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Mendocino Brewing Co Inc – ‘10-Q’ for 3/31/14

On:  Thursday, 5/15/14, at 2:53pm ET   ·   For:  3/31/14   ·   Accession #:  1493152-14-1521   ·   File #:  1-13636

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  As Of               Filer                 Filing    For·On·As Docs:Size             Issuer                      Filing Agent

 5/15/14  Mendocino Brewing Co Inc          10-Q        3/31/14   66:3.7M                                   M2 Compliance/FA

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United states

securities and exchange commission

WASHINGTON, D.C. 20549

Form 10-q

(Mark One)

For the quarterly period ended March 31, 2014

or

For the transition period from ____________ to ____________

Commission file number 1-13636

Mendocino Brewing Company, Inc.

(Exact Name of Registrant as Specified in Its Charter)

(707) 463-2087

(Registrant’s Telephone Number, Including Area Code)

Not Applicable

(Former Name, Former Address and Former Fiscal Year,

if Changed Since Last Report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [  ]

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

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

Large accelerated filer [  ] Accelerated filer [  ] Non-accelerated filer [  ] Smaller reporting company [X]

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

applicable only to corporate issuers:

The number of shares of Mendocino Brewing Company, Inc.’s common stock outstanding as of May 13, 2014 was 12,611,133.

TABLE OF CONTENTS

PART I

Item 1. Financial Statements.

MENDOCINO BREWING COMPANY, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

See accompanying notes to these condensed consolidated financial statements.

MENDOCINO BREWING COMPANY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

(Unaudited)

See accompanying notes to these condensed consolidated financial statements.

MENDOCINO BREWING COMPANY, INC. AND SUBSIDIARY

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

See accompanying notes to these condensed consolidated financial statements.

MENDOCINO BREWING COMPANY, INC. AND SUBSIDIARY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. Description of Operations and Summary of Significant Accounting Policies

Description of Operations

Mendocino Brewing Company, Inc. (the “Company” or “MBC”), was formed in 1983 in California, and has two operating subsidiaries: Releta Brewing Company, LLC (“Releta”), and United Breweries International (UK) Limited (“UBIUK”). In the United States (the “US”), MBC and Releta operate two breweries that produce beer and malt beverages for the specialty “craft” segment of the beer market. The breweries are located in Ukiah, California and Saratoga Springs, New York. The majority of sales for MBC in the US are in California. The Company brews several brands, of which Red Tail Ale is the flagship brand. In addition, the Company performs contract brewing for several other brands. Generally, product shipments are made directly from the breweries to the wholesalers or distributors in accordance with state and local laws.

MBC’s United Kingdom (the “UK”) subsidiary, UBIUK, is a holding company for Kingfisher Beer Europe Limited (“KBEL”). KBEL is a distributor of alcoholic beverages, mainly Kingfisher Lager Beer, in the UK and Europe. The offices of KBEL are located in Maidstone, Kent in the UK. In addition, during the period covered by this report, through UBIUK, the Company had production and distribution rights to Kingfisher Premium Lager in Canada and the United States. The Company has the right to use the Kingfisher mark and the name “Kingfisher Brewing Company” in connection with the brewing and distribution of the assorted beers in the United States pursuant to an agreement with Kingfisher America, Inc. Generally sales are made through distributors.

All of our beers sold in Europe (except for beers sold in Germany) are procured under a contract with Heineken UK Limited (“HUK”). This contract expires in October 2018. KBEL is the distributor of Kingfisher Premium Lager to specialty restaurant trade distributors, liquor and convenience stores in the United Kingdom, Ireland, and continental Europe, but does not physically distribute our products to customers. KBEL relies on HUK for distribution of the product in Europe in exchange for a fee paid to HUK, except for in Germany where beers are manufactured and distributed pursuant to a separate contract with a different entity. In addition, HUK has the exclusive right to sell Kingfisher Premium Lager, for a royalty fee, to certain large retail customers, including, but not limited to, Sainsbury’s, Asda, and Tesco.

Subsequent Events

The Company evaluates events that occur subsequent to the balance sheet date of periodic reports, but before financial statements are issued for periods ending on such balance sheet dates, for possible adjustment to such financial statements or other disclosure. This evaluation generally occurs through the date on which the Company’s financial statements are electronically prepared for filing with the Securities and Exchange Commission (“SEC”).

Principles of Consolidation

The consolidated financial statements present the accounts of MBC and its wholly-owned subsidiaries, Releta and UBIUK. All material intracompany and inter-company balances, profits and transactions have been eliminated.

Basis of Presentation and Organization

The accompanying unaudited condensed consolidated financial statements for the three months ended March 31, 2014 and 2013 have been prepared in accordance with accounting principles generally accepted in the US. These condensed financial statements should be read in conjunction with the audited consolidated financial statements included in the Company’s most recent Annual Report on Form 10-K, as filed with the SEC, which contains additional financial and operating information and information concerning significant accounting policies followed by the Company. The financial statements and notes are representations of the Company’s management (“Management”) and its board of directors (the “Board of Directors”), who are responsible for their integrity and objectivity.

Operating results from the three months ended March 31, 2014 are not necessarily indicative of the results that may be expected for the year ending December 31, 2014 or any future period.

Reclassifications

Certain items in the financial statements for the prior year have been reclassified to conform to the current year presentation. These reclassifications had no effect on net income or equity.

SIGNIFICANT ACCOUNTING POLICIES

There have been no significant changes in the Company’s significant accounting policies during the three months ended March 31, 2014 compared to what was previously disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.

Cash and Cash Equivalents, Short and Long-Term Investments

For purposes of cash flows, the Company considers all highly liquid investments purchased with a maturity of three months or less to be cash equivalents.

Revenue Recognition

The Company recognizes revenue from the brewing and distribution operations in accordance with Accounting Standards Codification 605 of the Financial Accounting Standards Board. The Company recognizes revenue from product sales, net of discounts.

The Company recognizes revenue only when all of the following criteria have been met:

“Persuasive Evidence of an Arrangement” – The Company documents all terms of an arrangement in a written contract or purchase order signed by the customer prior to recognizing revenue.

“Delivery Has Occurred or Services Have Been Performed” – The Company delivers the products prior to recognizing revenue or performs services as per contractual terms. Product is considered delivered upon delivery to a customer’s designated location and services are considered performed upon completion of the Company’s contractual obligations.

“The Fee for the Arrangement is Fixed or Determinable” – Prior to recognizing revenue, an amount is either fixed or determinable under the terms of the written contract. The price is negotiated at the outset of the arrangement and is not subject to refund or adjustment during the initial term of the arrangement.

“Collectability is Reasonably Assured” – The Company determines that collectability is reasonably assured prior to recognizing revenue. Collectability is assessed on a customer-by-customer basis based on criteria outlined by Management. The Company does not enter into arrangements unless collectability is reasonably assured at the outset. Existing customers are subject to ongoing credit evaluations based on payment history and other factors. If it is determined during the arrangement that collectability is not reasonably assured, revenue is recognized on a cash basis.

The Company records certain consideration paid to customers for services or placement fees as a reduction in revenue rather than as an expense. The Company reports these items on the income statement as a reduction in revenue and as a corresponding reduction in marketing and selling expenses.

Revenues from the Company’s brewpub and gift store are recognized when sales have been completed.

Allowance for Doubtful Accounts

The Company maintains allowances for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. Management considers the following factors when determining the collectability of specific customer accounts: customer credit-worthiness, past transaction history with the customer, current economic and industry trends and changes in customer payment terms. Balances over 90 days past due and other higher risk amounts are reviewed individually for collectability. If the financial condition of the Company’s customers were to deteriorate, adversely affecting their ability to make payments, additional allowances would be required. Based on Management’s assessment, the Company provides for estimated uncollectible amounts through a charge to earnings and a credit to a valuation allowance. Balances that remain outstanding after the Company has used reasonable collection efforts are written off through a charge to the valuation allowance and a credit to accounts receivable.

Inventories

Inventories are stated at the lower of average cost, which approximates the first-in, first-out method, or market (net realizable value). The Company regularly reviews its inventories for the presence of obsolete product attributed to age, seasonality and quality. Inventories that are considered obsolete are written off or adjusted to carrying value.

Deferred Financing Costs

Costs relating to obtaining financing are capitalized and amortized over the term of the related debt. When a loan is paid in full, any unamortized financing costs are removed from the related accounts and charged to operations. Deferred financing costs related to a borrowing made in June 2011 were $225,000. Amortization of deferred financing costs charged to operations was $11,300 for the three months ended March 31, 2014 and 2013.

Concentration of Credit Risks

Financial instruments that potentially subject the Company to significant concentration of credit risk consist primarily of cash and cash equivalents, and accounts receivable. Substantially all of the Company’s cash and cash equivalents are deposited with commercial banks in the US and the UK that have minimal credit risk. Accounts receivable are generally unsecured and customers are subject to an initial credit review and ongoing monitoring. Wholesale distributors account for substantially all accounts receivable; therefore, this risk concentration is limited due to the number of distributors and the laws regulating the financial affairs of distributors of alcoholic beverages. The Company has approximately $900 in cash deposits and $2,250,300 of accounts receivable due from customers located in the UK as of March 31, 2014.

The Company could experience labor disputes, work stoppages or other disruptions in production that could adversely affect it. As of March 31, 2014, union members represented approximately 18% of the Company’s US-based workforce. On that date, the Company had approximately fourteen employees at its Ukiah, California facility who were working under a collective bargaining agreement. The agreement covering the Ukiah, California facility expires on July 31, 2018.

Income Taxes

The Company accounts for income taxes in accordance with ASC 750 which requires an asset and liability approach for financial accounting and reporting for income taxes and allows recognition and measurement of deferred tax assets based upon the likelihood of realization of tax benefits in future years. Under the asset and liability approach, deferred taxes are provided for the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are recognized for deductible temporary differences and operating loss and tax credit carryforwards. The Company periodically assesses uncertain tax positions that the Company has taken or expects to take on a tax return, including a decision whether to file or not to file a return in a particular jurisdiction. The Company evaluated its tax positions and determined that there were no uncertain tax benefits as of March 31, 2014 and December 31, 2013.

Basic and Diluted Earnings (Loss) per Share

The basic earnings (loss) per share is computed by dividing the earnings (loss) attributable to common stockholders by the weighted average number of common shares outstanding during the period. Basic net earnings (loss) per share exclude the dilutive effect of stock options or warrants and convertible notes. If the Company’s operations result in net loss for any period, diluted net loss per share would be the same as basic net loss per share, since the effect of any potentially dilutive securities would be anti-dilutive. Therefore, the conversion of the related party notes has been excluded from the Company’s calculation of net loss per share. The computations of basic and dilutive net loss per share are as follows:

Foreign Currency Translation

The Company has subsidiaries located in the UK, where the local currency, the UK Pound Sterling, is the functional currency. Financial statements of these subsidiaries are translated into US dollars using period-end exchange rates for assets and liabilities and average exchange rates during the period for revenues and expenses. Cumulative translation adjustments associated with net assets or liabilities are reported in non-owner changes in equity. Any exchange rate gains or losses related to foreign currency transactions are recognized in the income statement as incurred, in the same financial statement caption as the underlying transaction, and are not material for any year shown. Cash flows were translated at the average exchange rates for the three months then ended. Changes in cash resulting from the translations are presented as a separate item in the statements of cash flows.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the US includes having the Company make estimates and assumptions affecting the reported amounts of assets, liabilities, revenues and expenses, and disclosure of contingent assets and liabilities. The amounts estimated could differ from actual results. Significant estimates include the allowance for bad debts, depreciation and amortization periods, and the future utilization of deferred tax assets.

Comprehensive Income (Loss)

Comprehensive income (loss) is composed of the Company’s net loss and changes in equity from non-stockholder sources. The accumulated balances of these non-stockholder sources are reflected as a separate item in the equity section of the balance sheet.

Reportable Segments

The Company manages its operations through two business segments: (i) brewing operations and tasting room operations in the US and distributor operations in Canada (the “North American Territory”) and (ii) distributor operations in Europe, including the UK (the “Foreign Territory”). The Company evaluates performance based on net operating profit. Where applicable, portions of the administrative function expenses are allocated between the operating segments. The operating segments do not share manufacturing or distribution facilities. In the event any materials and/or services are provided to one operating segment by the other, the transaction is valued according to the Company’s transfer policy, which approximates market price. The costs of operating the manufacturing plants are captured discretely within each segment. The Company’s property, plant and equipment, inventory, and accounts receivable are captured and reported discretely within each operating segment.

Recent Accounting Pronouncements

In April 2014, the FASB issued Accounting Standards Update 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity (“ASU 2014-08”), which raises the threshold for disposals to qualify as discontinued operations. A discontinued operation is defined as: (1) a component of an entity or group of components that has been disposed of or classified as held for sale and represents a strategic shift that has or will have a major effect on an entity’s operations and financial results; or (2) an acquired business that is classified as held for sale on the acquisition date. ASU 2014-08 also requires additional disclosures regarding discontinued operations, as well as material disposals that do not meet the definition of discontinued operations. The application of this guidance is prospective from the date of adoption and applies only to disposals (or new classifications to held for sale) that have not been reported as discontinued operations in our previously issued financial statements.

2. Liquidity and Management Plans

On June 23, 2011, MBC and Releta entered into a Credit and Security Agreement (the “Agreement”) with Cole Taylor Bank, an Illinois banking corporation (“Cole Taylor”). The Agreement provides a credit facility with a maturity date of June 23, 2016 of up to $10,000,000 consisting of a $4,119,000 revolving facility, a $1,934,000 machinery and equipment term loan, a $2,947,000 real estate term loan and a $1,000,000 capital expenditure line of credit. Convertible promissory notes issued to United Breweries of America, Inc. (“UBA”), one of the Company’s principal shareholders, are subordinated to the Cole Taylor facility.

The Agreement requires MBC and Releta to maintain certain minimum fixed charge coverage ratios for trailing twelve month periods and minimum tangible net worth. The minimum tangible net worth MBC and Releta are required to maintain is subject to increase based on the net income of MBC and Releta. On March 29, 2013, MBC, Releta, and Cole Taylor entered into a First Amendment (the “Amendment”) to the Agreement to clarify the method by which the fixed charge coverage ratio is calculated, with retrospective application.

The required fixed charge coverage ratio for the trailing twelve month periods ended March 31, 2013 onwards fell short of the required ratio. The tangible net worth fell short of the required amount for the period beginning June 1, 2013 onwards.

On September 18, 2013, MBC and Releta received a notice (the “Default Notice”) from Cole Taylor regarding its intention to exercise certain rights with respect to events of default of the Company pursuant to the Agreement.

The Agreement provides that the failure of MBC and Releta to observe any covenant will constitute an event of default under the Agreement. Under the Agreement, upon the occurrence of an event of default, all of MBC’s and Releta’s obligations under the Agreement may, at the option of Cole Taylor, be declared, and immediately shall become, due and payable, without notice of any kind. The event of default shall be deemed continuing until waived in writing by Cole Taylor. The Default Notice states that Cole Taylor has elected, effective September 1, 2013, to charge a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement. The Company estimates that the increased rate currently results in approximately $120,000 additional annual interest expense. Cole Taylor has not waived the events of default described in the Default Notice and has reserved all other available rights and remedies under the Agreement, certain other related documents and applicable law. Cole Taylor could declare the full amount owed under the Agreement due and payable at any time for any reason or no reason. The Company has not received any notice or other communication from Cole Taylor that it intends to exercise any of the remedies available to it under the Agreement in connection with the events of default. The exercise of additional remedies by Cole Taylor may have a material adverse effect on the Company’s financial condition and the Company’s ability to continue to operate. If it becomes necessary for MBC and Releta to seek additional financing, there is no guarantee that MBC and Releta will be able to obtain such financing on terms favorable to the Company or on any terms.

As of March 31, 2014, the fixed charge coverage ratio was required to be 1.10 to 1. The Company calculated that the fixed charge coverage ratio as of March 31, 2014 was -0.71 to 1. The Company calculated that the required tangible net worth of MBC and Releta was $6,181,400 as of March 31, 2014 and the actual tangible net worth on such date was $4,972,900. The Company does not anticipate that it will regain compliance with the required fixed charge coverage ratio or the minimum tangible net worth in the immediate future.

We have several loans, lines of credit, other credit facilities and lease agreements which are currently outstanding (collectively, “Indebtedness”). We currently make timely payments of principal and interest relating to the Indebtedness as they fall due and anticipate that we will continue to make such timely payments in the immediate future. However, if we fail to maintain any of the financial covenants under the various agreements governing Indebtedness (such as the default under the Agreement described above), fail to make timely payments of amounts due under the Indebtedness, or commit any other breach resulting in an event of default under the agreements governing Indebtedness, such events of default (including cross-defaults) could have a material adverse effect on our financial condition. If our existing debt were accelerated and terminated, we would need to obtain replacement financing, the lack of which would have a material adverse effect on our financial condition and ability to continue operations. In addition, actions taken by secured parties against the Company’s assets which have been pledged as collateral could have a material adverse effect on our financial condition and operations.

At March 31, 2014, we had cash and cash equivalents of $45,000, an accumulated deficit of $15,176,200, and a working capital deficit of $6,784,300 due to losses incurred and reclassification of debts owing to Cole Taylor as a result of the default under the Agreement described above.

On November 8, 2013, United Breweries Holding Limited (“UBHL”), Company’s indirect majority shareholder issued a letter of financial support on behalf of MBC (the “Letter of Support”) to MBC’s accountants to confirm that UBHL had agreed to provide funding on an as needed basis to ensure that MBC is able to meet its financial obligations when they fall due. The Letter of Support do not specify either the terms of UBHL’s support, or a maximum dollar limit. UBHL’s financial support is contingent upon compliance with any applicable exchange control requirements and other applicable laws and regulations relating to the transfer of funds from India. The MBC Letter of Support was issued for a period through December 31, 2014, but, if necessary, management intends to seek UBHL’s consent to extend the stated support. UBHL controls the Company’s two largest shareholders, UBA and Inversiones Mirabel S.A. (“Inversiones”), and as such, UBHL is the Company’s indirect majority shareholder. The Chairman of the Company’s Board of Directors, Dr. Vijay Mallya, is also the chairman of the board of directors of UBHL.

The Company received a letter dated November 11, 2013 from UBHL expressing its willingness to commit to invest $2,000,000 in the Company in four installments to be paid every six months over a two year period. The letter did not state definitive terms for the proposed investment. In the letter, UBHL stated that it would consider additional investment based on a business plan to be provided by the Company.

On January 22, 2014, Catamaran Services, Inc., (“Catamaran”), a related party provided a note loan of $500,000 repayable upon receipt of investment by UBHL described above. (Please see - Note 5. Note payable to Related Party – below for details). On April 24, 2014, another note loan of $500,000 was received from Catamaran on terms similar to the previous note.

Management has taken several actions to enable us to meet our working capital needs through March 31, 2015, including reducing discretionary expenditures, expanding business in new territories, reducing manpower and pursuing additional brewing contracts in an effort to utilize a portion of excess production capacity. We may also seek additional capital infusions to support our operations.

If it becomes necessary to seek UBHL’s financial assistance under the Letter of Support and UBHL does not fulfill its commitment to MBC, it may result in a material adverse effect on our financial position and on our ability to continue operations. In addition, our lenders may seek to satisfy any outstanding obligations through recourse against the applicable pledged collateral which may include our real property and fixed and current assets. The loss of any material pledged asset would likely have a material adverse effect on our financial position and results of operations.

3. Inventories

Inventories are stated at the lower of average cost or market and consist of the following:

4. Secured Lines of Credit

In June 2011, Cole Taylor provided a line of credit, from which may be drawn up to 85% of eligible receivables and 60% of eligible inventory for a period expiring in June 2016. The borrowings are collateralized, with recourse, by MBC’s and Releta’s trade receivables and inventory located in the US. This facility currently carries interest (including default interest) at a rate of prime plus 3% and is secured by substantially all of the assets of Releta and MBC. The amount outstanding on this line of credit as of March 31, 2014 was approximately $1,520,900. Included in the Company’s balance sheet as at March 31, 2014 are account balances totaling $1,627,000 of accounts receivable and $2,164,800 of inventory collateralized to Cole Taylor under this facility.

On April 26, 2005, Royal Bank of Scotland Commercial Services Limited (“RBS”) provided an invoice discounting facility to KBEL based on 80% prepayment against qualified accounts receivable related to KBEL’s UK customers. The initial term of the facility was one year, after which time the facility could be terminated by either party upon six months’ notice. The facility carries an interest rate of 1.38% above the RBS base rate and a service charge of 0.10% of each invoice discounted. The amount outstanding on this line of credit as of March 31, 2014 was approximately $632,200. Included in the Company’s balance sheet at March 31, 2014 are account balances totaling $2,250,300 of accounts receivable collateralized to RBS under this facility.

5. Notes payable to Related Parties

Notes payable to related parties includes a note payable to Catamaran Services, Inc. (“Catamaran”) dated January 22, 2014 for a total value of $504,500 including interest of $4,500 at prime rate plus 1.5% per year, but not to exceed 10%. Catamaran Holdings, Ltd., the sole shareholder of Catamaran, has directors in common with Inversiones, one of the major shareholders of MBC. The indirect beneficial owner of Inversiones is UBHL. Dr. Vijay Mallya, the Chairman of the board of directors of the Company is also the Chairman of the board of directors of UBHL.

The note is payable within six months following the date of the note, subject to the receipt by the Company of an equity investment by UBHL in an amount sufficient either (a) to pay the note through Permitted Payments, as defined below, or (b) to pay both the note and certain existing obligations of the Company to Cole Taylor. “Permitted Payments” on the note are payments made from the portion of equity investment by UBHL that is in excess of $500,000. If the Company is not able to satisfy its obligations on the note within the six month period following the date of the note, the note shall be automatically extended for additional six month terms until it is paid.

On April 24, 2014, the Company issued another note to Catamaran in the principal amount of $500,000 and on terms similar to the previous note.

6. Long-Term Debt

Maturities of long-term debt for succeeding years are as follows:

7. Long-Term Debt – Related Party

Maturities of debt for succeeding years are as follows:

On April 18, 2013, KBEL entered into a Loan Agreement (the “Loan Agreement”) with HUK pursuant to which HUK provided KBEL with a secured term loan of £1,000,000 ($1,667,500) on October 9, 2013 to be repaid in twelve quarterly installment of £83,333.33 ($137,900) each, commencing from January 9, 2014 along with interest at the rate of 5% above the Bank of England base rate. Prepayment is permitted. Upon an Event of Default, as defined in the Loan Agreement, if HUK and KBEL fail to agree on a payment plan acceptable to HUK, HUK may, among other remedies, declare the loan immediately due and repayable or exercise its right to an exclusive license pursuant to the Sub-License Agreement as described and defined in the Loan Agreement.

8. Capital Lease Obligations

The Company leases certain brewing equipment under an agreement that is classified as a capital lease. The future minimum lease payments required under the capital lease and the present value of the net minimum lease payments as of March 31, 2014, are as follows:

9. Subordinated Convertible Notes Payable

Subordinated Convertible Notes Payable

Subordinated convertible notes included notes payable to UBA (the “UBA Notes”) for a total value of $3,520,400 as of March 31, 2014, including interest at the prime rate plus 1.5% per year, but not to exceed 10%. Thirteen of the UBA Notes are convertible into common stock at a rate of $1.50 per share and one UBA Note is convertible at a rate of $1.44 per share. The UBA Notes have been extended until June 2014 but have automatic renewals after such maturity date for successive one year terms, provided that either the Company or UBA may elect not to extend the term upon written notice given to the other party no more than 60 days and no fewer than 30 days prior to the expiration of the applicable term. Under the terms of the UBA Notes, UBA may demand payment within 60 days following the end of the extension period but UBA has agreed to subordinate the UBA Notes to the Company’s long-term debt agreements with Cole Taylor, which mature in June 2016. Therefore, the Company will not require the use of working capital to repay any of the UBA Notes until the Cole Taylor facilities are repaid. The UBA Notes include $1,605,000 and $1,582,500 of accrued interest at March 31, 2014 and December 31, 2013, respectively.

10. Commitments and Contingencies

Purchase of raw materials

Production of the Company’s beverages requires quantities of various processed agricultural products, including malt and hops for beer. The Company fulfills its commodities requirements through purchases from various sources, some through contractual arrangements and others on the open market.

Legal

The Company is periodically involved in legal actions and claims that arise as a result of events that occur in the normal course of operations. Management and the Company’s legal counsel assess such contingent liabilities, and such assessment inherently involves the exercise of judgment.

The Company is not currently aware of any legal proceedings or claims that the Company believes will have, individually or in the aggregate, a material adverse effect on the Company’s financial position or results of operations.

Operating Leases

The Company leases some of its operating and office facilities for various terms under long-term, non-cancelable operating lease agreements. The leases expire at various dates between 2015 and 2019 and provide for renewal options ranging from month-to-month to five years. In the normal course of business, it is expected that these leases will be renewed or replaced by leases on similar properties. The leases provide for increases in future minimum annual rental payments based on defined increases which are generally meant to correlate with the Consumer Price Index, subject to certain minimum increases. Also, the agreements generally require the Company to pay certain costs, including real estate taxes, insurance and repairs.

MBC and its subsidiaries have various lease agreements for the brewpub and gift store in Ukiah, California, the brewery at Releta’s Saratoga Springs, New York facility, a building in the UK, and certain equipment. The New York lease includes a renewal option for three additional five-year periods, which Releta intends to exercise, and some leases are adjusted annually for changes in the Consumer Price Index.

Keg Management Agreement

In September 2009, the Company renewed the keg management agreement with MicroStar Keg Management LLC (“MicroStar”). Under this arrangement, MicroStar provides all kegs for which the Company pays a service fee depending on the applicable territory. The agreement is effective for five years ending in September 2014. If the agreement is not renewed, the Company is required to purchase four times the average monthly keg usage for the preceding six-month period from MicroStar.

11. Related-Party Transactions

The Company conducts business with United Breweries of America, Inc. (“UBA”), which owns approximately 25% of the Company’s common stock. Until October 2013, KBEL had significant transactions with Shepherd Neame, Ltd., which is a related party with respect to a former Board member. KBEL also had significant transactions with HUK, a related party with respect to one of MBC’s Board members, beginning in October 2013.

The following table reflects the value of the transactions during the quarters ended March 31, 2014 and 2013 and the balances outstanding as of March 31, 2014 and December 31, 2013.

12. Segment Information

The Company’s business presently consists of two segments – the North American Territory and the Foreign Territory. The Company’s operations in the North American Territory consist primarily of brewing and marketing proprietary craft beers. For distribution in the North American Territory, the Company brews its brands in its own facilities, which are located in Ukiah, California and Saratoga Springs, New York. The Company’s operations in the Foreign Territory, which are conducted through its wholly-owned subsidiary UBIUK and UBIUK’s wholly-owned subsidiary KBEL, consist primarily of the marketing and distribution of Kingfisher Premium Lager in the Foreign Territory.

A summary of each segment is as follows:

13. Unrestricted Net Assets

The Company’s wholly-owned subsidiary, UBIUK, had undistributed losses of $1,541,500 as of March 31, 2014. Under KBEL’s line of credit agreement with RBS, distributions and other payments to MBC from KBEL are not permitted if retained earnings drop below $1,655,100. Condensed financial information of MBC, together with its other subsidiary, Releta is as follows:

Balance Sheets

14. Income Taxes

In the three months ended March 31, 2014 and 2013, the Company recorded tax expenses related to state franchise taxes only, and did not record income tax expenses due to the availability of deferred tax assets to offset any taxable income in the US (at the federal and state level to the extent applicable) and the UK. The Company has established a full valuation allowance against the Company’s deferred tax assets based on an assessment that the criteria that deferred tax assets will more likely than not be realized has not yet been met. During the three months ended March 31, 2014 and 2013, the Company’s effective tax rates were de minimus. The difference between the Company’s effective tax rates, the 35% US federal statutory tax rate and the UK’s statutory tax rate resulted primarily from a tax benefit related to a reduction in the federal and state deferred tax asset valuation allowance.

The Company’s major tax jurisdictions are (i) US (federal), (ii) California (state), (iii) New York (state) and (iv) UK. Tax returns remain open to examination by the applicable governmental authorities for tax years 2008 through 2013. The federal and state taxing authorities may choose to audit tax returns for prior years due to significant tax attribute carryforwards for those prior years. However, such audits will be limited to adjustments to such carryforward tax attributes. The Company is not currently being audited in any tax jurisdiction.

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

The following discussion summarizes the significant factors affecting the consolidated operating results, financial condition and liquidity/cash flows of the Company for the three months ended March 31, 2014, compared to the three months ended March 31, 2013. This discussion should be read in conjunction with the Consolidated Financial Statements and Notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.

In the rest of this Quarterly Report on Form 10-Q, the terms “we”, “us”, “our”, and “the Company” and its variants are generally used to refer to Mendocino Brewing Company, Inc. and its subsidiaries, while the term “MBC” is used to refer to Mendocino Brewing Company, Inc. as an individual entity standing alone.

Forward Looking Statements

Various portions of this Quarterly Report on Form 10-Q, including but not limited to the section captioned “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contain forward-looking information. Such information involves risks and uncertainties that are based on current expectations, estimates and projections about the Company’s business, Management’s beliefs, and assumptions made by Management. Words such as “expects,” “anticipates,” “intends,” “plans,” “believes,” “seeks,” “estimates,” and variations of those and similar words are intended to identify such forward-looking information. Any forward-looking statements made by the Company are intended to provide investors with additional information with which they may assess the Company’s future potential. All forward-looking statements are based on assumptions about an uncertain future and are based on information available as of the date such statements are issued. Actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking information due to numerous factors, including but not limited to, changes in the pricing environment for the Company’s products, changes in demand for malt beverage products in different Company markets, changes in distributor relationships or performance, changes in customer preference for the Company’s malt beverage products, regulatory or legislative changes, the impact of competition, changes in the prices of raw materials, availability of financing for operations, changes in interest rates, changes in the Company’s European beer and/or restaurant business, and other risks discussed elsewhere in this Quarterly Report on Form 10-Q and from time to time in the Company’s Securities and Exchange Commission (“SEC”) filings and reports. In addition, such statements could be affected by general industry and market conditions and growth rates, and general domestic, Canadian and European economic and political conditions. The Company undertakes no obligation to update these forward-looking statements to reflect facts, circumstances, assumptions or events that occur after the date the forward-looking statements are made or to publicly release the results of any revisions to these forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements.

Segment Information

Prior to 2001, the Company’s business operations were exclusively located in the US, and consisted of the manufacture and distribution of beer. With the Company’s acquisition of United Breweries International (UK), Ltd. (“UBIUK”) in August 2001, the Company gained a new business segment ― distribution of beer outside the US, primarily in the United Kingdom (the “UK”) and continental Europe (collectively, the “Foreign Territory”). This segment accounted for 64% and 55% of the Company’s gross sales during the first quarter of 2014 and 2013, respectively, with the US and Canada (the “North American Territory”) accounting for the remaining 36% and 45% during the first quarter of 2014 and 2013, respectively.

Seasonality

Sales of the Company’s products are somewhat seasonal. Historically, sales volumes in both the Company’s North American and Foreign Territories have been comparatively low during the first quarter of the calendar year. In the North American Territory, sales volumes have been stronger during the second and third quarters and slower again during the fourth quarter, while in the Foreign Territory sales volume was stronger in the second and fourth quarters of 2013. The volume of sales in any given area may also be affected by local weather conditions. Because of the seasonality of the Company’s business, results for any one quarter are not necessarily indicative of the results that may be achieved for the full fiscal year.

Summary of Financial Results

The Company ended the first quarter of 2014 with a net loss of $468,600, as compared to a net loss of $354,200 for the same period in 2013. As set forth more fully under the section captioned “Results of Operations” below, during the first quarter of 2014, the Company experienced a decrease in net sales of $384,800 compared to the first quarter of 2013. Compared to the first quarter of 2013, costs of goods sold decreased by $446,200, operating expenses increased by $140,000, and net other expenses increased by $40,800 in the first quarter of 2014, all of which contributed to the Company’s results for the period.

RESULTS OF OPERATIONS

Three months ended March 31, 2014 compared to Three Months ended March 31, 2013

Net Sales

Overall net sales for the first quarter of 2014 were $7,850,000, a decrease of $384,800, or 5%, compared to $8,234,800 for the first quarter of 2013.

North American Territory: Net sales in the North American Territory for the first quarter of 2014 were $2,734,900, compared to $3,584,400 for the same period in 2013, a decrease of $849,500, or 24%. The sales volume decreased to 12,900 barrels in the first quarter of 2014 from 17,400 barrels in the first quarter of 2013, representing a decrease of 4,500 barrels, or 26%. Of the numerical barrel decrease, sales of our brands decreased by 2,000 barrels, and sales of contract brands decreased by 2,500 barrels mainly due to lower demand and severe adverse weather in the East Coast during the first quarter of the year 2014. We continue to solicit opportunities to enter into non-binding contract brewing arrangements to address the low production capacity utilization rates in our Ukiah, California and Saratoga Springs, New York brewing facilities, and anticipate that fluctuations in the availability of such contract brewing arrangements will continue to impact our net sales in the North American Territory.

Foreign Territory: Net sales in the Foreign Territory for the first quarter of 2014 were $5,115,100, compared to $4,650,400 during the corresponding period of 2013, an increase of $464,700, or 10%. The increase was due to increased demand in United Kingdom and continental Europe and the spill over of orders from the previous period into the three months ended March 31, 2014.

Cost of Goods Sold

Cost of goods sold as a percentage of net sales during the first quarter of 2014 was 70% compared to 73% during the first quarter of 2013.

North American Territory: Cost of goods sold as a percentage of net sales in the North American Territory during the first quarter of 2014 was 86%, as compared to 78% during the corresponding period of 2013, due to lower sales volume. Utilization of our production capacity has a direct impact on cost. Generally, when facilities are operating at lower percentage of production capacity, cost is unfavorably affected because fixed and semi-variable operating costs, such as depreciation and production costs, are spread over a smaller volume base. Our production capacity is currently underutilized. In addition to capacity utilization, other factors that could affect cost of sales include unanticipated increases in material and shipping costs, the availability and prices of raw materials and packaging materials, and the availability of contract brewing arrangements.

Foreign Territory: Cost of goods sold as a percentage of net sales in the Foreign Territory during the first quarter of 2014 was 62% compared to 69% during the first quarter of the year 2013. The reduction was due to lower purchase price negotiated with HUK.

Gross Profit

As a result of the decrease in net sales described above offset by decrease in cost of goods, gross profit for the first quarter of 2014 increased to $2,328,300, compared to $2,266,900 during the corresponding period of 2013. As a percentage of net sales, gross profit during the first quarter of 2014 increased to 30% compared to 27% in 2013.

Operating Expenses

Operating expenses for the first quarter of 2014 were $2,648,200, an increase of $140,000, or 6%, as compared to $2,508,200 for the first quarter of 2013. Operating expenses consist of marketing and distribution expenses and general and administrative expenses.

Marketing and Distribution Expenses

The Company’s marketing and distribution expenses for the first quarter of 2014 were $1,527,900, as compared to $1,241,000 for the first quarter of 2013, representing an increase of $286,900, or 23%. These expenses increased to 20% of net sales for the first quarter of 2014 compared to and 15% during the first quarter of 2013.

North American Territory: Marketing and distribution expenses in the North American Territory for the first quarter of 2014 were $365,300, compared to $384,400 during first quarter of 2013, representing a decrease of $19,100, or 5% due to reduction in manpower. As a percentage of net sales in the North American Territory, marketing and distribution expenses increased to 13% of net sales for the first quarter of 2014 compared to 11% during the first quarters of 2013.

Foreign Territory: Marketing and distribution expenses in the Foreign Territory for the first quarter of 2014 were $1,162,600, compared to $856,600 during the first quarter of 2013, representing an increase of $306,000, or 36%. As a percentage of net sales in the UK, marketing and distribution expenses during the first quarter of 2014 was 23% compared to 18% during the first quarter of 2013. The increase was mainly due to increases in promotional expenses and an increase, associated with higher sales, in distribution costs.

General and Administrative Expenses

The Company’s general and administrative expenses were $1,120,300 for the first quarter of 2014, compared to $1,267,200 for the first quarter of 2013, representing a decrease of $146,900, or 12%. As a percentage of net sales, these expenses remained between 14% and 15% during the first quarter of 2014 and 2013.

North American Territory: General and administrative expenses related to the North American Territory were $503,400 during the first quarter of 2014, compared to $538,700 for the corresponding period of 2013, representing a decrease of $35,300, or 7% mainly due to reduction in manpower. As a percentage of net sales in the North American Territory, expenses increased to 18% during the first quarter of 2014, compared to 15% during the first quarter of 2013.

Foreign Territory: General and administrative expenses related to the Foreign Territory decreased to $616,900 for the first quarter of 2014, representing a decrease of $111,600, or 15%, compared to $728,500 for the first quarter of 2013. As a percentage of net sales in the Foreign Territory, expenses decreased to 12% during the first quarter of 2013, compared to 16% during the first quarter of 2013. The decrease was mainly due to one-time legal, professional and travel expenses associated with contract brewing and loan agreements with HUK incurred in 2013.

Other Expenses

Other expenses for the first quarter of 2014 totaled $148,700, representing an increase of $40,800 or 38% when compared to other expenses of $107,900 for the first quarter of 2013. The increase was due to an increase in interest expenses due to additional borrowing and the default interest levied by Cole Taylor.

Income Taxes

The Company recorded provisions of $5,000 for income taxes associated with operations in the North American Territory during the first quarter of 2013. The Company did not record any provision for income taxes associated with operations in the North American territory in the first quarter of 2014 due to losses during that quarter.

Net Loss

The Company’s net loss for the first quarter of 2014 was $468,600, as compared to a net loss of $354,200 for the first quarter of 2013. After providing for a negative foreign currency translation adjustment of $11,400 during the first quarter of 2014, as compared to a positive adjustment of $152,600 for the same period in 2013, the comprehensive loss for the first quarter of 2014 was $480,000, as compared to $201,600 for the same period in 2013.

LIQUIDITY AND CAPITAL RESOURCES

Unused capacity at our Ukiah, California and Saratoga Springs, New York facilities has continued to place demands on our working capital. Historically, our operations have not generated sufficient cash flows to provide us with sufficient working capital. However, we believe that the liquidity we derive from the debt financing and cash flows attributable to our operations is sufficient to fund our capital expenditures, debt maturities and other business needs for the next twelve months. We normally generate our liquidity and capital resources primarily through operations and available debt financing.

On June 23, 2011, MBC and Releta entered into a Credit and Security Agreement (the “Agreement”) with Cole Taylor Bank, an Illinois banking corporation (“Cole Taylor”). The Agreement provides a credit facility with a maturity date of June 23, 2016 of up to $10,000,000 consisting of a $4,119,000 revolving facility, a $1,934,000 machinery and equipment term loan, a $2,947,000 real estate term loan and a $1,000,000 capital expenditure line of credit. Convertible promissory notes issued to United Breweries of America, Inc. (“UBA”), one of the Company’s principal shareholders, are subordinated to the Cole Taylor facility.

The Agreement requires MBC and Releta to maintain certain minimum fixed charge coverage ratios for trailing twelve month periods and minimum tangible net worth. The minimum tangible net worth MBC and Releta are required to maintain is subject to increase based on the net income of MBC and Releta. On March 29, 2013, MBC, Releta, and Cole Taylor entered into a First Amendment (the “Amendment”) to the Agreement to clarify the method by which the fixed charge coverage ratio is calculated, with retrospective application.

The required fixed charge coverage ratio for the trailing twelve month periods ended March 31, 2013 onwards fell short of the required ratio. The tangible net worth fell short of the required amount for the period beginning June 1, 2013 onwards.

On September 18, 2013, MBC and Releta received a notice (the “Default Notice”) from Cole Taylor regarding its intention to exercise certain rights with respect to events of default of the Company pursuant to the Agreement.

The Agreement provides that the failure of MBC and Releta to observe any covenant will constitute an event of default under the Agreement. Under the Agreement, upon the occurrence of an event of default, all of MBC’s and Releta’s obligations under the Agreement may, at the option of Cole Taylor, be declared, and immediately shall become, due and payable, without notice of any kind. The event of default shall be deemed continuing until waived in writing by Cole Taylor. The Default Notice states that Cole Taylor has elected to charge a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement effective September 1, 2013. The Company estimates that the increased rate currently results in approximately $120,000 additional annual interest expense.

On April 18, 2014, MBC and Releta received a notice (the “Second Default Notice”, and, together with the Default Notice, the “Default Notices”) from Cole Taylor regarding its intention to exercise certain additional rights with respect to events of default of the Company pursuant to the Agreement. The Second Default Notice stated that the fixed charge coverage ratio failed to comply with the applicable covenant in the Agreement, as amended, and the tangible net worth of MBC and Releta continued to fall short of the required amount, both as measured through February 28, 2014. The Second Default Notice required MBC and Releta to engage a consultant to perform a viability analysis and prepare a revised projection for 2014, to be delivered to Cole Taylor on or before April 30, 2014. MBC and Releta engaged a consultant acceptable to Cole Taylor and delivered the results of the viability analysis and the revised projection on April 30, 2014.

Cole Taylor has not waived the events of default described in the Default Notices and has reserved all other available rights and remedies under the Agreement, certain other related documents and applicable law. Cole Taylor could declare the full amount owed under the Agreement due and payable at any time for any reason or no reason.

As of March 31, 2014, the fixed charge coverage ratio was required to be 1.10 to 1. The Company calculated that the fixed charge coverage ratio as of March 31, 2014 was -0.71 to 1. The Company calculated that the required tangible net worth of MBC and Releta was $6,181,400 as of March 31, 2014 and the actual tangible net worth on such date was $4,972,900. The Company does not anticipate that it will regain compliance with the required fixed charge coverage ratio or the minimum tangible net worth in the immediate future.

Other than the Default Notices, the Company has not received any notice or other communication from Cole Taylor that it intends to exercise any of the remedies available to it under the Agreement in connection with the events of default. The exercise of additional remedies by Cole Taylor may have a material adverse effect on the Company’s financial condition and the Company’s ability to continue to operate. If it becomes necessary for MBC and Releta to seek additional financing, there is no guarantee that MBC and Releta will be able to obtain such financing on terms favorable to the Company or on any terms.

We have several loans, lines of credit, other credit facilities and lease agreements which are currently outstanding (collectively, “Indebtedness”). We currently make timely payments of principal and interest relating to the Indebtedness as they fall due and anticipate that we will continue to make such timely payments in the immediate future. However, if we fail to maintain any of the financial covenants under the various agreements governing Indebtedness (such as the default under the Agreement described above), fail to make timely payments of amounts due under the Indebtedness, or commit any other breach resulting in an event of default under the agreements governing Indebtedness, such events of default (including cross-defaults) could have a material adverse effect on our financial condition. If our existing debt were accelerated and terminated, we would need to obtain replacement financing, the lack of which would have a material adverse effect on our financial condition and ability to continue operations. In addition, actions taken by secured parties against the Company’s assets which have been pledged as collateral could have a material adverse effect on our financial condition and operations.

At March 31, 2014, we had cash and cash equivalents of $45,000, an accumulated deficit of $15,176,200, and a working capital deficit of $6,784,300 due to losses incurred and reclassification of debts owing to Cole Taylor as a result of the default under the Agreement described above.

On November 8, 2013, United Breweries Holding Limited (“UBHL”), Company’s indirect majority shareholder issued a letter of financial support on behalf of MBC (the “Letter of Support”) to MBC’s accountants to confirm that UBHL had agreed to provide funding on an as needed basis to ensure that MBC is able to meet its financial obligations when they fall due. The Letter of Support do not specify either the terms of UBHL’s support, or a maximum dollar limit. UBHL’s financial support is contingent upon compliance with any applicable exchange control requirements and other applicable laws and regulations relating to the transfer of funds from India. The MBC Letter of Support was issued for a period through December 31, 2014, but, if necessary, management intends to seek UBHL’s consent to extend the stated support. UBHL controls the Company’s two largest shareholders, UBA and Inversiones Mirabel S.A., and as such, UBHL is the Company’s indirect majority shareholder. The Chairman of the Company’s Board of Directors, Dr. Vijay Mallya, is also the chairman of the board of directors of UBHL.

The Company received a letter dated November 11, 2013 from UBHL expressing its willingness to commit to invest $2,000,000 in the Company in four installments to be paid every six months over a two year period. The letter did not state definitive terms for the proposed investment. In the letter, UBHL indicated that it would consider additional investment based on a business plan to be provided by the Company.

On January 22, 2014, Catamaran Services, Inc. (“Catamaran”), a related party provided a note loan of $500,000 repayable upon receipt of investment by UBHL described above. (Please see – Description of Our Indebtedness - Catamaran Notes – below for details). On April 24, 2014, another note loan of $500,000 was received from Catamaran on terms similar to the previous note.

Management has taken several actions to enable us to meet our working capital needs through March 31, 2015, including reducing discretionary expenditures, expanding business in new territories, reducing manpower and pursuing additional brewing contracts in an effort to utilize a portion of excess production capacity. We may also seek additional capital infusions to support our operations.

Our ability to meet future working capital requirements will depend on many factors, including the rate of our revenue growth, whether we successfully introduce new products and expansion of sales and marketing activities. There can be no assurance that we will be able to increase sales to provide cash for operating activities. To the extent our available cash is insufficient to fund our future activities, we may need to raise additional funds through bank credit arrangements, or public or private equity or debt financings. There can be no assurance that an equity issuance would not be highly dilutive to existing holders of our common stock or other stakeholders. We may not be able to obtain bank credit arrangements or to effect an equity or debt financing on terms acceptable to us or at all.

If it becomes necessary to seek UBHL’s financial assistance under the Letter of Support and UBHL does not fulfill its commitment to MBC, it may result in a material adverse effect on our financial position and on our ability to continue operations. In addition, our lenders may seek to satisfy any outstanding obligations through recourse against the applicable pledged collateral which may include our real property and fixed and current assets. As mentioned above, the loss of any material pledged asset would likely have a material adverse effect on our financial position and results of operations.

Cash Flow Results

Net cash used in operating activities for the three months ended March 31, 2014 was $258,500, compared to net cash provided by operations of $278,300 for the three months ended March 31, 2013. During the first quarter of 2014, accounts receivable decreased by $238,400 due to increased sales in Foreign Territory. Accounts payable during the first quarter of 2014 decreased by $563,400, mainly due to a reduction in the accounts payable in our Foreign Territory. Our inventory increased by $56,100 during the first three months of 2014 and such fluctuation is normal. Accrued liabilities increased by $239,200 due to increased procurement of goods and services in the Foreign Territory.

Net cash used in investing activities totaled $145,700 for the first quarter of 2014, compared to $284,200 during the corresponding period in 2013, due to purchases of production and dispensing equipment.

Net cash provided by financing activities during the first quarter of 2014 totaled $131,500, compared to net cash used in financing activities during the first quarter of 2013 of $116,400, as a result of a net increase in borrowing against the note payable to Catamaran in the North American Territory offset by decreased use of a revolving line of credit in the Foreign Territory and repayment of debts to Cole Taylor and HUK.

Description of Our Indebtedness

Cole Taylor Facility

On June 23, 2011, MBC and Releta entered into the Agreement with Cole Taylor (as described in “Liquidity and Capital Resources”). The Agreement provides a credit facility of up to $10,000,000 with a maturity date of June 23, 2016, consisting of a $4,119,000 revolving facility, a $1,934,000 machinery and equipment term loan, a $2,947,000 real estate term loan and a $1,000,000 capital expenditure line of credit. At the time that the applicable loan or advance is made, we may choose, subject to certain contingencies, an interest rate based on either LIBOR or the Wall Street Journal prime rate as follows: (a) with respect to the revolving facility, either LIBOR plus a margin of 3.50% or the Wall Street Journal prime rate plus a margin of 1.00%, (b) with respect to the machinery and equipment term loan or the capital expenditure term loan, either LIBOR plus a margin of 4.25% or the Wall Street Journal prime rate plus a margin of 1.50%, and (c) with respect to the real estate term loan, either LIBOR plus a margin of 4.75% or the Wall Street Journal prime rate plus a margin of 2.00%. As described below, effective September 1, 2013, Cole Taylor is charging a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement and, as described in the Second Default Notice, required us to engage a consultant to perform a viability analysis and prepare a revised projection for 2014. The Agreement binds us to certain financial covenants including maintaining prescribed minimum tangible net worth and prescribed minimum fixed charges coverage. There is a prepayment penalty if we prepay all of our obligations prior to the maturity date. The credit facility is secured by a first priority interest in all of MBC’s and Releta’s personal property and a first mortgage on our Ukiah, California real property, among other items of MBC and Releta assets.

On March 29, 2013, MBC and Releta entered into the Amendment to the Agreement (as described in “Liquidity and Capital Resources”). The Amendment clarifies the method by which the fixed charge coverage ratio shall be calculated. To the extent we may have been in breach of the covenants related to the fixed charge coverage ratio before December 31, 2012, Cole Taylor has agreed in the Amendment that such breach was waived and that no event of default occurred by reason of such breach on or before December 31, 2012.

As previously disclosed in the Company’s current reports on Form 8-K filed on May 3, 2013, September 24, 2013 and April 24, 2014, the quarterly reports on Form 10-Q filed on August 14, 2013 and November 14, 2013, and the annual report on Form 10-K filed on March 31, 2014, the Company has been in default of the fixed charge coverage ratio and the minimum tangible net worth requirement among other covenants contained in the Agreement. On September 18, 2013 and April 18, 2014, MBC and Releta received Default Notices from Cole Taylor regarding its intention to exercise certain rights with respect to events of default of the Company pursuant to the Agreement. Under the Agreement, upon the occurrence of an event of default, all of MBC’s and Releta’s obligations under the Agreement may, at the option of Cole Taylor, be declared, and immediately shall become, due and payable, without notice of any kind. The Default Notice stated that Cole Taylor has elected to charge a default interest rate equal to two percent (2%) per annum in excess of the interest rate otherwise payable under the Agreement effective September 1, 2013 and the Second Default Notice required us to engage a consultant to perform a viability analysis and prepare a revised projection for 2014. For more details on this default, please refer to “Item 2 Liquidity and Capital Resources” above.

Master Line of Credit and UBA Notes

On August 31, 1999, MBC and UBA, one of our principal shareholders, entered into a Master Line of Credit Agreement, which was subsequently amended in April 2000 and February 2001 (the “Credit Agreement”). The terms of the Credit Agreement provide us with a line of credit in the principal amount of up to $1,600,000. As of the date of this filing, UBA has made thirteen separate advances to us under the Credit Agreement and one additional advance on March 2, 2005 on substantially the same terms as those under the Credit Agreement, pursuant to a series of individual eighteen-month promissory notes issued by us to UBA (the “UBA Notes”). Thirteen of the UBA Notes are convertible into common stock at a rate of $1.50 per share and one UBA Note is convertible at a rate of $1.44 per share. UBA has executed an Extension of Term of Notes under Master Line of Credit Agreement and an amendment to the March 2, 2005 note (together, the “Extension Agreements”). The Extension Agreements, as amended, confirm UBA’s extension of the terms of the UBA Notes for a period ending on June 30, 2014 with automatic renewals after such maturity date for successive one year terms, provided that either MBC or UBA may elect not to extend a term upon written notice given to the other party no more than 60 days and no fewer than 30 days prior to the expiration of the applicable term.

The UBA Notes require us to make quarterly interest payments to UBA on the first day of April, July, October, and January. To date, UBA has permitted us to capitalize all accrued interest; therefore, we have borrowed the maximum amount available under the facility. Upon maturity of any of the UBA Notes, unless UBA has given us prior instructions to commence repayment of the outstanding principal balance, the outstanding principal and accrued but unpaid interest on such UBA Notes may be converted, at the option of UBA, into shares of our common stock. During the extended term of the UBA Notes, UBA has the right to require us to repay the outstanding principal balance, along with the accrued and unpaid interest thereon, to UBA within 60 days.

The UBA Notes are subordinated to credit facilities extended to us by Cole Taylor pursuant to a subordination agreement executed by UBA. Per the terms of the subordination agreement, UBA is precluded from demanding repayment of the UBA Notes unless and until the Cole Taylor facilities are repaid in full.

The aggregate outstanding principal amount of the UBA Notes as of March 31, 2014 was $1,915,400, and the accrued but unpaid interest thereon was equal to approximately $1,605,000, for a total amount outstanding of $3,520,400.

As of March 31, 2014, the outstanding principal and interest on the UBA Notes was convertible into 2,364,369 shares of our common stock. However, as the current market price of our common stock is substantially less than the conversion rate, any conversion may occur at a lower price.

Catamaran Notes

On January 22, 2014, the Company issued a promissory note to Catamaran in the principal amount of $500,000. Catamaran Holdings, Ltd., the sole shareholder of Catamaran (“Holdings”), has directors in common with Inversiones Mirabel S.A., (“Inversiones”), one of the major shareholders of the Company. The indirect beneficial owner of Inversiones is UBHL. Dr. Vijay Mallya, the Chairman of the Board of Directors of the Company is also the Chairman of the Board of Directors of UBHL. The Company has asked Catamaran whether any relationships exist between the shareholders of Holdings and any affiliates of the Company, and has not received a response to such inquiries.

Pursuant to the terms of the note, the Company promises to pay the principal sum of $500,000 with accrued interest, as described below, to Catamaran within six months following the date of the Note, subject to the receipt by the Company of an equity investment by its majority shareholder (the “Shareholder Investment”) in an amount sufficient either (a) to pay the note through Permitted Payments, as defined below, or (b) to pay both the Note and certain existing obligations of the Company to Cole Taylor in full. “Permitted Payments” on the Note are payments made from the portion of a Shareholder Investment that is in excess of $500,000.

If the Company is not able to satisfy its obligations on the note within the six month period following the date of the note, the note shall be automatically extended for additional six month terms until a Shareholder Investment sufficient to satisfy the note is received. Interest shall accrue from the date of the note on the unpaid principal at a rate equal to the lesser of (i) one and one-half percent (1.5%) per annum above the prime rate offered from time to time by the Bank of America Corporation in San Francisco, California, or (ii) ten percent (10%) per annum, until the principal is fully paid.

The note may be prepaid without penalty at the option of the Company; however, no payments on the note may be made unless such payment is a Permitted Payment or certain existing obligations of the Company to Cole Taylor have been satisfied in full. The note may not be amended without the prior written consent of Cole Taylor.

On April 24, 2014, the Company issued another note to Catamaran in the principal amount of $500,000 on terms similar to the note issued on January 22, 2014.

Other Loans, Credit Facilities and Commitments

Heineken Loan

On April 18, 2013, KBEL entered into a Loan Agreement with Heineken UK Limited (“HUK”) pursuant to which HUK agreed to provide KBEL with a secured term loan facility of £1,000,000 which was made available, upon the fulfillment of certain conditions precedent, on October 9, 2013 and to be repaid in full by October 9, 2016. Interest on the loan is payable quarterly in arrears on the outstanding balance of the loan at the rate of 5% above the Bank of England base rate. Prepayment is permitted. Upon an event of default, as defined in the Loan Agreement, if HUK and KBEL fail to agree on a payment plan acceptable to HUK, HUK may, among other remedies, declare the loan immediately due and repayable or exercise its right to an exclusive license pursuant to the Sub-Licence Agreement entered between HUK, UBIUK, KBEL and United Breweries Limited.

Royal Bank of Scotland Facility

On April 26, 2005, Royal Bank of Scotland Commercial Services Limited (“RBS”) provided KBEL with an approximately $2.8 million (£1,750,000) maximum revolving line of credit with an advance rate based on 80% of KBEL’s qualified accounts receivable. This facility has a minimum maturity of twelve months, but is automatically extended unless terminated by either party upon six months’ written notice.

Keg Management Arrangement

In September 2009, we entered into a keg management agreement with MicroStar Keg Management, LLC (“MicroStar”). Under this arrangement, MicroStar provides us with half-barrel kegs for which we pay filling and usage fees. Distributors return the kegs directly to MicroStar. MicroStar then supplies us with additional kegs. The agreement is effective for five years ending in September 2014. Upon termination of this agreement, we are required to purchase four times the average monthly keg usage for the preceding six-month period from MicroStar. We anticipate that we would finance such purchase through debt or lease financing, if available. However, there can be no assurance that we will be able to finance the purchase of the required kegs. Our failure to purchase the required kegs from MicroStar upon termination of the agreement would likely have a material adverse effect on our operations.

Weighted Average Interest

The weighted average interest rates paid on our US debts was 6% and 5% respectively for the first quarters of 2014 and 2013. For loans primarily associated with our Foreign Territory, the weighted average rate paid was 5% and 3% respectively for the first quarters of 2014 and 2013.

Current Ratio

Our ratio of current assets to current liabilities on March 31, 2014 was 0.50 to 1.00 and the ratio of total assets to total liabilities was 1.03 to 1.00. Our ratio of current assets to current liabilities on March 31, 2013 was 0.53 to 1.00 and the ratio of total assets to total liabilities was 1.06 to 1.00.

Restricted Net Assets

The Company’s wholly-owned subsidiary, UBIUK, had undistributed losses of $1,541,500 as of March 31, 2014. Under KBEL’s line of credit agreement with RBS, distributions and other payments to MBC from KBEL are not permitted if retained earnings drop below approximately $1,655,100.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Not required for smaller reporting companies.

Item 4. Controls and Procedures

Disclosure Controls And Procedures

Our Management team, under the supervision and with the participation of our chief executive officer (our principal executive officer) and our chief financial officer (our principal financial officer), evaluated the effectiveness of the design and operation of our disclosure controls and procedures as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the last day of the quarter ended March 31, 2014. The term disclosure controls and procedures means our controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to Management, including our chief executive officer and chief financial officer, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Based on this evaluation, our chief executive officer and our chief financial officer concluded that, our disclosure controls and procedures were effective as of March 31, 2014.

Changes In Internal Control Over Financial Reporting

There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter ended March 31, 2014 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II

OTHER INFORMATION

Item 3. Defaults Upon Senior Securities

The discussion provided under the heading “Liquidity and Capital Resources” with respect to our default under our agreement with Cole Taylor and the discussion under the subheading “Cole Taylor Facility,” under the heading “Description of Our Indebtedness,” both set forth in Item 2 of PART I of this Report, are hereby incorporated by reference in their entirety.

Item 6. Exhibits

* Filed herewith.

** Furnished herewith.

SignatureS

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

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Dates Referenced Herein   and   Documents Incorporated by Reference

This ‘10-Q’ Filing		Date		Other Filings
		7/31/18
		12/31/17
		12/31/16		NT 10-K
		10/9/16
		6/23/16
		12/31/15		10-K,  NT 10-K
		3/31/15		10-K,  10-Q
		12/31/14		10-K
		6/30/14		10-Q
Filed on:		5/15/14
		5/13/14
		4/30/14
		4/24/14		8-K
		4/18/14		8-K
For Period end:		3/31/14		10-K
		2/28/14
		1/22/14		8-K
		1/9/14
		12/31/13		10-K
		11/14/13		10-Q
		11/11/13		8-K
		11/8/13
		10/9/13
		9/24/13		8-K
		9/18/13		8-K
		9/1/13
		8/14/13		10-Q
		6/1/13
		5/3/13		8-K
		4/18/13		8-K
		3/31/13		10-Q
		3/29/13
		12/31/12		10-K
		6/23/11		8-K
		4/26/05
		3/2/05		4,  8-K
		8/31/99
				List all Filings

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Filing Submission 0001493152-14-001521   –   Alternative Formats (Word / Rich Text, HTML, Plain Text, et al.)

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