The Quarrel Over Quigley part 3
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The Company Responds
Quigley Corp.'s official view is that the company is under attack. In two long, occasionally tense interviews with Rogue, Quigley General Counsel Thomas MacAniff sounded like a man reluctantly making a list of people who might eventually need to be sued even as the company tries to remain focused on the key issue of increasing its manufacturing capacity. But he said, "I'm not going to sue somebody if I can avoid it. We're out to produce a product.... I've never seen a company in my life litigated into a success."
This past Wednesday, new Quigley CFO George Longo announced that the company was bringing in a Big Six accounting firm, replacing the controversial auditor Nachum Blumenfrucht. The previous Wednesday, however, MacAniff defended Blumenfrucht, giving no indication that the company had plans to replace him.
MacAniff explained that the company found Blumenfrucht in 1991 through their securities counsel at the time. "It was a small company, his price was right. He did a good job." MacAniff also focused on what he deemed the highly misleading reporting in the Barron's piece.
He said that Blumenfrucht did work as an auditor for Phil Abramo, but that the assignment involved auditing "one blind pool, that had $18 to $19 thousand in it, for one year." MacAniff said that Abramo has been around for years and "involved in God knows how many transactions," and yet Blumenfrucht was the auditor for one 1994 pool in which Abramo was merely one participant. The Barron's portrayal of Blumenfrucht as "Abramo's auditor" was "true as far as it goes" but completely misleading since it failed to address the context. "Is it actionable? No. The guy who wrote the article is clever."
A member of the New York State Society of Certified Public Accountants, Blumenfrucht is a licensed CPA in good standing with the state of New York. The State Education Department's Office of Professional Discipline said there had been no disciplinary actions against Blumenfrucht since his license was issued in April of 1981. He also has a clean record with the SEC.
On the other hand, Blumenfrucht, as the company's critics have charged, does not participate in peer review. Though the New York State Society of CPAs has no official position on the issue, Bill Pru of the Society's compliance staff said it was "very unusual" for a public company to be audited by a CPA who does not participate in peer review.
MacAniff noted that neither the SEC nor the NASD requires an auditor to be peer-reviewed -- which is true. But Nasdaq officially suggests that companies going public and joining either the Nasdaq national market or the small cap market -- though not necessarily the OTC Bulletin Board -- should "retain a national accounting firm or a firm that is a member of the American Institute of Certified Public Accountants (AICPA)." Blumenfrucht was not and could not be a member of AICPA because the Institute requires CPAs to participate in peer review.
MacAniff addressed other charges made by the company's critics. He said "it's correct" that Raphael "Ray" Bloom introduced Quigley Corp. to Diversified Corporate Consulting but that the company had never made any payment to Bloom. MacAniff also said that the company "had never heard of" Interactive Media Services. According to Elgindy, Interactive held 132,000 shares of Quigley at the end of December in an account at Empire Securities, a firm based in Syosset, New York. The account listed Bloom's New York address as the key contact. (Empire's president Robert Spitzer said that figure is "ridiculous" and "absolutely wrong.")
Diversified is a different issue. MacAniff said that Quigley Corp. signed an agreement with the financial consulting firm on September 3, 1996. "There was no contract between the company [and Diversified] nor any investment in Quigley by Diversified until Septemeber 3rd," he said. But the agreement signed that day "was the result of contracts that had been passed back and forth since, I think, early June."
Though the nature of that contract remains hazy, it appears to be the case that Quigley agreed to take on Carousel Consulting for its public relations and investor relations work at the same time that Diversified made an investment in Quigley, the investment being, according to MacAniff, "the main relationship." He said that Diversified purchased 300,000 shares in September. "There was another investment in October. They exercised some warrants at $3, or something like that."
Diversified's managing member is William A. Calvo, III, who was disbarred in 1988 for engaging in stock fraud in an offering for The Electronic Warehouse, Inc. Was Quigley Corp. aware of this in September? "Hell, no," MacAniff said. Neither he nor Guy Quigley nor securities counsel Bill Riley knew about Calvo's record at the time. "I thought we had him checked out, but I guess not. Frankly, it's water over the dam. As far as I'm concerned, they met the terms of their contract with us." MacAniff said the company had originally thought that Diversified could do more for them in terms of "getting the product introduced," but "the product introduced itself."
The company's critics suggest, though, that this deal with Diversified may have been part of a stock rig. Elgindy said that the people behind Diversified own SGA Goldstar, an online newsletter which the SEC has charged with engaging in a systematic practice of promoting small stocks, such as the now halted SYSTEMS OF EXCELLENCE (NASDAQ: SEXI), in exchange for shares which it would then sell into the buy orders it had helped generate. Around the time of Diversified's deal with Quigley, a poster to the AOL Investor's Network stock boards said that Quigley's home page was featuring a recommendation from SGA Goldstar.
MacAniff said that's untrue. "They never appeared on our Web site. The only knowledge we have of them is somebody faxed us an SGA Goldstar report that was totally inaccurate, and we wrote SGA Goldstar and told them that their report was inaccurate. But we don't know who they are."
Eric Schwartz, the SEC's lead attorney on the SGA Goldstar complaint, refused comment regarding any possible connection between SGA Goldstar and Diversified or SGA Goldstar and Quigley. In mid-December, the commission filed an amended complaint listing 10 companies, in addition to Systems of Excellence, which it believes SGA Goldstar promoted for cash or stock payments. Schwartz simply said that these examples were "not meant to be exhaustive."
MacAniff said that he did not know if Diversified still owned any Quigley shares. "I think they sold all of their stock between 4 and 6," he said. Indeed, "part of that [the October S-8 filing] was Diversified, if I'm not mistaken." If that were true, however, Diversified would appear to have less reason to complain to the SEC in December about fraudulent faxes harming Quigley, which MacAniff said they did. During his second conversation with Rogue, MacAniff said, "I don't feel that we have any ongoing relationship with Diversified. But they're our shareholder, and they hold a certain investment."
As for Carousel, Quigley is still paying the firm $3,000 a month to handle a limited amount of investor contact. "That will continue probably until August," MacAniff said. InFocus, based in Princeton, New Jersey, has recently been hired to handle all new or current investor inquiries or contacts with the media.
In terms of the basic question of how the company has been able to ramp up production so fast with so little cash on hand, MacAniff said simply that "there are a number of turns, and fortunately, the payment is prompt." Quigley now has "more than adequate cash." The company is continuing to work to expand production significantly beyond the current level of $1.5 million a week. He said that "in the very short term" the company hopes to double that. "We're trying to be very conservative about our capacity."
Additional capacity is necessary because Quigley currently has a $12.5 million order backlog, which MacAniff characterized as "stuff that should see delivery in the next 60 days or immediately, if possible." He also said that a $7.5 million purchase order from Zee Medical is not included within the above backlog since "that purchase order is not as firm as the others."
MacAniff also said that at least one post to the Fool folder concerning upcoming competition was inaccurate. "Hedgy1" had posted a message indicating that Don Lepone, president of leading private label lozenge maker NUTRAMAX (NASDAQ: NMPC), had told analysts in a conference call that his company was looking at marketing a Cold-Eeze knock-off product. Lepone was said to have indicated that he did not believe Quigley's patents were insurmountable. MacAniff said that Quigley Corp. had been approached by Lepone about doing contract manufacturing for Quigley and that the parties had met in December to discuss the matter.
Reached this past Thursday for comment, Lepone confirmed MacAniff's account. "Our relationship with Quigley is that we are having conversations, ongoing conversations, with them to become a contract manufacturer of their product."
Lepone said he never used the word "patent" in the analyst conference. "My statement of the conference call was that Nutramax was working on a zinc product, as well as everyone else that we know about. That was my statement of the conference call. And working on a zinc product could mean that we were working with someone on a zinc product or we were working to develop our own product and I never said one way or the other what that was."
Filing New Shares
Quigley Corp.'s critics do score some points in their critique of the company's public filings. Consider the rather arcane example of the private placement of shares under the SEC's Regulation D, the section of rules governing the limited offer and sale of unregistered securities.
In Quigley's 10-QSB quarterly filing for the third quarter of 1996, the company indicated that it "continues to offer shares under its 504 offering and is contemplating other equity offerings." Regulation D, section 504 permits a company to sell up to one million dollars in securities in a private placement. These shares can be resold without being formally registered, though the company must submit a Form D notice to the SEC that the sale took place.
The company's critics argue that offerings under 504 are not permitted for a company such as Quigley which files with the SEC pursuant to section 13 or 15d of the Securities Exchange Act of 1934. SEC spokesperson John Heine declined to comment on any specific case, but conversations with him suggest that a reporting company -- such as Quigley was in June of 1996 -- cannot rightfully offer shares under section 504. It's also unclear whether the company's January 1995 private sale (the last reported under section 504) of 1.6 million shares for $225,000 was proper. On the other hand, the company's proposed $6-8 million common stock offering mentioned in the subsequent 10-KSB would be legitimate under Regulation D section 506.
Other filing questions pertain to Quigley's liberal issuance of new shares and stock purchase warrants. Who received all these shares and warrants, and exactly how well do the numbers add up? (The following calculations do not take into account the recent 2-for-1 stock split unless otherwise noted.) At the end of the 1995 fiscal year on September 30, 1995, shares outstanding stood at 33,614,140 or 3.36 million based on the subsequent 1-for-10 reverse stock split which became effective on January 11, 1996. Subsequent 10-QSB filings show that number rising to 4.19 million by the end of June and again to 4.77 million by the end of the 1996 fiscal year on September 30, 1996. The company's recent 10-KSB indicates that there were 6,049,594 shares outstanding as of December 31, 1996.
The company's 10-KSB does account for the additional 1.41 million shares issued during fiscal '96. The largest allotments included 269,320 to pay for goods and services rendered (the majority for advertising & promotion); 530,000 shares to "various officers for past services rendered"; and 497,087 shares to "various individuals [who] purchased shares, options or exercised options in the Company."
Yet, these shares are now worth 1,000% to 2,000% more than they were worth when the company issued them. In retrospect, then, Quigley Corp. appears to have used undervalued stock to pay its key officials and promoters even as it sold such low-priced shares to "various individuals" in transactions that, all total, added 42% more shares to the total outstanding.
Given Quigley's shaky financial condition in recent years, these transactions are perhaps not very surprising. The company may have had no other choice than to use its stock to keep afloat. Still, the company has continued to issue shares, options, and stock purchase warrants, often at exercise prices that now look awfully sweet. There are so many currently exercisable options and warrants that it's difficult to determine precisely how many fully diluted shares of Quigley there are.
When asked to explain these matters, Quigley general counsel MacAniff referred Rogue to Robert Friedman of New York's Olshan, Grundman, Frome and Rosenzweig. Friedman has only recently begun working as a securities attorney for Quigley. He said he could not speak to the specifics but that the company had assured him that all the "share ownership and option and warrant issuances that are required to be reported" have been. "I think you can assume, then, that the publicly available documents speak for themselves," he said.
Yet exactly what they are saying remains both a bit unclear and potentially troubling to investors. Footnote 14 of the 10-KSB indicates that as of September 30, 1996, there were 800,000 Class D stock warrants outstanding (the last issued in February 1996) exercisable at $1.00 and 850,000 Class E warrants issued in July of 1996 exercisable at $3.50. The filing shows that 585,000 of these various warrants are held by Quigley officers or directors, including 250,000 held by Guy Quigley.
Item 5 of the 10-KSB shows that as of December 26th, an additional 700,000 Class E warrants exercisable at $3.50 had been issued. Since these exercisable warrants do not appear in the table of beneficial owners, it would appear that Quigley Corp. issued these warrants to an outside party sometime in the first quarter of fiscal 1997. At the recent post-split price of $10 per share, these warrants could now be exercised for a quick $11.6 million profit.
Footnote 14 also says that Quigley Corp. "sold incentive stock options to various salesman [sic]." For $960, the company handed out options for 140,000 shares exercisable in the $1.25 to 1.50 range "upon reaching certain sales goals."
In addition, the previously mentioned sale of 497,087 shares during fiscal '96 went hand-in-hand with the sale of options. Footnote 10, part t says, "By agreement with the optionholders, 1,250,000 shares of common stock underlying the purchase options were registered pursuant to Form 8-A in Agust [sic] and October 1996." The S-8 filing of August 13th shows that one million of these options could be exercised at $2.50 while the S-8 of October 25th registers 250,000 shares exercisable at $3.00.
The 10-KSB filing, then, suggests that Quigley has about 8.54 million shares outstanding on a fully diluted basis if one takes into account the currently exercisable options and stock warrants. Aside from 250,000 Class D warrants issued in December of 1994, the rest of the actual or potential share expansion occurred in the 15-month period that included fiscal '96 and the first quarter of fiscal '97. During this period, the company effectively expanded the shares potentially outstanding by 4.93 million, or 147%. |
