companies have launched non-infant formula productsthat contain *life’sDHATM*, most of which remainon the market.  Certain of our DHAlicense and supply agreements with major consumer food products companiesestablish Martek, subject to certain exceptions, as their exclusive supplier ofDHA for minimum periods of time.  Certainof these agreements establish the customer as the exclusive customer of *life’sDHA*TM in a particular food or beverage category orcategories or geographic region.  We,along with our customers and certain third parties, are developing other DHAdelivery methods, including powders and emulsions, to facilitate further entryinto the non-infant formula markets. Management believes that over the next few years, the non-infant formulamarkets will continue to expand and could ultimately represent a largeropportunity than infant formula.

 

Althoughwe anticipate future growth in annual sales of our nutritional oils, we arelikely to continue to experience quarter-to-quarter and year-to-yearfluctuations in our future operating results, some of which may be significant.The timing and extent of future oils-related revenues are largely dependentupon the following factors:

 

·                  the timing of international infant formula marketintroductions by our customers;

·                  the timing of our customers’ ordering patterns;

·                  the timing and extent of stocking and de-stocking ofinventory by our customers;

·                  the timing and extent of our customers’ production campaignsand plant maintenance shutdowns;

·                  the timing and extent of introductions of DHA into variouschild and/or adult applications and the marketplace success of suchapplications;

·                  the levels of inclusion of our oils in infant formula;

·                  the continued acceptance, and extent thereof, of productscontaining our oils under WIC and other regulatory programs in the U.S.;

·                  the continued acceptance of these products by consumers andcontinued demand by our customers;

·                  the ability of our customers to incorporate our oils intovarious foods and beverages;

·                  our ability to protect against competitive products throughour patents;

·                  competition from alternative sources of DHA and ARA; and

·                  agreements with other future third-party collaborators tomarket our products or develop new products.

 

Assuch, the likelihood, timing and extent of future profitability are largelydependent on factors such as those mentioned above, as well as others, overwhich we have limited or no control.

 

**RECENT HIGHLIGHTS**

 

·                  *Acquisition**of Charter Amerifit LLC* — On February 12, 2010, we completed theacquisition of Amerifit. Amerifit develops, markets and distributes brandedconsumer health and wellness products and holds leading brand positions in allof its key product categories. Amerifit 

 

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products are sold in most major mass, club, drug, grocery and specialtystores and include: Culturelle®, a leading probiotic supplement; AZO®, theleading OTC brand addressing symptom relief, detection and prevention ofurinary tract infections; and ESTROVEN®, the leading all-natural nutritionalsupplement brand addressing the symptoms of menopause.

 

Upon the closing of theacquisition, we paid for the benefit of Amerifit’s equity holders total cashconsideration of approximately $201 million, net of cash acquired, of whichamount $27 million was placed into an escrow that secures certain post-closingadjustment obligations and certain indemnification obligations.  Theconsideration included approximately $1 million related to the effects of thepreliminary determinations of Amerifit’s net debt level and net workingcapital, both of which are subject to adjustment based on the finaldeterminations of Amerifit’s net debt level and net working capital atclosing.  To finance the Amerifitacquisition, we utilized existing cash of approximately $115 million along withthe proceeds from the $75 million Term Loan and $11 million drawn from theRevolver.  See Note 8 to the consolidatedfinancial statements for additional discussion of these debt instruments.

 

In addition to ourexpectation that the Amerifit acquisition will be financially accretive, weexpect to be able to use Amerifit’s marketing platform to commercialize anddistribute the nutritional health and wellness products that we are currentlydeveloping.

 

·                  *Non-InfantFormula Product Launches* — Products with Martek’s *life’*s*DHATM*were recently launched in the United States including Natelle®One (Azur PharmaLtd)  prescription prenatal vitamin with250 mg *life’sDHATM,* Algal-900 DHA Softgels(CVS/Pharmacy®) with 900 mg *life’sDHATM,*Spring Valley® Algal-900 DHA (Wal-Mart) with 900 mg *life’sDHATM,*HorizonTM Organic Lowfat Chocolate Milk Plus DHA Omega-3 (WhiteWave Foods), SaraLee® Soft & Smooth Plus Bread (Sara Lee) and Francesco Rinaldi® ToBeHealthy pasta sauces (LiDestri Foods).

 

·                  *Extension*of*Danone Multi-Year Sole-SourceLicense and Supply Agreement* — In March 2010, Martek announcedthat it has extended its multi-year sole-source license and supply agreementwith Danone, a leading worldwide producer of infant nutrition products.  Under the terms of the amended agreement,Martek will be Danone’s exclusive supplier of ARA for all of its infant formulaand growing-up milk products through at least December 31, 2014, which isan extension of Martek’s current exclusive ARA supply position with Danone bythree years.  As with the currentagreement, Danone may continue to use non-microbial DHA sources.  In most cases, Martek will continue to serveas Danone’s global supplier for its microbially-derived DHA needs for infantformula. This is an amendment to the 2007 agreement between Martek and Numicoand contains certain limited termination rights.  Martek has supplied DHA and ARA to Numico,which was acquired by Danone in 2008, for infant formula products since 1994.

 

·                  *NewScientific Data Published on DHA and ARA*— The benefits of DHA and ARAsupplementation were recently discussed in the following publications:

 

·                  The *American Journal of Clinical Nutrition* (online, February 2010)published results of a study investigating DHA supplementation on brainfunction.  Thirty-three healthy boys, 8-10 years of age, were supplementedwith 400 or 1200 mg/day DHA or placebo for 8 weeks and tested during anactivity of continuous performance.  The results showed that the DHA levelin red blood cells was positively correlated with brain function and inverselycorrelated with reaction time during the activity. These results demonstratethe important role that DHA plays in regulation of brain activity.  Martekprovided financial support and *life’sDHATM* forthis study.

 

·                  The *American Journal of Clinical Nutrition*(online, February 2010) published the results of a study in which 343 term infants were fedformula containing no long-chain polyunsaturated fats or formula supplementedwith 0.32% DHA, 0.64% DHA, or 0.96% DHA throughout the first year oflife.  All DHA-supplemented formula also contained 0.64% ARA.  Visualevoked potential (VEP) was measured at 1.5, 4, 9, and 12 months.  At 12months, all DHA-supplemented infants scored significantly better in VEP visualacuity than those given an unsupplemented formula.  There were also nosignificant differences in VEP visual acuity between the three DHA-supplementedgroups.  The authors state that these subtle changes in vision are important“because they suggest diet-related modifications in the developmental course ofstructure and function in the brain and/or retina” and that “dietary supply ofDHA during infancy may have long-lasting effects on brain function.”  Martek’s *life’sDHATM*and *life’sARATM*were used in the study.

 

**PRODUCTION**

 

Wemanufacture oils rich in DHA at our production facilities located in Kingstree,South Carolina and Winchester, Kentucky. The oils that we produce in these facilities are certified Kosher by theOrthodox Union and are certified Halal by the Islamic Food and NutritionCouncil of America.  Both manufacturingfacilities have received favorable ratings by the American Institute of Baking,an independent auditor of food manufacturing facilities, and have achieved compliancewith the ISO 14001 Environmental Management System (“EMS”) InternationalStandard, the most recognized EMS standard in the world.  Also, the National Oceanic and AtmosphericAdministration has granted Martek’s Winchester plant, the Company’s primaryshipping location, a health certificate, which is required for import ofproducts into many countries, including China and neighboring countries in thePacific Rim.

 

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Over 90% of our ARA oils are purchased fromDSM.  Because DSM is a third-partymanufacturer, we have only limited control over the timing and level of itsproduction volumes. The balance of our ARA requirements is produced at ourKingstree facility.  In July 2009,we entered into the First Amended and Restated ARA Alliance, Purchase, andProduction Agreement (the “Restated Agreement”) with DSM. The RestatedAgreement, which extends the original supply term through December 31,2023,  amended, consolidated and restatedall existing agreements between the two parties governing the cross-licensing,purchase, supply and production of ARA. While, subject to certain limitedexceptions, Martek is committed to purchasing all of its ARA requirements fromDSM through the term of the Restated Agreement, the Restated Agreement also setminimum ARA purchase quantities for Martek in calendar years 2010 and2011.  As of January 31, 2010, thevalue of the remaining calendar year 2010 and full calendar year 2011 minimumpurchase requirements are approximately $88.4 million and $87.1 million,respectively. These minimum purchase quantities approximate the amountsexpected to be procured by us in the normal course of business.  Under certain circumstances, either we or DSMmay terminate the Restated Agreement after 2012. Upon early termination by us,we would be required to make a payment to DSM with the value of such paymentdecreasing over the remaining term of the Restated Agreement and beingdependent upon DSM’s physical infrastructure at the early termination date. Atermination payment by us as of January 1, 2013 would currently range from $15million to $20 million and a termination payment as of January 1, 2016 would currentlyrange from less than $1 million to $7 million. 

 

We have attempted to reduce the risk inherent inhaving a single supplier through certain elements of our supply agreement withDSM.  In connection with this agreement,we have the ability to produce, either directly or through an approved thirdparty, an unlimited amount of ARA. The sale of such self-produced ARA islimited annually, however, to the greater of (i) 100 tons of ARA oil or (ii) anyamounts ordered by us that DSM is unable to fulfill.  Although we currently produce ARA ourselves,our existing manufacturing capacity would not permit us to produce ARAquantities sufficient to meet current demand without impacting our productionof DHA.  To further improve our overallARA supply chain, we have directly engaged a U.S.-based provider of certainpost-fermentation ARA manufacturing services. Along with our ARA downstream processing capabilities at Kingstree, thisthird-party facility provides us with multiple U.S. sites for the fulldownstream processing of ARA.

 

When combining our current DHA and ARAproduction capabilities in Kingstree and Winchester with DSM’s current ARAproduction capabilities, we have production capacity for DHA and ARA productsin excess of $500 million in annualized sales, collectively, to the infantformula and non-infant formula markets. As such, our production capabilities exceed current demand; however, wehave the ability to manage production levels and, to a certain extent, controlour manufacturing costs.  Nonetheless,when experiencing excess capacity, we may be unable to produce the requiredquantities of oil cost-effectively due to the existence of significant levelsof fixed production costs at our plants and the plants of our suppliers.

 

The commercial success of our nutritional oilswill depend, in part, on our ability to manufacture these oils or have themmanufactured at large scale on a routine basis and at a commercially acceptablecost.  Our success will also be somewhatdependent on our ability to align our production with customer demand, which isinherently uncertain.  There can also beno assurance that we will be able to continue to comply with applicableregulatory requirements, including the Food and Drug Administration’s “goodmanufacturing practice” (“GMP”) requirements. Under the terms of several of ouragreements with infant formula customers, those customers may elect tomanufacture these oils themselves. While our customers are not required todisclose to us that they have begun the process, we are currently unaware ofany of our customers producing our oils or preparing to produce our oils, andestimate that it would take a customer a minimum of one year to implement aprocess for making our oils.

 

**CRITICAL ACCOUNTING POLICIES AND**

**THE USE OF ESTIMATES**

 

The preparation of our consolidated financialstatements in conformity with U.S. generally accepted accounting principlesrequires management to make estimates and assumptions that affect the amountsreported in our consolidated financial statements and accompanying notes. On anongoing basis, we evaluate our estimates and judgments, which are based onhistorical and anticipated results and trends and on various other assumptionsthat we believe are reasonable under the circumstances, including assumptionsas to future events. By their nature, estimates are subject to an inherentdegree of uncertainty and, as such, actual results may differ from ourestimates. We discuss accounting policies and assumptions that involve a higherdegree of judgment and complexity than others in our Management’s Discussionand Analysis of Financial Condition and Results of Operations in our AnnualReport to shareholders on Form 10-K for the year ended October 31,2009.  There have been no significantchanges in the Company’s critical accounting policies since October 31,2009.

 

**RESULTS OF OPERATIONS**

 

***Revenues***

The following table presents revenues bycategory (in thousands):

 
| ** **                          | ** ** | **Three months ended January 31,** | ** ** |
|-------------------------------------|------------|-----------------------------------------|------------|
| ** **                          | ** ** | **2010**                                | ** ** | **2009** | ** ** |
|                                |       |                                    |       |   |   |
| Product sales                       |       | $                                       | 84,086     |   | $ | 84,022 |   |
| Contract manufacturing and services |       | 5,670                                   |       | 3,341 |   |
| Total revenues                      |       | $                                       | 89,756     |   | 87,363 |   |
|                                     |            |                                         |            |  |  |  |  |

 

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Product sales were essentially unchanged inthe three months ended January 31, 2010 as compared to the three monthsended January 31, 2009.  Productsales were comprised of the following (in thousands):

 
| ** **                                                       | ** ** | **Three months ended January 31,** | ** ** |
|------------------------------------------------------------------|------------|-----------------------------------------|------------|
| ** **                                                       | ** ** | **2010**                                | ** ** | **2009** | ** ** |
|                                                             |       |                                    |       |   |   |
| Infant formula market                                            |       | $                                       | 71,541     |   | $ | 74,591 |   |
| Food and beverage market                                         |       | 4,193                                   |       | 2,618 |   |
| Pregnancy and nursing, nutritional supplements and  animal feeds |       | 7,370                                   |       | 5,664 |   |
| Non-nutritional products                                         |       | 982                                     |       | 1,149 |   |
| Total product sales                                              |       | $                                       | 84,086     |   | $ | 84,022 |   |

 

Sales to the infant formula market during thethree months ended January 31, 2010 decreased as compared to the threemonths ended January 31, 2009 due primarily to normal fluctuations inproduct ordering patterns and declines in the U.S. infant formula market.Launches of new products and increased market penetration of existing productscontaining *life’sDHATM*, particularly in the food andbeverage, pregnancy and nursing and nutritional supplements markets,**resulted in higher sales to the non-infant formulanutritional markets in the three months ended January 31, 2010 compared tothe same period of the prior fiscal year. Approximately 70% of the increase in sales to the non-infant formulanutritional markets was to customers outside of the U.S.

 

Approximately 73% of our product sales in thethree months ended January 31, 2010 were generated by sales to MeadJohnson Nutritionals, Abbott Nutrition, Nestle, Pfizer and Danone. Although weare not given precise information by our customers as to the countries in whichinfant formula containing our oils is ultimately sold, we estimate thatapproximately 46% and 52% of our sales to infant formula customers for thethree months ended January 31, 2010 and 2009, respectively, relate tosales in the U.S.  As of January 31,2010, we estimate that formula supplemented with our oils had penetrated almostall of the U.S. infant formula market.

 

Ourfuture nutritional oils sales are subject to quarter-to-quarter fluctuationsand are dependent to a significant degree upon the following factors: (i) theexpansions of current products containing our nutritional oils by our customersin new and existing markets; (ii) the launches of new products containingour nutritional oils by current or future customers and the success in themarketplace of such launches; (iii) the timing and extent of stocking andde-stocking of inventory by our customers; (iv) the levels of inclusion ofour oils in infant formula; (v) the timing and extent of our customers’production campaigns and plant maintenance shutdowns; and (vi) theavailability and use by our customers and others of competitive products.

 

Contractmanufacturing and services revenues totaled approximately $5.7 million in thethree months ended January 31, 2010 and $3.3 million in the three monthsended January 31, 2009.  Of the $5.7million in the first quarter of fiscal 2010, approximately $4.6 million relatesto contract manufacturing activities that we anticipate exiting, in largemeasure, over the course of fiscal 2010. The remaining $1.1 million relates to the revenues associated withMartek’s joint development agreement with BP for work on microbial oils for usein biofuels, which began in late fiscal 2009 and is expected to continuethrough at least 2011.  The cessation ofcontract manufacturing activities is not expected to have any material impacton our financial condition or results of operations.

 

As aresult of the above, total revenues increased by $2.4 million or 2.7% in thethree months ended January 31, 2010 as compared to the three months ended January 31,2009.

 

***Costof Revenues***

The following table presents our cost ofrevenues (in thousands):

 
| ** **                                  | ** ** | **Three months ended January 31,** | ** ** |
|---------------------------------------------|------------|-----------------------------------------|------------|
| ** **                                  | ** ** | **2010**                                | ** ** | **2009** | ** ** |
|                                        |       |                                    |       |   |   |
|                                        |       |                                    |       |   |   |
| Cost of product sales                       |       | $                                       | 45,937     |   | $ | 46,909 |   |
| Cost of contract manufacturing and services |       | 5,233                                   |       | 3,409 |   |
| Total cost of revenues                      |       | $                                       | 51,170     |   | $ | 50,318 |   |

 

Cost ofproduct sales as a percentage of product sales improved to 55% in the threemonths ended January 31, 2010 from 56% in the three months ended January 31,2009. The decrease in the comparative three months was due to DHA productivityimprovements and decreases in our overall cost of ARA.

 

Cost ofcontract manufacturing and services was $5.2 million in the three months ended January 31,2010 and $3.4 million in the three months ended January 31, 2009.  Our contract manufacturing and servicesmargins vary between periods primarily due to contract mix and volume.

 

See “Management Outlook” for discussion ofexpected revenue and gross profit margin growthfor the second quarter of fiscal 2010.

 

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***OperatingExpenses***

The following table presents our operatingexpenses (in thousands):

 
| ** **                          | ** ** | **Three months ended January 31,** | ** ** |
|-------------------------------------|------------|-----------------------------------------|------------|
| ** **                          | ** ** | **2010**                                | ** ** | **2009** | ** ** |
|                                |       |                                    |       |   |   |
| Research and development            |       | $                                       | 7,066      |   | $ | 6,749 |   |
| Selling, general and administrative |       | 13,289                                  |       | 13,097 |   |
| Amortization of intangible assets   |       | 1,445                                   |       | 1,781 |   |
| Acquisition costs                   |       | 1,187                                   |       | — |   |
| Other operating expenses            |       | 34                                      |       | 153 |   |
| Total operating expenses            |       | $                                       | 23,021     |   | $ | 21,780 |   |

 

Our research and development costs increasedby $300,000 or 5% in the three months ended January 31, 2010 as comparedto the three months ended January 31, 2009.  The increase in the comparable three monthsis primarily due to continued focus on clinical research and productdevelopment.  Our research anddevelopment efforts continue to focus on: (i) broadening the scientificevidence supporting our products; (ii) improving manufacturing processes; (iii) broadeningthe market applications for the Company’s *life’sDHA*TM; and(iv) leveraging our microbialtechnology platform to develop new high-value product offerings. Wecontinue to expect quarter-to-quarter fluctuations in research and developmentexpenses mainly due to the timing of outside services, including third-partyclinical trial services.

 

Our selling, general and administrative costswere relatively unchanged, increasing by $200,000 or 1% in the three monthsended January 31, 2010 as compared to the three months ended January 31,2009.

 

We capitalize patent application and patentdefense costs in addition to certain other external costs related to ourintellectual property portfolio to the extent that we anticipate a futureeconomic benefit or an alternate future use is available to us from suchexpenditures. We amortize these costs over the expected life of the respectiveassets. We recorded amortization expense related to our intangible assets of$1.4 million in the three months ended January 31, 2010 and $1.8 millionin the three months ended January 31, 2009.  The decrease in the three months ended January 31,2010 resulted primarily from certain assets becoming fully amortized in theprior period. See Item 1. “Legal Proceedings” of Part II of this Form 10-Qfor further discussion of certain patent matters.

 

We have incurred significant costs associatedwith our acquisition of Amerifit (see “Recent Highlights”).  In the three months ended January 31,2010, these costs totaled $1.2 million. We expect these acquisition costs to continue in the three months ended April 30,2010, with such costs projected to total approximately $1.5 million in suchquarter.  See “Management Outlook” forfurther discussion.

 

***Interestand Other Income, Net***

Interestand other income, net, decreased by $300,000 in the three months ended January 31,2010 as compared to the three months ended January 31, 2009, due primarilyto lower interest earned on cash balances.

 

***InterestExpense***

Interestexpense was relatively unchanged in the three months ended January 31,2010 as compared to the three months ended January 31, 2009. Since October 31,2007, there have been no amounts outstanding under the Former Facility. SeeNote 8 to the consolidated financial statements for additional discussion ofthe Former Facility and the Credit Agreement we entered in January 2010.

 

***IncomeTax Provision***

Theprovision for income taxes reflected an effective tax rate of 37.5% in thethree months ended January 31, 2010 and 37.7% in the three months ended January 31,2009.

 

As of October 31,2009, we had net operating loss carryforwards for Federal income tax purposesof approximately $82 million, which expire at various dates between 2021 and2025. The timing and manner in which U.S. net operating loss carryforwards maybe utilized may be limited if we incur a change in ownership as defined under Section 382of the Internal Revenue Code.  Althoughwe have net operating losses available to offset future taxable income, we maybe subject to Federal alternative minimum taxes.

 

***NetIncome***

As aresult of the foregoing, net income was $9.6 million in the both the threemonths ended January 31, 2010 and January 31, 2009.

 

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**RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS**

 

In December 2007,the FASB issued Statement No. 141(R), “Business Combinations”, which hasprincipally been codified in FASB Accounting Standards Codification (“ASC”)Topic 805, “Business Combinations” (“ASC 805”).  ASC 805 establishes principles andrequirements for how an acquirer recognizes and measures in its financialstatements the identifiable assets acquired, the liabilities assumed, anynoncontrolling interest in the acquiree and the goodwill acquired. ASC 805 alsoestablishes disclosure requirements to enable the evaluation of the nature andfinancial effects of the business combination. ASC 805 was effective for usbeginning with the first quarter of fiscal 2010. As further described in Note13 to the consolidated financial statements, we acquired Charter Amerifit LLCand all of its subsidiaries (“Amerifit”) in February 2010. The adoption ofASC 805 did not have a cumulative effect upon adoption; however, ASC 805 willbe material to our financial condition and results of operations.  Specifically, the adoption of ASC 805required the immediate expensing of acquisition-related costs and additionalimpacts of ASC 805 are anticipated as the total purchase price is allocated toAmerifit’s net tangible and intangible assets based on their estimated fairvalues on the date of acquisition.

 

**LIQUIDITY AND CAPITAL RESOURCES**

 

We havefinanced our operations primarily from the following sources:

 

·                  cash generated from operations;

·                  cash received from the exercise of stock options; and

·                  debt financing.

 

Ourcash flows for the three months ended January 31, 2010 and 2009 were asfollows (in thousands):

 
| ** **                                           | ** ** | **Three  months ended January 31,** | ** ** |
|------------------------------------------------------|------------|------------------------------------------|------------|
| ** **                                           | ** ** | **2010**                                 | ** ** | **2009** | ** ** |
|                                                 |       |                                     |       |   |   |
| Net cash  provided by operating activities           |       | $                                        | 16,425     |   | $ | 8,601 |   |
| Net cash used in  investing activities               |       | (4,521                                   | )          | (3,840 | ) |
| Net cash (used  in) provided by financing activities |       | (2,895                                   | )          | 53 |   |
| Total cash inflows                                   |       | $                                        | 9,009      |   | $ | 4,814 |   |

 

Cash and cash equivalents increased $9.0million since October 31, 2009, largely due to net income of $9.6 millionin the quarter which contributed to the generation of $16.4 million in cashfrom operating activities. Capital expenditures, including both property andequipment as well as patent and other intangible asset costs, totaled $4.6million during the three months ended January 31, 2010.  In general, we believe that our currentproduction infrastructure can accommodate our short- and medium-term growthobjectives in all material respects.  Ourfinancing activities in the quarter ended January 31, 2010 primarilyinclude payment of $3.3 million for costs related to debt incurred by us in January 2010as described below.

 

In January 2010, we entered into a CreditAgreement (the “Credit Agreement”) that includes a $75 million term loan (the “TermLoan”) and a $50 million secured revolving credit facility (the “Revolver”).  The Credit Agreement replaced our existing$135 million credit facility. As of January 31, 2010, we had approximately$150.1 million in cash and cash equivalents. On February 12, 2010, we reduced our cash balances by $115 million inconnection with the acquisition of Amerifit and we received the $75 million inproceeds from the Term Loan and drew down $11 million from the Revolver, bothof which were also utilized for the acquisition of Amerifit.  

 

The Term Loan and the Revolver arecollateralized by certain of our and our subsidiaries’ assets, includingaccounts receivable, deposit accounts, inventory and certain software, generalintangibles and records pertaining to the foregoing as well as a pledge of 100%of our domestic subsidiaries’ equity. The Revolver, which may be increased during the term of thefacility by up to an additional $50 million subject to certain conditions,expires in February 2013.  The Term Loan matures in February 2013.We are required to make quarterly installment payments on the Term Loan of$3,750,000 beginning April 2010 plus additional annual repayments on January 31of each year based on consolidated excess cash flow, as defined in the CreditAgreement, of the preceding fiscal year. As a result of having entered the Credit Agreement and the subsequentfinancing of our acquisition of Amerifit, our future minimum payments undercontractual obligations were amended. Including the proceeds of the Term Loan and $11 million drawn from theRevolver, minimum payments due in less than one year increase by $15 million,minimum payments due in one to three years increase by $30 million and minimumpayments due in three to five years increase by $41 million.

 

The Term Loan will bear interest at theelection of Martek at either LIBOR plus up to 3.375% or a base rate plus up to1.25% depending upon the consolidated leverage ratio during each precedingfiscal quarter. The Revolver will bear interest at the election of Martek ateither LIBOR plus up to 3.00% or a base rate plus up to 1.00% depending uponthe consolidated leverage ratio during each preceding fiscal quarter.  Thebase rate is the higher of the lender’s prime rate, the federal funds rate plus0.50% or LIBOR plus 1.50%.  LIBOR is the greater of 1.50% per annum orLIBOR at the time of such determination.  Thecommitment fee rate under the Credit Agreement of up to 0.50% on the Revolveris based on our consolidated leverage ratio during each preceding fiscalquarter. Among other things, the Credit Agreement contains restrictions onfuture debt, the payment of 

 

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dividends and the further encumbrance ofassets. In addition, the Credit Agreement requires that we comply withspecified financial ratios and tests, including minimum coverage ratios andmaximum leverage ratios.

 

At January 31, 2010, our investments hada fair value of $10.6 million and consisted primarily of auction ratesecurities (“ARS”), the underlying assets of which are student loans originatedunder the Federal Family Education Loan Program (“FFELP”).  FFELP student loans are guaranteed by stateguarantors who have reinsurance agreements with the U.S. Department ofEducation.  These ARS are intended toprovide liquidity via an auction process that resets the applicable interestrate approximately every 30 days and allows investors to either roll over theirholdings or gain immediate liquidity by selling such investments at par. Theunderlying maturities of these investments range from 17 to 38 years.  Since February 2008, as a result ofnegative conditions in the global credit markets, the large majority of theauctions for our investment in these securities have failed to settle,resulting in Martek continuing to hold such securities.  Consequently, the investments are not currentlyliquid and we will not be able to access these funds, except as noted below,until a future auction of these investments is successful, a buyer is foundoutside of the auction process or the investments reach their contractualmaturity date.  To this end, in November 2008,we executed an auction rate securities rights agreement (the “Put Agreement”)with a financial institution that provides us the ability to sell certain ofour ARS to the financial institution and allows the financial institution, at itssole discretion, to purchase such ARS at par during the period June 30,2010 through July 2, 2012.  Our ARSholdings to which this relates have a cost basis of approximately $7.3 millionand a fair value at January 31, 2010 of approximately $6.1 million.  The Put Agreement, which is deemed a discreteshort-term investment, has a recorded fair value at January 31, 2010 ofapproximately $1.2 million.  The timeperiod until the initial date on which the exercise of the Put Agreement ispermitted is currently less than 12 months; therefore, the investment values ofthe Put Agreement and the ARS to which the Put Agreement relates are classifiedas short-term investments in the accompanying consolidated balance sheet as of January 31,2010.  We based our valuation of theseARS and the Put Agreement on discounted cash flow models that include variousunobservable inputs.  Changes to theinputs used as of January 31, 2010 would cause fluctuations to the fairvalue of the affected instruments and such fair value changes could bematerial.

 

We believe that the Revolver, when combinedwith our cash and cash equivalents on-hand at January 31, 2010 (net ofamounts used in connection with the Amerifit acquisition), and anticipatedoperating cash flows, will provide us with adequate capital to meet ourobligations for at least the next 12 to 18 months. The ultimate amount ofcapital that we may require will depend, among other things, on one or more ofthe following factors:

 

·                  our ability to operate profitably and generate positive cashflow;

·                  growth in our infant formula, food and beverage and othernutritional product sales;

·                  the extent and progress of our research and developmentprograms;

·                  the cost and progress of pre-clinical and clinical studies;

·                  the time and costs of obtaining and maintaining regulatoryclearances for our products that are subject to such clearances;

·                  the costs involved in filing, protecting and enforcingpatent claims;

·                  competing technological and market developments;

·                  the development or acquisition of new products;

·                  the cost of acquiring additional and/or operating andexpanding existing manufacturing facilities for our various products andpotential products (depending on which products we decide to manufacture andcontinue to manufacture ourselves);

·                  the costs associated with our internal build-up of inventorylevels;

·                  the costs associated with litigation to which we are aparty;

·                  the costs associated with integrating Amerifit into ouroperations;

·                  the costs of, and any capital requirements related to,future merger and acquisition activity; and

·                  the costs of marketing and commercializing our products.

 

We canoffer no assurance that, if needed, any of our financing alternatives will beavailable to us on terms that would be acceptable, if at all.

 

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**MANAGEMENT OUTLOOK**

 

Projected results for Martek (not includingAmerifit), Amerifit (stand-alone, post-acquisition) and on a consolidated basisfor the three months ended April 30, 2010 are as follows:

 
| ** **

** **                    | ** ** | **Three months ended April 30, 2010** | ** **       |
|-------------------------------------------|------------|--------------------------------------------|------------------|
| **(in millions, except per share  data)** | ** ** | **Martek**                                 | ** **       | **Amerifit (a)** | ** ** | **Consolidated** | ** ** |
|                                      |       |                                       |             |   |   |   |   |
| Revenue                                   |       | $                                          | 95.0 — 99.0 |   | $ | 16.5 — 18.0     |   | $ | 111.5 — 117.0     |   |
| Earnings before interest and taxes        |       | $                                          | 16.5 — 18.0 |   | $ | 1.5 — 2.0 (b) |   | $ | 18.0 — 20.0       |   |
| Net income                                |       |                                       |             |   |   | $ | 10.0 — 11.0 (c) |   |
| Diluted EPS                               |       |                                       |             |   |   | $ | 0.30 — 0.33 (c) |   |

 

----

| (a) |   | Projected  Amerifit results are included for the period from date of acquisition  (February 12, 2010) through April 30, 2010.                                                                                      |
|-----|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (b) |   | Includes  non-recurring cost of goods sold adjustment of $1.1 million associated with  the estimated effects of a write-up of inventory in connection with purchase  accounting.                                             |
| (c) |   | Includes  estimated acquisition costs, net of tax of $1.4 million ($0.04 per diluted  share) and the non-recurring cost of goods sold adjustment noted in  (b) above, net of tax of $700,000 ($0.02 per diluted share). |

 

For the second quarter of fiscal 2010, Martekexpects infant formula revenue to be between $78.0 million and $82.0 million,non-infant formula nutritional revenue to be between $11.0 million and $12.5million, and contract manufacturing and services revenue to be between $4.0million and $4.5 million.

 

Consolidated gross margin is expected to bebetween 46.5% and 47.5%, including the non-recurring cost of goods soldadjustment noted above associated with the estimated effects of a write-up ofinventory in connection with purchase accounting of $1.1 million, which reducesgross margin by approximately 1%.

 

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**Item 3. Quantitative and QualitativeDisclosures about Market Risk.**

 

We are subject to market risk associated withchanges in foreign currency exchange rates and interest rates.

 

In July 2009,we entered into the First Amended and Restated ARA Alliance, Purchase, andProduction Agreement (the “Restated Agreement”) with DSM.  As part of the agreement, it was establishedthat 25% of the ARA we buy from DSM will be denominated in Euros.  As such, consistent with our paymentarrangements with DSM prior to the execution of the Restated Agreement, we areexposed to risks related to changes in exchange rates between the U.S. dollarand the Euro.  We enter into foreigncurrency cash flow hedges to reduce the related market risk on our paymentobligations.  We do not enter intoforeign currency cash flow hedges for speculative purposes.  While we had no foreign currency forwardcontracts outstanding at January 31, 2010, we expect to enter into newforward contracts in the future.  Weestimate that a 5% change in the Euro-U.S. dollar exchange rate would impactgross margins of our infant formula products by less than 0.5%.

 

We aresubject to risk from adverse changes in interest rates, primarily relating tovariable-rate borrowings under the Credit Agreement. The Term Loan and theRevolver bear interest at rates that are determined by reference to, at theelection of the Company, LIBOR or a base rate that is equal to the higher ofthe lender’s prime rate, the federal funds rate plus 0.50 % or LIBOR plus1.50%.  Based on variable-rate borrowingsof $86 million used to fund the closing of the acquisition of Amerifit, we estimatethat a 1% increase in either LIBOR or the base rate would impact our net incomeby approximately $600,000.

 

We have investments at January 31, 2010with a fair value of $11.8 million, which consist primarily of auction ratesecurities (“ARS”). These ARS are intended to provide liquidity via an auctionprocess that resets the applicable interest rate approximately every 30 daysand allows investors to either roll over their holdings or gain immediateliquidity by selling such investments at par. Since February 2008, as aresult of negative conditions in the global credit markets, the large majorityof the auctions for our investment in these securities have failed to settle,resulting in our continuing to hold such securities. Based on the estimatedfair value of the ARS, during fiscal 2008 through fiscal 2010, we recorded netunrealized losses on these securities totaling approximately $2.2 million ($1.4million, net of income tax benefit), reflecting the decline in the estimatedfair value of these securities.  Wecontinue to monitor the market for auction rate securities and consider itsimpact, if any, on the fair value of these investments. If current marketconditions deteriorate further, the Company may be required to recordadditional write-downs. In November 2008, we executed an auction ratesecurities rights agreement (the “Put Agreement”) with a financial institutionthat provides us the ability to sell certain of our ARS to the financialinstitution and allows the financial institution, at its sole discretion, topurchase such ARS at par during the period June 30, 2010 through July 2,2012. Our ARS holdings to which this relates have a cost basis of approximately$7.3 million and a fair value at January 31, 2010 of approximately $6.1million.  The Put Agreement, which isdeemed a discrete short-term investment, has a recorded fair value of $1.2million.  The benefits of the PutAgreement are subject to the continued expected performance by the financialinstitution of its obligations under the agreement.  We based our valuation of these ARS and thePut Agreement on discounted cash flow models that include various unobservableinputs.  Changes to the inputs used as ofJanuary 31, 2010 would cause fluctuations to the fair value of theaffected instruments and such fair value changes could be material.

 

**Item 4. Controls and Procedures.**

 

a)              *Evaluationof Disclosure Controls and Procedures.*As of the end of the periodcovered by this report, we, under the supervision and with the participation ofour management, including our Chief Executive Officer and Chief FinancialOfficer, have evaluated the effectiveness of our disclosure controls andprocedures pursuant to Exchange Act rules 13a-15(e) and15d-15(e).  Based on this evaluation, ourChief Executive Officer and Chief Financial Officer have concluded that, as ofthe end of the period covered by this report, the disclosure controls andprocedures were effective.

 

b)             *InternalControl Over Financial Reporting.* There was no change in ourinternal control over financial reporting in connection with the evaluationrequired by paragraph (d) of Rules 13a-15 or 15d-15 under theExchange Act that occurred during Martek’s quarter ended January 31, 2010that materially affected, or is reasonably likely to materially affect, ourinternal control over financial reporting.

 

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**PART II- OTHER INFORMATION**

 

**Item1.  Legal Proceedings.**

 

Information regarding reportable legalproceedings is contained in Item 3. “LegalProceedings” of Part I of our Annual Report on Form 10-Kfor the year ended October 31, 2009, as well as in the other reports wefile with the Securities and Exchange Commission (the “SEC”). The following isprovided to supplement and update the description of reportable legalproceedings contained in those reports:

 

**Aventis S.A. and Nagase &Co. Ltd. are challenging our European patent covering our DHA-containing oils,which expires in February 2011.  Ata hearing in October 2000, the Opposition Division of the European PatentOffice (“EPO”) revoked our patent on the grounds that it was not novel. Weimmediately appealed this ruling, and in July 2002 we received a positiveruling from an Appeal Board of the EPO, setting aside the prior decision torevoke this patent. The patent was returned to the Opposition Division for adetermination as to whether it has met the legal requirement of “inventive step”.A hearing in August 2005 resulted in a ruling by the Opposition Divisionthat this requirement had been met and the validity of the patent was upheld.Aventis appealed the decision to the Appeal Board of the EPO.  Martek filed its answer to Aventis’ groundsfor appeal in July 2006.  The appealhearing was scheduled for March 2009. Martek submitted new evidence that the appeal was inadmissible becauseAventis was not the proper party. Because the Appeal Board found that there are questions relating to theadmissibility of Aventis’ appeal, it postponed the hearing and directed theparties to submit additional briefs on this issue.  Aventis submitted its brief in May 2009and Martek submitted its brief in August 2009.  Aventis has filed a further brief, and Martekhas responded.  The filing andconsideration of these briefs will likely delay the appeal hearing for aboutone to two years from the original hearing date.  Martek’s patent will remain in full force andeffect during the pendency of these proceedings.  Claim 1 of this patent is the basis of thepatent infringement suit against Nutrinova and Lonza in Germany and againstLonza in France, discussed below. In the event Martek were to lose this appeal,this DHA patent would be revoked. The revocation of this patent would result inthe dismissal of the patent infringement suit against Nutrinova and Lonza inGermany and against Lonza in France, discussed below, and patent protection forMartek’s DHA-containing oils for use in infant formula would be compromised inEurope. Currently, annual sales of Martek’s DHA for use in infant formula inEurope to companies other than those with whom Martek has an exclusive supplyagreement are less than $1 million. Such exclusive agreements generally runthrough 2011.  An adverse decision wouldnot impact Martek’s ARA patent position in Europe. Moreover, the outcomeof this appeal will not affect the patent infringement lawsuit againstLonza in the U.S., as the U.S. lawsuit is based on a different family ofpatents.**

** **

Prior to our purchase of OmegaTech in fiscal2002, Aventis Research and Technologies GmbH & Co. KG, and NagaseLimited challenged OmegaTech’s European patent covering its DHA-containingoils. At a hearing in December 2000, the Opposition Division of the EPOupheld some of the claims and revoked other claims. OmegaTech immediatelyappealed this ruling, as did Aventis. At an appeal hearing in May 2005, wereceived a favorable decision from the Appeal Board of the EPO, whichoverturned the decision of the Opposition Division and returned the case to theOpposition Division for review on the merits of the patent claims.  In a November 2007 hearing, theOpposition Division upheld claims that are narrower than the claims originallygranted but broader than the claims that were previously upheld in the December 2000Opposition Division hearing.  Martek andAventis have appealed.  The patent, whichexpires in November 2010, will remain in full force and effect during theappeal process. This appeal suffers from the same admissibility problems thatAventis has with the appeal of the DHA patent discussed above.

 

In October 2007, the EPO granted a patentto Martek for fermentation processes for producing microbial lipids (e.g., DHAoil) under low dissolved oxygen conditions.  Lonza AG filed an oppositionagainst this process patent in July 2008, and Martek filed a writtenresponse in April 2009.  A hearing before the Opposition Division ofthe EPO in Munich, Germany is scheduled for April 2010.  This patent is scheduled to expire in January 2021.

 

In September 2003,we filed a patent infringement lawsuit in the U.S. District Court inDelaware against Nutrinova Inc., Nutrinova Nutrition Specialties &Food Ingredients GmbH, Celanese Ventures GmbH, and Celanese AG. CelaneseVentures GmbH and Celanese AG were dropped from the lawsuit.  Lonza Ltd. was added to the lawsuit.  In October 2006, after an almost twoweek trial in Wilmington, Delaware, the jury returned a favorable verdict toMartek, deciding that all three of the asserted Martek DHA patents were validand infringed, and that one was willfully infringed.  In October 2007, the judge upheld the October 2006jury verdict that the defendants infringed all of the asserted claims of U.S.Patent Nos. 5,340,594 and 6,410,281 and that these patents were notinvalid.  The judge has granted apermanent injunction against the defendants with respect to those twopatents.  The judge also upheld the juryverdict that the defendants had acted willfully in their infringement of U.S.Patent No. 6,410,281.  Regarding the third patent involved in thecase, U.S. Patent No. 6,451,567, the judge reversed the jury verdict andfound that the asserted claims of this patent were invalid.  Martek’s request to the judge to reconsiderhis ruling on the third patent was denied. Martek and the defendants appealed aspects of the judge’s final decisionand a hearing was held before the U.S. Court of Appeals for the Federal Circuitin April 2009.  In September 2009, the Court of Appeals ruled inMartek’s favor on all of the patents that were the subject of the appeal, whichincluded U.S. Patent Nos. 5,340,594, 6,410,281, 6,451,567 noted above and5,698,244, which was included in Martek’s appeal as a result of the trial court’sdecision at a pre-trial hearing on the meaning and scope of the patent claimsin dispute. With respect to U.S. Patent No. 5,698,244, the Court ofAppeals reversed the trial court’s interpretation of certain claim language andremanded this patent to the trial court for further proceedings. U.S. PatentNos. 5,340,594 and 6,454,567 have expired and U.S. Patent Nos. 6,410,281 and5,698,244 are scheduled to expire in August 2011 and December 2014,respectively.  The defendants requested arehearing with the Court of Appeals on the decision, but their request was denied.

 

In November 2009,Lonza filed with the U.S. Patent and Trademark Office a Request for Reexamination(“Request”) of U.S. Patent No. 5,698,244. This patent could impact competitors inthe food and beverage, dietary supplement and infant formula markets.  After multipleresubmissions, the Office granted this Request in March 2010.

 

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Also, in February 2010, Lonzafiled a Request seeking reexamination of Martek’s U.S. Patent No. 6,410,281, which is the only unexpired patent ofthe three patents that Lonza was found to have infringed in the U.S., asdiscussed above.  The U.S. Patent andTrademark Office has not ruled on this Request.

 

We also filed a patentinfringement suit involving Nutrinova Nutrition Specialties & FoodIngredients GmbH and Celanese Ventures GmbH in Germany in January 2004.  Lonza Ltd. and a customer of Nutrinova havealso been added to this lawsuit.  Thecomplaint alleges infringement of our European patent relating toDHA-containing oils.  A hearing was heldin a district court in Dusseldorf in September 2007 and the court issuedits decision in October 2007, ruling that Martek’s patent was infringed bythe defendants.  The defendants haveappealed, and an appeal hearing was scheduled for February 2009.  Martek and the defendants requested that theappeal hearing be delayed until the Appeal Board of the EPO decides whether touphold Martek’s European patent covering our DHA-containing oils.  This EPO Appeal Board hearing was scheduledfor March 2009 and has been postponed. In December 2008, Martek requested that the court expand the appealto include Lonza’s production of DHA in Germany, based on evidence discoveredin October 2008.

 

We filed a patentinfringement suit involving Lonza Ltd AG and Capsugel France in France in November 2008.  The complaint alleges infringement of ourEuropean patent relating to DHA-containing oils. Lonza requested that the trialbe delayed until the Appeal Board of the EPO decides whether to uphold Martek’sEuropean patent covering our DHA-containing oils.  This EPO Appeal Board hearing was scheduledfor March 2009 and has been postponed. We agreed to dismiss our claims against Capsugel France in November 2009based on Capsugel and its affiliates agreeing to purchase all of theirmicrobial DHA exclusively from Martek for the life of the patent in question.

 

Martek is opposing two of Suntory’s low sterol ARA oil patents in Europeand one in Australia.  The patents aregenerally directed to processes for producing microbial ARA oil having a lowratio of certain sterols, the resulting oil and its use in infant formula.  Martek believes that the patents are invalidfor a number of reasons, including prior art that anticipates the claimsrelevant to Martek.  An OppositionDivision hearing on the first European patent was held in April 2008, andthe Opposition Division revoked the Suntory patent.  Suntory has appealed, during which time thepatent will remain in full force and effect. A hearing on the other European patent took place in December 2009,resulting in the revocation of the Suntory patent.  Suntory will likely appeal.  A hearing on the Australian patent isexpected in 2010.

 

In 2008, third parties filed Requests seekingreexamination of eleven of Martek’s U.S. patents.  Eight of these Requestswere filed by Lonza with respect to eight of Martek’s DHA patents which aregenerally not relevant to Martek’s infant formula business.  Four of these patents have now expired.  Additionally, in 2008 an anonymous partyfiled three other Requests with respect to two of Martek’s blended oils patentsand one ARA patent, all of which relate to our infant formula business.  The U.S. Patent and Trademark Office grantedall eleven of the Requests to initiate a Reexamination process (“Reexamination(s)”). As a result of Reexaminations, the claims of the subject patents may be upheldin their current form, narrowed, abandoned, or revoked, or the term of a patentmay be shortened.  Not all of the claimsof the patents are subject to Reexamination.  With respect to the ARApatent, which is scheduled to expire in August 2014, we received a Notice of Intent to Issue a ReexaminationCertificatefrom the examiners in February 2010. The ARA patent willemerge from this Reexamination with narrower claims, as the broader productclaims have been canceled.  Specifically,the reexamined patent will contain narrower product claims and process claims that,among other things, provide patent protection for a production process that webelieve: i)  results in higher quality oil and higher ARA potency and ii)is cost efficient compared to other processes for producing ARA.  When combined with our in-licensed patentsfrom our ARA production partner DSM, we believe that it will be technologicallydifficult and less cost efficient for competitors to design around theseclaims.  Nonetheless, it is uncertain how much protection they willprovide.

 

In February 2010, an anonymousparty filed a new Request seeking reexamination of certain claims of Martek’sARA patent, discussed above.  Specifically, reexamination of certainclaims that were not reexamined during the initial Reexamination andreexamination of other claims which have now been canceled was requested.  The U.S. Patent and Trademark Office has notruled on this Request.

 

We received positive advisory actions from theexaminers regarding claims pending in the Reexaminations of two DHA patentsthat have not expired and the two blended oils patents.  The blended oilspatents expire in December 2011, which generally coincides with theexpiration of some of our infant formula customers’ sole source purchaseobligations.  Three Reexamination Certificates have been received forthese two DHA patents and one of the two blended oils patents.  We expectthe fourth Reeaxmination Certificate for the remaining blended oils patent willissue in March 2010.  The Reexaminations are continuing for theremaining two unexpired DHA patents, and we have been conducting furtherproceedings with the examiners on these two DHA patents.  If we are unableto obtain commercially meaningful claim coverage, we plan to appeal within theU.S. Patent and Trademark Office, and in the event of a negative outcome, wewill have an opportunity to further appeal to the federal courts.  Thesepatents will remain in full force and effect during the appeal process. However, if the appeals are not successful or are not pursued, some or all ofthe claims of these patents could be revoked.

 

There are additional intellectualproperty proceedings pending against Martek or that Martek has pending againstthird parties that are not considered material.

 

In addition, from time to time, Martek is aparty to additional litigation or administrative proceedings relating to claimsarising from its operations in the normal course of business or othermatters.  Management believes that theultimate resolution of any such additional litigation or administrative 

 

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proceedings currently pending against Martekis unlikely, either individually or in the aggregate, to have a materialadverse effect on Martek’s results of operations or financial condition.

 

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**Item 1A.Risk Factors.**

 

Investing in our securities involves a highdegree of risk. Before making aninvestment decision, you should carefully consider the risks set forth in Item1A. “Risk Factors” of Part I of our Annual Report on Form 10-K forthe year ended October 31, 2009 and all other information we include inthis report and the additional information in the other reports we file withthe Securities and Exchange Commission (the “SEC”). If any of the riskscontained in those reports, or described below, actually occur, our businesscould be harmed. In such case, the trading price of our securities coulddecline and you could lose all or part of your investment.

 

As described in Item 2 “Management’sDiscussion and Analysis of Financial Condition and Results of Operations”, “RecentHighlights”, on February 12, 2010, Martek acquired Charter Amerifit LLCand all of its subsidiaries (“Amerifit”). Amerifit develops, markets anddistributes branded consumer health and wellness products and holds leadingbrand positions in all of its key product categories. Amerifit products aresold in most major mass, club, drug, grocery and specialty stores and include:Culturelle®, a leading probiotic supplement; AZO®, the leading OTC brandaddressing symptom relief, detection and prevention of urinary tractinfections; and ESTROVEN®, the leading all-natural nutritional supplement brandaddressing the symptoms of menopause. Upon the closing of the acquisition, wepaid for the benefit of Amerifit’s equity holders total cash consideration ofapproximately $201 million, net of cash acquired.

 

The riskfactors below are provided to supplement and update the risk factors containedin the reports we file with the SEC, including the risk factors containedin Item 1A. of Part I of our Annual Report on Form 10-K for the yearended October 31, 2009.  Theseupdates and supplements are intended to address the material risks associatedwith the Amerifit acquisition and business, in general.  Please note that certain risks associatedwith Martek’s nutritional oils business included in the Form 10-K for theyear ended October 31, 2009 are also risks which apply to the Amerifitbusiness.

 

These risksinclude those which relate to:

 

·                  the potential effects of the global economicrecession,

·                  the potential effects of reliance on relatively few,large customers,

·                  the potential effects of allegedly unsubstantiatedproduct efficacy claims,

·                  the potential effects of product liability claims andrecalls,

·                  the potential effects of unfavorable future clinicaltrials,

·                  the potential effects of non-compliance withregulatory requirements,

·                  the potential effects of fluctuations in theavailability and cost of raw materials and energy,

·                  the potential effects of failed product launches,

·                  the potential effects of current and futurecompetitive products and

·                  the potential effects of real or perceived productsafety and quality issues.

 

It should benoted that certain of these previously-disclosed risk factors referred andrelated specifically to our nutritional oils. While they have not been updatedand restated below, on a going forward basis, these general risks are intendedto include all products offered and businesses owned and operated by Martek.

 

Risk factors tosupplement and update those included in the Form 10-K for the year ended October 31,2009 are as follows:

 

***We may fail to realize theanticipated strategic and sales synergies expected from the Amerifitacquisition, which could adversely affect our operating results and the marketprice of our common stock.***

 

The success of the Amerifit acquisition will depend, in significantpart, on our ability to successfully integrate Amerifit into our operations,and realize the anticipated benefits and synergies to be derived from thecombination of the two businesses. We believe that Amerifit’s product portfolioand sales and marketing infrastructure will accelerate the execution of ourcorporate and product development strategy and provide opportunities to significantlyimprove our product development investment. However, an inability by us todevelop future products or to utilize the existing Amerifit sales and marketinginfrastructure for the commercialization of such future products may causeactual operating, strategic and sales synergies to be lower than we expect orto take longer to achieve than anticipated, if achieved at all. In addition, ifwe are not able to adequately address the integration challenges above, we maybe unable to realize the anticipated benefits of the transaction. If we are notable to achieve these objectives, the value of Martek’s common stock may beadversely affected.

 

***In order to consummate theAmerifit acquisition, we have taken on substantial additional indebtedness andmaterially reduced our cash balance.***

 

In accordance with the agreement and plan of merger, we agreed to paythe former equity holders of Amerifit $201 million in cash, net of cashacquired. We financed the acquisition though existing cash of approximately$115 million along with the proceeds from the $75 million term loan and $11million drawn down from a new revolving credit facility. The cash expendituresignificantly reduced our cash balance, and along with the debt incurred, couldadversely affect our business. In particular, we could be more vulnerable toany sustained regional or global downtown or slow economic recovery and ourability to obtain further financing and pursue certain operational andstrategic opportunities could be limited. Our indebtedness and lower cashbalance may also put us in a competitive disadvantage to competitors withgreater resources.

 

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***The Amerifit acquisition mayexpose us to significant unanticipated liabilities that could adversely affectour business and results of operations.***

 

Our purchase of the Amerifit may expose us to significant unanticipatedliabilities. We may incur unforeseen liabilities relating to the operation ofthe newly-acquired business. The liabilities may include employment, retirementor severance-related obligations under applicable law or other benefitsarrangements, legal claims, warranty or similar liabilities to customers orvendors, and claims by or amounts owed to suppliers. We have placed $25 millionin an escrow to secure certain indemnification obligations of Amerifit’sprevious equity holders; however, the incurrence of unforeseen or unanticipatedliabilities, should they be significant and in excess of the amounts placed inescrow, could have a material adverse affect on our business, results ofoperations and financial condition.

 

***The transaction may not beaccretive and may cause dilution to our earnings per share, which may harm themarket price of our common stock.***

 

We currently anticipate that the transaction will be accretive toearnings per share for fiscal 2010. This expectation is based on preliminaryestimates which may materially change. We could encounter unanticipatedintegration-related costs or fail to realize all of the benefits of thetransaction that underlie our financial model and expectations as toprofitability. All of these factors could cause dilution to our earnings pershare or decrease or delay the expected accretive effect of the transaction andcause a decrease in the price of our common stock.

 

***We must be successful in theretention, motivation and recruitment of key executives and employees.***

 

We must continue to retain, motivate and recruit executives and otherkey employees to realize the benefits of the Amerifit acquisition. Experiencedemployees are in high demand and competition for their talents can be intense.Employees of Martek and employees of Amerifit that are now part of the Martekcorporate organization may experience uncertainty, real or perceived, abouttheir future role at Martek. These potential distractions may adversely affectthe ability to retain, motivate and recruit executives and other key employeesand keep them focused on corporate strategies and objectives. The failure toattract, retain and motivate executives and other key employees followingcompletion of the transaction could have a negative impact on our business.

 

***The Amerifit business relies onthird- party manufacturers for the production of its product portfolio.***

 

We use third- party manufacturers to produce Amerifit products. In mostcases, these third- party manufacturers are not bound by fixed term commitmentsin our contracts with them, and they may discontinue production with little orno advance notice. Manufacturers also may experience problems with productquality or timeliness of product delivery. We rely on these manufacturers tocomply with applicable current good manufacturing practices (GMPs). The loss ofa contract manufacturer may force us to shift production to a differentsupplier and possibly cause manufacturing delays, disrupt our ability to fillorders or require us to suspend production until we find another third partymanufacturer, if one can be found at all. Should any of these manufacturersfail to meet our standards, we may face regulatory sanctions, additionalproduct liability claims or customer complaints, any of which could harm ourreputation and our business. Disruption in supply by our third-partymanufacturers could have a material adverse effect on the future sales andoperations of the Amerifit business.

 

***The Amerifit business could beadversely affected if we are unable to successfully protect our intellectualproperty or defend claims of infringement by others.***

 

The Amerifit trademarks are of material importance to the Amerifitbusiness. Substantially all of Amerifit’s current revenues are from productsbearing proprietary brand names. Although our principal brand names areregistered trademarks in the United States and certain foreign countries, therecan be no assurance that the steps we take to protect our proprietary rights inour brand names will be adequate to prevent the misappropriation of theseregistered brand names in the United States or abroad. There can also be noassurance that we will be able to successfully protect our trademarks frominfringement or otherwise. The loss or infringement of our trademarks couldimpair our brands, harm our reputation and materially adversely affect ourfinancial results.

 

***Changes to regulatoryrequirements to which our business is subject could have a material effect onour results of operations.***

 

Our productsand our manufacturing and research activities are subject to varying degrees ofregulation and various regulatory authorities in the United States andabroad.  These regulatory authoritiesinclude, but are not limited to, the Food and Drug Administration and FederalTrade Commission in the United States as well as agencies and entitiesproviding similar functions throughout the rest of the world.  The various regulatory requirements arecomplex and constantly changing, sometimes quite unpredictably, due, in part, tochanges in agendas of political, business and environmental groups as well asgovernment priorities.  We may berequired to incur substantial costs to comply with current or future laws andregulations, or new interpretations of existing laws and regulations, and ouroperations, business or financial condition could be adversely affected by suchfuture requirements or interpretations of existing requirements.

 

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**Item2.  Unregistered Sales of EquitySecurities and Use of Proceeds.**

 

None.

 

**Item3.  Defaults Upon Senior Securities.**

 

Not Applicable.

 

**Item4.  Reserved.**

 

**Item5.  Other Information.**

 

None.

 

**Item6.  Exhibits.**

 
| 2.01   | Agreement and Plan of Merger, dated January 21,  2010, among Martek Biosciences Corporation, Pearl, LLC, Charter Amerifit LLC,  Charter Amerifit Holding Corporation, AB Merger Sub, Inc., Amerifit  Brands, Inc. and AB SR LLC. (1) |
|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                                                                                                                |
| 10.01  | Credit Agreement, dated to be effective as of January 21,  2010, by and between Martek Biosciences Corporation, Manufacturers and  Traders Trust Company, and the lenders identified therein.(1)                                               |
|   |                                                                                                                                                                                                                                                |
| 31.01  | Certification of Chief Executive Officer Pursuant to  Rule 13a-14(a)/15d-14(a).*                                                                                                                                                               |
|   |                                                                                                                                                                                                                                                |
| 31.02  | Certification of Chief Financial Officer Pursuant to  Rule 13a-14(a)/15d-14(a).*                                                                                                                                                               |
|   |                                                                                                                                                                                                                                                |
| 32.01  | Certification of Chief  Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted  Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. *                                                                                    |
|   |                                                                                                                                                                                                                                                |
| 32.02  | Certification of Chief Financial Officer  Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002.*                                                                                     |

 

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*      Filed or furnished herewith.

(1) Incorporatedby reference from our Current Report on Form 8-K (File No. 0-22354)filed with the Securities and Exchange Commission on January 26, 2010.

 

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**SIGNATURES**

 

Pursuant to the requirements of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned thereunto duly authorized.

 

 
|   |                |   | **MARTEK BIOSCIENCES CORPORATION**                                                              |
|--------|---------------------|--------|-------------------------------------------------------------------------------------------------|
|   |                |   | (Registrant)                                                                                    |
|   |                |   |                                                                                            |
|   |                |   |                                                                                            |
| Date:  | March 12, 2010 |   | /s/ Peter L. Buzy                                                                               |
|   |                |   | Peter L. Buzy                                                                                   |
|   |                |   | Chief Financial Officer, Treasurer and Executive Vice President for  Finance and Administration |
|   |                |   | (Principal Financial and Accounting Officer)                                                    |

 

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**EXHIBITINDEX**

 
| **Exhibit No.** | ** ** | **Description**                                                                                                                                                                                                                                     |
|----------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                 |       |                                                                                                                                                                                                                                                |
| 2.01                 |       | Agreement and Plan of Merger, dated January 21,  2010, among Martek Biosciences Corporation, Pearl, LLC, Charter Amerifit LLC,  Charter Amerifit Holding Corporation, AB Merger Sub, Inc., Amerifit  Brands, Inc. and AB SR LLC. (1) |
|                 |       |                                                                                                                                                                                                                                                |
| 10.01                |       | Credit Agreement, dated to be effective as of  January 21, 2010, by and between Martek Biosciences Corporation,  Manufacturers and Traders Trust Company, and the lenders identified  therein.(1)                                              |
|                 |       |                                                                                                                                                                                                                                                |
| 31.01                |       | Certification of Chief Executive Officer Pursuant to  Rule 13a-14(a)/15d-14(a).*                                                                                                                                                               |
|                 |       |                                                                                                                                                                                                                                                |
| 31.02                |       | Certification of Chief Financial Officer Pursuant to  Rule 13a-14(a)/15d-14(a).*                                                                                                                                                               |
|                 |       |                                                                                                                                                                                                                                                |
| 32.01                |       | Certification of Chief  Executive Officer Pursuant to 18 U.S.C. Section 1350, as adopted  Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. *                                                                                    |
|                 |       |                                                                                                                                                                                                                                                |
| 32.02                |       | Certification of Chief Financial Officer  Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002.*                                                                                     |

 

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*      Filed or furnished herewith.

(1) Incorporatedby reference from our Current Report on Form 8-K (File No. 0-22354)filed with the Securities and Exchange Commission on January 26, 2010.

 

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