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Executives

Don Taylor - Vice President, Marketing & Investor Relations

Dennis Raefield - CEO and President

Greg Krzemien - Chief Financial Officer

Analysts

Andrew Shapiro - Lawndale Capital Management

Mace Security International Inc. (OTCPK:MACE) 1Q 2010 Earnings Call May 19, 2010 11:00 AM ET

Operator

Good morning. My name is (Theresa) and I will be your conference operator today. At this time, I would like to welcome everyone to the first quarter 2010 financial results conference call for Mace Security International. All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question and answer session. If you would like to ask a question at that time, simply press star and then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you.

Mr. Don Taylor, you may begin your conference.

Don Taylor

Thank you, (Theresa). Welcome to Mace Security International's first quarter investor conference call. I am Don Taylor. I'm Mace's vice president for Marketing Investor Relations. Also, on today's call, is Mace's chief executive officer and president, Dennis Raefield; Mace's chief financial officer, Greg Krzemien.

On today's call, Greg Krzemien will discuss the financial results for the quarter and Dennis Raefield will discuss the market trends, business conditions and company plans. Before I turn the call over the call to Greg, there are some housekeeping matters that we must address.

Certain statements and information during this conference call will constitute forward-looking statements within the meaning of the Federal Private Securities Litigation Reform Act of 1995. When used during the conference call, the words or phrases "will likely result," "are expected to," "will continue," "is anticipated," "estimate," "projected," and "intend to" or similar expressions are intended to identify forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are subjected to certain risks, known and unknown, and uncertainties including but not limited to economic conditions, limit of capital resources, and the ability of management to effectively manage the business and integrate required business. Such factors could materially adversely affect Mace's financial performance and could cause Mace's actual results for future periods to differ materially from any opinions or statements expressed during this call. Additional discussions of factors that could actual - could cause actual results to differ materially from management's projected forecasts, estimates, and expectations are contained under the heading "Risk Factors" in Mace's SEC filings which include its registration statements and its periodic reports on Form 10-K and Form 10-Q.

All statements made during the conference call should also be considered in conjunction with the financial statements and notes contained in Mace's annual reports on Form 10-K and quarterly reports on Form 10-Q. Access to these reports can be generated on its website www.mace.com. Please click on the Investor Relations button.

With that, I would like now to turn the call over to Greg Krzemien.

Greg Krzemien

Thanks, Don, and good morning to everybody and thanks for joining us on our call today. I'm not sure if there's any newcomers on the call but for those who are newcomers, I will just spend a few seconds describing our different operations.

As most of you know, we currently operate in two active business segments, that being the security segment and the digital media marketing segment. In our security segment, we operate in four different divisions or operations; our electronic surveillance equipment both on the professional and more of the do-it-yourself level, our industrial vision, and conferencing equipment division. We have our personal defense division which is our famous Mace pepper sprays and our acquisition of last April, Mace CSSS which is our security monitoring station operation out in Anaheim, California. Our second segment, our digital media marketing has two divisions; Linkstar which is our e-commerce, a product sales company; and Promopath which is a digital marketing form of that group.

As far as discontinued segments, most of you know, we discontinued the car wash segment. We sold those car washes down from approximately 50 to 53 car washes a couple of years ago. We have seven remaining. All the operations of the car washes are presented in the statement of operations as discontinued operations. So, in essence all of the revenue and expenses are stripped out of the line items on the income statement and out in one line item on the bottom, and the assets and the related liabilities of the car washes were also stripped out of the balance sheet and placed on one line on the asset side called assets held for sale and on the liability side, liabilities related to assets held for sale. So, when you look at the balance sheet and income statement except for those lines I just described, you can - you can see the two asset segments in the financials.

I'm going to spend some time here reviewing some of the various details of our operations, highlighting a couple of items and then, Dennis, our CEO, will spend a little bit more time describing the past and the future in these divisions. I will provide some comments and income statements on revenues, gross profits, SG&A, changes and impairments, or comment on our cost reduction efforts, make a few comments on our balance sheet and cash flows, and a couple other highlights and some other financial data. Again, in my conversations, they talk about these various line items. I will not be including the car washes. They are discontinued operations but I will spend a minute or two on a couple of highlights and where we are with the car washes.

So, right now, I'm just going to go into some revenue points. As far as this first quarter of '010, our revenues were a little soft. We did about 6.9 on seven million dollars of revenues versus $7.2 million in the first quarter of last year; that is a decrease about 228,000 or about 3.2 percent. We're really up in the security segment by 90,000 but that does include the acquisition of CSSS, our monitoring station in the April of '09 which will not be included in prior numbers and that is about $787,000 in the current year numbers; and as far as the digital media marketing segment, this is where we saw our most significant decrease, about $318,000 or about 10 percent from the first quarter of '09.

When I look at the security segment, as I mentioned, we did have a net increase but it was larger because of the CSSS acquisition. When you look at the other parts that I mentioned a few moments ago, our personal defense was approximately 6.8 percent below prior year's first quarter and electronic surveillance was about 21 percent below the first quarter of last year.

A couple of comments on that, again on the security, electronic surveillance side, you know, we are still feeling some impact of the recession; construction levels still not being back to where they were; still some credit adverse effects out there in the market with people buying sizeable systems. So we're still fighting those things. Dennis and his group have been doing a lot of work in the product area, in the marketing area, and he will be describing some of that shortly to overcome some of these revenue challenges.

On the personal defense side, really there is a slight decline but we're - we're really very positive there. We're doing well. We do have the backlog of some shipments, some customers who couldn't take stock yet, some products that actually was backordered and we are waiting for it to ship but overall, that market remains strong. We're - we've introduced several new products over the last couple of years, our Hot Pink Mace, our pepper gel, our pepper gun, our wireless alarm system; all those are doing very well and we really have no significant concerns there at all.

As far as focusing on new markets, we are spending a lot of time on the international markets on the defense spray side and we are very optimistic about, you know, the impact of that as we move forward here.

A couple comments on the digital media side, as I mentioned, the revenues are down from the prior year. A couple of reasons for that, one of the main reasons is we had a weak fourth quarter as far as new members coming into the system. We talked about that on the last call. That has a big impact because those new members coming into the system is what generates the more significant revenues, the retro charge for the trial that was sent out at a minimum cost, and the recurrent billings for repeat customers who have bought the retro and are going on to continue to buy the products. So, with that, we've had some challenges going forward.

As far as other impacts in the first quarter, we had some high return rates that comes - somewhat comes with very high new member growth in the first quarter of this year, from some new publishers. We found that there were some customers who were buying multiple products to try and win prizes on the promotional walls and then returning them, and we did a lot of work in the first quarter to filter out a lot of those people we've nipped that in the bud. It did have some impact on some high returns in the first quarter.

The good news is, is that we're - we've seen really good decrease in decline rates. So, we felt good about the prior challenges we had in '09 with increased decline rates on credit cards. We do feel like, you know, when this people start getting the new statements this year as the federal government required to disclose how long it would take the pay off the payment. We do also think that had a little bit to do with our return rate increases. It's hard to measure exactly how much but we do note comments made to our customer service people that have some impact but we're starting to see that decrease also.

You know, we have introduced new products, Biocol, Goji Berry, Knockout. Our pet vitamins are just now starting to come online and be shipped. So, again, a lot of positive things, you know, that we're hopeful for the increased revenues there.

As far as profit margins, looking at the first quarter of this year overall, we had a gross profit margin of 24.5 percent versus about 29.6 percent last year. The bulk of that decrease in gross profit really is in the digital media marketing segment. When we look at the security, we saw a little over 29 percent, 29.3 versus about 29.6 last year in the first quarter and we usually stay in that range from about 29 to about 30. So, for the last year or two or so, the security segment's margins are holding. Again, the challenge is more on the digital media marketing side.

You know, Dennis and his group are working hard to improve the margins on the security side. Dennis will be talking about some of the new products that are buying better vendor relationships. We're really weeding out profits with products rather than with report profit margins and the good news is we are still holding at the 29-plus percent gross profit and selling off some of the older inventory at very minimal to no profit margins just to get rid of it.

One of the highlights I'll be mentioning on the balance sheet is we decreased inventory again over half a million dollars in the first quarter of this year which again shows we're conserving cash and really continuing to work on decreasing in putting efforts to moving inventory and turning it into cash. So, it's good.

Digital media marketing segment, again, I mentioned that the reason that the margin is soft, only at 16.9 percent versus 29.7 last year in the first quarter, it really all has to do with the new member growth. We had a record new members in the first quarter about 54,000 new members. That is good and bad. It's good because it will help the future. It takes a very big toll in that quarter because we do recognize that cost. We cost CPA cost, cost per customer up front when we pay for it and we get that new customer and we look at our total cost (with good) sold structure, that CPA cost for the first quarter was 75 percent of the cost of (goods) sold. Products are minimal, about 13 percent of the cost of (goods) sold. The freight cost is about seven percent and all the other overhead; warehousing that is related to the direct cost, only about five percent. So, being such a big component when we have new member growth, it really hurts your margins.

A couple of comments on our operating loss, we lost about two million dollars operating loss versus about 1.5 last year in the first quarter. That - a couple of impacts, as I mentioned, our revenue is down about 228,000 between years. We did have CSSS coming online, monitoring station issue we didn't have last year; that brings with it a certain amount of overhead. Although that's profitable, it still does bring some overhead over. The digital media marketing segment, again, the major impacts were that decrease in the operating loss; just a swing in operating profit loss from that division because of (inaudible) was about $400,000 this year first quarter versus the last. So, definitely, the largest impact there. Obviously, I have seen SG&A costs are part of the operating loss.

Some comments on the SG&A side of our cost structure, continue to work on reducing those. Some highlights, if you look at the financial statements we reported about 3.5 million of SG&A this year first quarter versus about a little under 3.5 last year; a difference of about $30-40,000 but when I - when I analyzed and I backed on unusual items such as legal fees of last year for wrapping up the (I&S) matter which is, you know, number costing spent there. We cost for the arbitration of legal fees, severance cost, things of that nature, and then if I look at backing out to 225,000 of CSSS SG&A which is in this year and not in last year and we do show that our SG&A cost have gone down about $100,000 between those two periods. You know, not good enough. We, you know - and that has some impacted the cost we have been doing for the last couple of years.

I mentioned before, we cut a net 40 people, non-car wash again related. These headcount reductions again exclude the car wash. About 40 people in '08, about another 27 people in '09 and so far in '010 here, we have reduced the headcounts by another 19 people. So, we're continuing to look at headcount reductions. That 19 reduction that we did this current quarter that we just ended, and really that 19 people through April 30, that's annual compensation of about $900,000 before benefit in taxes. So, you're talking about a million one after benefit in taxes and the impact I'm projecting on '010 from those is about 800,000 without benefit in taxes, about a million with considering some of those people were around and part of the first quarter. So, again, you know, pretty significant reductions. I'm sure Dennis and myself will continue to look at that area but just wanted again to give a report on what we are looking at in the first part of the year here.

You know, we continue to look in all areas for SG&A reductions. You know, Dennis is always looking at marketing costs and switching it out to more effective methods but again, the biggest focus of reductions at this point are coming from personnel reductions.

A couple other comments on the car washes, as I mentioned, we have seven car washes left at this point. Our car wash - car washes that are left out of the seven, two are under agreement, two are in drafting phases of agreement and we're feeling pretty positive about those two being signed in the near future. So, at least three more of that we need to work on. So, you know, we are making progress there as Dennis has said on prior calls. We have committed to the shareholders to withdraw from that operation completely, you know, as soon as possible. Our goal is still to be completely out of it by the end of '010 and we are working that, you know, very hard on a daily basis.

We do have a large multi-operative review on these car washes. We're always looking at the decision, does it make sense to close the site? We do an analysis every month of the fixed cost, real estate taxes, minimum utilities, lease on one of the sites; we're always evaluating, does it make sense to just shut the site down or is it losing less money coming from the fixed cost operation? So, we're watching them close. We're continuing to monitoring the cost, working closely with the operating people; you know, just continue to put a lot of emphasis in that area.

A couple of comments on the balance sheet, cash at the end of March was about 7.9 million. Our working capital was about 9.7 million. Our current ratio is about 1.75 to one. As I mentioned, our inventory decreased by 550,000 from the end of the year from December. Our debt is at two million 853 versus two million 920 at the end of the year. We're continuing to make reductions of principal and interest payments of about $180,000 a quarter or debt to total equity plus debt ratio. Our leverage ratio is about 10 percent, real low. It was about 8.4 percent at the end of December. Obviously, it has increased a little bit because of our equity erosion from the first quarter losses and (inaudible) but still at 10 percent, a very strong leverage ratio.

As far as our debt goes, we are down to about 2.9 million as I just mentioned the debt. About two million of that is on the remaining car washes. Five out of our remaining seven locations have debt related to them. So, as we approach getting out of the rest of the car washes, we're really going to have a debt balance of about $800,000 which is principally some capitalized leased equipment in our monitoring station that we inherited as well as the Texas warehouse building for security operations. So, really doing a good job of bringing that debt down. Our main bank is JPMorgan Chase. We have an excellent relationship with JPMorgan. We're continuing to, as I said, pay those - pay that debt down and we have a weighted average interest rate of about 4.8 percent on that debt. A lot of it is tied to prime which as you now is about three and a quarter right now. So, again, we're doing good in the debt area.

A couple of comments on treasury stocks, we purchased in 2010 in the first quarter about 173,000 shares of stock at a cost of about 178,000. We have not purchased any treasury stocks since March 31. And all those carry-forwards, always an interesting number. At the end of the year, we are at about 35.7 million expiring between 2018 and 2029 with a $6.8 million loss in the first quarter. That brings about 42 million plus or minus depending on the final evaluation of the deductibility of all the losses from the first quarter which we have not completed yet but give you some ideas of magnitude of the range of the NOLs.

With that, I'm going to turn it over to Dennis who will provide some more insight on the different divisions and I will be available later in the call for any questions. Dennis?

Dennis Raefield

Good morning, everyone. Thank you for joining us. I think I would like to address the very significant award-drawer, ex-CEO, Mr. Louis Paolino. He was successful in his arbitration claim obviously and to the tune of over four million dollars plus potentially additional attorney fees that have not been determined. Obviously, the board and I are very disappointed and frustrated with the results. We don't think that certainly that our case received the kind of merit it deserved but this is a nation of laws and we will move on. We do have the cash available to pay the award and it will not put the company out of business or put us in a precarious situation and we have additional cash still coming in, in addition to the cash in the bank. We have taken this expense entirely in Q1 including a preliminary estimate of legal fees that might have to be paid. They have not been determined. Someone has called me and asked me the question of when it will be paid. We do not know and it needs to be paid and I can't comment on that today.

Greg, do you have any other - or you do not know yet when it needs to be paid, right?

Greg Krzemien

Yes, I do not.

Dennis Raefield

OK, thank you. I'd like to talk a little bit about the performance of the company in Q1. Obviously, we're also disappointed. I'm not happy about it. The board and I worked very hard. We did have an increasing revenue in Q3 and Q4. At the last two quarters, we were growing out of it. Q1 was weak and our EBITDA as you know is about - the loss was about 6.3, 6.4 million. If we take out the 4.6 that we have set aside for the awards for Mr. Paolino, that leaves us with an operating loss of EBITDA loss of 1.7 million. I'm rounding these numbers roughly but I think it is important rather than look at that and say the company is in deep trouble, I would think I'd like to break that down which we normally don't do as we talk about the month but I think as shareholders, you all deserve to understand what this means.

So, first of all, January and February were - revenue numbers were completely terrible in every division we had. It fell off the truck completely and as a result, if you have a pencil and paper for that 1.7 million, we lost almost 900,000 in January of EBITDA and almost half of that was in Linkstar. In February, we cut the loss to 537,000; this is EBITDA. In March, it was down to 328. You add those together, you get the 1.7 million. So, it went from 900 to 500 to 300 in those three months. So, we were doing lots of actions at the time but because of severance cost and other costs, we had to carry things but you can see that we were taking significant action plus we had some recovering sales by March. So, March was the first time we started to see any improvements in any of the divisions.

Just to give you a trend because certainly, we - the board and I looked at all the time, what are the decisions to make. As I told you, we lost 900 and 500 and 300 and I'm going to just break the normal trend and tell you that in April, our internal reporting results, we were down to a minus 185 of EBITDA loss. That's the smallest loss this company has incurred in years, smallest loss in years. So, April - it's only one month and one month does not a quarter make, of course, as an old saying and I'm not sure about the next two months because we're still recovering but I think that's a significant direction change, four months of decreasing profit loss, certainly we're hurt by the Paolino award, I'm excluding that and that first quarter results but I think you can see that the trend is significant. Our cost-cutting efforts are paying off and I have something else to report that I'm going to give us a sense of where the future is going.

The security segment, for the first time, I believe in the best of my knowledge that we can find in the history of the company; the first - the security segment where we're focusing the company, was profitable across the board in April. It's the first time I believe that they have been profitable. So, our security segment when we add together the central station, personal defense, and the two Mace security products division and industrial video division. We made money in that segment. So, I think the focus on security is paying off. We're still hampered by losses in the car washes and we've had some significant setbacks in the Linkstar business.

So, there is no guarantee about the rest of the quarter and I'm taking action. If the continuation continues - excuse me, if the recovery continues, we will continue with the current plan. If it doesn't continue in May, then we will do a major reorganization. I'm very close to break even. I need to get there especially with the cash demands. I have to get the cash demands reduced because we have less cushion than we had before. So, we will change the sale structure and we will continue to cut the costs to get where our goal which is to get to a break even and then to a profit.

I would like to talk a little bit Linkstar. Linkstar has been beset with problems that are mainly external. The credit card market as you know is in turmoil. The credit card - new credit card law took effect in the middle of February and previously to that, we had a lot of credit card tightening and post to that, we had a lot of consumers who are reading the statements. If you read it, it says if you just make the minimum payment, you won't pay off your credit card for 40 years. That has had an effect on what I would call discretionary purchasing and it is happening across the industry.

Take a second to just talk about the future. Mace.com which is our online marketing, grew 150 percent in April over March. We now have the lowest cost named-brand DVR on the market. We are now actively advertising in Google and we are releasing new products every day in all three of our market areas, new products in our industrial video section, new products in our consumer division, new products in our dealer division. I am focusing on DIY, the do-it-yourself industry. I'm not waiting for the dealers. Our dealer base is still struggling and suffering, as Greg mentioned earlier, with construction. So, we can't wait for them to come back and research. So, we are going in new directions.

In June, if we don't have a recovery by the end of May, we will install a new dealer sales team. We did terminate our previous sales team and I take responsibility for the strategy. We had a strategy of hiring what we thought were the best sales people. They were ineffective. We've turned them over and now at this point, we have only one sales person, outside sales person on the team and we have been focusing internally. We will change that on May if it is not successful.

We are closing another car wash shortly within the next few days and all the papers are signed that will bring another $650,000 to cash in with no debt to pay off. So, that will help our balance sheet. We have another one in contract we expect to close in the next two months, plus we are in final contract term negotiation on two of our larger car washes and we hope to close those in the next few weeks and - excuse me, not to close them, to be in contract in the next few weeks. They will take three to four months to close.

The - let me speak about Linkstar, as you know, I announced that we are going to investigate. We have been investigating the sales in Linkstar. Linkstar has an ability to make significant profits but it also has a lot of challenges and it is not means to (inaudible) quarter our business and we have decided to look for a profitable sale to the right buyer if we get them but we're not doing our fire sale on it because it does continue to make profits and it is growing - it is recovering and as Greg said, we took our hits in January to book on a lot of new business.

The last thing I wanted to say just about the future is that we have an asset we have not really talked about before. In addition to private labeling or branding the Mace name to other people, in the DIY market, Mace is one of the few brands that is a no-name brand to sell in the DIY market. People can log on to the internet and find all kinds of products, Asian products and things, and some of our products are Asian but they don't get a - they don't get a good brand name when they look at those products and our competitors such as Honeywell and Tyco and Bosch and people like that cannot advertise and sell directly on the internet because they have a very extensive distribution and dealer network. So, we have an advantage in it. We can sell a name brand against a no-name brand but our pricing structure is the same as the no-name brands and our margins are high. So, this is the focus that we are taking that I think we haven't really utilized, the fact that we have a different ability than any of our other competitors on the name brands and an asset against our no-name competitors.

So, before I turn it over for questions and answers, I would like to take a pause for a second and I'd like to read you some answers to questions already posed to me by shareholders and this was sent out in the proxy letter mailed yesterday. So, you may not have it yet. Hold on one second while I grab it.

One of the questions asked by one of the shareholders was how will Mace grow the top line and is it our number one priority? While growing the top line as I said in every conference call has always been our top priority, there's no way out of this with cost-cutting only. You can see we've been - we've gotten very good at cost-cutting but that doesn't work as the only solution. We have tried many sale strategies and I take the full responsibility that our failure to grow the top line, our tactics and strategies have not worked. There's lots of reasons for it but I commit that we will continue to modify our sale strategy until we get success. We will continue to try new things. We are not doing the same-old, same-old.

I believe today we haven't placed the strongest product marketing and operational team since the formation of the company. Our product return rates are at record-low levels. As you remember when I took over, we had return rates in excess of 10 percent of our sales. We have reduced our overhead and cost structures and we've added a lot of world-class products that have not yet thrown through the pipeline. We've continued to sell our old inventory and if you saw, we took another half a million dollars out of that. So, we've been doing that.

Number two question was, are we at Mace considering strategic acquisitions, combinations, mergers or disposition of the company? I would answer to you that we continue to look at them as long as we're creative and profitable. We cannot jump into product lines and companies that are future profits in which most of them are showing as we do talk about the future. We have to buy companies that are profitable today. We continue to look at them. We are very aggressive. We've looked at several of them. We haven't found any that make sense for the company.

I previously announced that we have retained Northside Advisors, a boutique investment firm to explore the sale of the company's digital media market segment. That is quite active at this time but I cannot comment on where we're going with it. We will use those proceeds if we ever sell it to fund and grow our security segment.

We also - someone has asked us about why we haven't done more mergers or acquisitions. Mace is a diverse group of businesses, car washes, security, and digital media. Many of our potential merger-buyer candidates, anyone who has come to us even informally because we're not - we don't have the company for sale but anyone who has come to us have expressed the view they would be much more interested in us after we get rid of the two non-core businesses. It's very difficult to have a strategy of being in the security business and also have a car wash on the side or have a digital media business. It really narrows our options. So, we are making it work and I'm making the security our prevailing operation.

We are open to any discussions while not being for sale of merging or being acquired by any company. The board is not resistive. The management is not resistive. We need to do what is the best for shareholders and I want you to know that we are open to that and we will look at it. That is our regular and daily goal.

The last question I wanted to pre-answer that someone asked is why are we not out of the car wash business yet? Number one as Greg mentioned, we daily make the decision - excuse me, monthly, we make the decision to keep a car wash open or to close it. Some of them lose money but there are fixed costs of these. We own most of the land, so there are property taxes, insurance, maintenance, security to protect from vandalism. So, we have that number every month and if we do not hit that kind of a number in our operations, we will consider closing them. We are moving aggressively as I told you with two under contract and two that will hopefully be under contract within the next few weeks. We are down to three. We are at the tipping point where we can make the decision to perhaps close them but there are fixed costs and especially we have a long lease that was signed that does not end for many, many years in the car wash that was signed years ago and has still years to run. So, closing them is not as easy as it looks.

So, with that, I've answered the three main questions that came to me from shareholders and I would like to open it up to anyone on the call and I will turn it back over - excuse me, to (Theresa).

Question-and-Answer Session

Operator

At this time, if you would like to ask a question, press star and the number one on your telephone keypad. That is star and the number one. We will pause for just a moment to compile the Q&A roster.

And you first question comes from the line of Andrew Shapiro.

Dennis Raefield

Good morning, Andrew.

Andrew Shapiro

I have several questions I was asking you back out into the Q regarding the Paolino era messes, the first question I had is when is your deadline to decide whether there will be an appeal or have you - has the board already decided whether they will appeal or not the matter?

Dennis Raefield

Well, I can't comment. The board hasn't made any decisions. The board is evaluating our options. I don't know that the board is even - appeal is even the proper word. So, I really can't comment on it. There is no decision. All we have is the judgment from the arbitrators at this time.

Andrew Shapiro

All right. Is there an update or any work or investigation being done on the potential to recover any of the one million dollars of lost principal on the hedge fund, (Ponzi scheme) that his era had put this company into?

Dennis Raefield

On the remaining one million that was ...

Andrew Shapiro

Well, the one million of lost principal, there is not a chance you are going to recover the extra million of phantom profit.

Greg Krzemien

Dennis, that is if you want me to make a few comments on it I'd be happy to ...

Dennis Raefield

Sure.

Greg Krzemien

Hi, Andrew, how're you doing?

Andrew Shapiro

Hi.

Greg Krzemien

Andrew, I sat in on a call that we had about - I'm going to say with three or four weeks ago that the receiver in the matter put on for interested parties. It took several hours. Eventually, he went through the process of where they are and, you know, he confirmed a few things. Obviously, they were only looking at a (club) act if you actually got more than your initial principal back. So, obviously, that's not us. You are correct, we lost one million of principal. So, basically, they have - are going to be sending out a form any day now and I'm watching for it where they're going to disclose what they believe your loss was. So, obviously, if it's not the million I would have to explain why. So, they know the total population of what they're trying to fulfill. He's explained where they are so far, they've done a lot work with identifying where funds were spent. (Inaudible) and his friends, they started going after recovering as much of that money as possible. I believe the number was so far, they have been able to only bring back into their cash account about 10 million of that money but they have their eyes on a lot of other avenues, real estate, different companies. So, they helped to put a lot more in there. You know, just listening to the tone of the call, they would not commit on what percentage recovery people may have. They've given examples of other matters they've been involved with this specific receiver who is an attorney who used to work for the SEC and you know, he said, sometimes, you can get in the 20 to 30 percent range but again, he didn't want to commit to that. So, that is kind of what I took away.

Andrew Shapiro

OK.

Greg Krzemien

So, you know, he said, he's probably six months to a year away from writing checks yet at best but they're working feverishly on it and they're, you know, trying to provide comfort that they're doing everything possible to try and recover as much as possible.

Andrew Shapiro

I'm trying to put together and understand the cash flow and that is the EBITDA of your two segments. I don't think your 10-Q broke it up this time or I can see it in your releases. Is there depreciation and amortization number that you have available for your two segments for the quarter?

Greg Krzemien

Yes, I'll tell you what, Andrew. I will - I will pull that number here and ...

Andrew Shapiro

OK.

Greg Krzemien

... while you ask the next question, we'll give it you.

Andrew Shapiro

All right. Now, Dennis says that return rates were at record-low levels and in your prepared comments, Greg, you were commenting about how returns had been hurting us in the - I guess in the quarter that ended in March and it wasn't clear what segment you were referring to when you were describing the problem with high returns and so, can you or Dennis clarify and discuss the return issue and what's been done about it and if things are improved?

Greg Krzemien

Yes, I mean what I was referring - oh, go ahead, Dennis.

Dennis Raefield

Well, yes, I think Greg was referring to Linkstar. Linkstar has returns that we would call people who are buying and then return the product immediately. It's not a - it's not a quality issue. It's a they change-their-mind issue. They do some impulse buying which is what this e-commerce is. It's things - it's consumer products like makeup and so, they just send it back. It is not - it is not a return because of a problem. It's just a change of mind. Now, the returns I was speaking about and I'm sorry I wasn't so clear, was the security segment which is well over 10 percent, 11 percent. We had that when we came on. Monitors were 20 percent being returned and now, we're down to an overall return rate that is way under five and moving towards the industry expectation of three. So, that I was talking about the security segment. Greg was talking about Linkstar.

Andrew Shapiro

So, now, the Linkstar segment which did not do as well as we would have thought it would have done with such a sizeable revenue jump, that's the one where the returns impacted the profitability of that segment in addition to your upfront shipping costs and new customers?

Dennis Raefield

Correct. The way Linkstar is built as you know, it's a very different kind of business which is - which does not fit with the rest of our business but it's an interesting business model. It's not a bad business model. It's just very different. The costs are heavily up front whether it's ...

Andrew Shapiro

... There is no end that we have to talk about the segment at all but I understand. So, that is up for me.

Dennis Raefield

OK.

Andrew Shapiro

So, trying to limit what it is I have to talk about in Linkstar because it's a waste of everyone's time to have this thing in here is you made a comment about what we're not (fire sale in) the division and we're looking for the right fire, et cetera, has your investment banking for this been retained and doing this? Have they prepared the books and how long have those books been out in the hands and do you have synergistic parties looking at the segment?

Dennis Raefield

I want to make sure that I don't - you know, I certainly have potential buyers of Linkstar on maybe on the call. So, I'm not going to reveal details but I would tell you that we have quite a few very interested parties, the books are out ...

Andrew Shapiro

OK.

Dennis Raefield

... the presentations are - have already been made to some of the people and there are quite a few. There is more - there is more than six and less than 20, I would say that. I don't think it's proper to get some more specific to know that it is active and I think we're seeing interests from some very interesting places, people who see this as an asset for their business because it might be core because they need an online segment and you know, while it doesn't fit with Mace, it doesn't fit with Mace for focus. It requires it to be somebody who thinks this is an essential part of their business and I think that's all I should say.

Andrew Shapiro

Yes. No, I understand. I'll ask a question in the car washes and then I'll back up but come back to me after that because I want to focus on to our business here in the security products. In the car washes, you have three that are not close to contract, along like the two that you are and the two that are under contract. The three that are not closet to contract, are those - are they all three operating car washes or are any of those closed?

Dennis Raefield

All three are operating.

Greg Krzemien

They're all - they're all operating.

Andrew Shapiro

And this seventh that you referred to that includes the one that's under long-term lease or that's exclusive of the one under long-term lease?

Dennis Raefield

That's included.

Andrew Shapiro

One party, one answer, what was it? You guys stepped over each other. I didn't ...

Greg Krzemien

Sorry, that is - that is inclusive of the seventh; the six that we own and one that we leased.

Andrew Shapiro

OK. So, there's really two that you can effectively really sell out of there of the remaining three. What's the total book value end of March that you have on all - on all of these washes?

Greg Krzemien

On all seven, about 6.1 million.

Andrew Shapiro

6.1 million and that was after the (write-down). All right, I'll back out of the queue. Please come back to me. I'm sure - I definitely have some more questions.

Greg Krzemien

Yes, Andrew, just to answer your question on the depreciation or depreciation on - depreciation and amortization on the (annuals). We are on about $200,000 a quarter and about $145,000 is in the security statement and about $55,000 is in the digital media marketing segment.

Andrew Shapiro

Thank you.

Dennis Raefield

You're welcome.

Operator

And again ...

Dennis Raefield

(Theresa), do you have any other calls?

Operator

... if you would like to ask a question, press star and then the number one on your telephone keypad.

And Andrew is back in queue.

Andrew Shapiro

One of the questions ...

Dennis Raefield

Andrew, go ahead.

Andrew Shapiro

All right. So, one other thing on this Linkstar issue, you have Promopath, you made the decision to reopen it. You said it was being reopened under very cautious and very controlled circumstances and I would have thought that Promopath would have improved your margins by lowering your acquisition costs and is that what has happened? When did you even reopen Promopath, end of December? When did it get reopened? Has it lowered your acquisition costs and is it continuing to be run in a very controlled cautious manner or is it contributing to losses?

Dennis Raefield

I'll answer the non-financial side of it. It is very controlled. One of the reasons it hasn't grown faster is that we are - we were very wary if - when Promopath was launched before, it made money and then lost significant amounts of money because of fraud and I would say overall it is contributing to Linkstar more than as a standalone business. It is contributing to Linkstar. It has allowed us to have business growth. Some of the new member signups were coming from that. It, as a standalone business, is not particularly profitable but it doesn't have a lot of costs either. It's all passed through Linkstar. So, it is very controlled and I think part of the reason it hasn't taken off is that Ron Gdovic, our president of that unit is under very, very conservative orders to make sure that he doesn't make - have a wonderful growth in profit to be offset by a big loss the next month. So, Promopath is being throttled and it's still being throttled because the scammers in this business, the online people, they're trying to do damage are significant. We have a very sophisticated piece of software that is good at it and we keep - that we keep a very tight throttle on it. So, I am just paranoid about it getting out of control and so, I've kept it throttled but it is - we look at it as an effective tool for Linkstar but I'm not going to open that faucet yet. I just don't trust the skill of these scammers and spammers and game players until I really see it. I've got a lid on it, Andrew.

Greg Krzemien

And just to get (inaudible) the Promopath had a very small cash drain of less than $20,000 in the first quarter. So, you know, we are controlling it. We anticipate that to go positive in this quarter. As Dennis said, we're going to cautiously start flowing some traffic to our wall, not only provide some profits in that division but we will also start providing free CPA with new acquisitions to Linkstar what I have in the pan out that I have published and settled.

Andrew Shapiro

Now, when you said cost 20,000, has it brought in $20,000 a bit or more of incremental cash flow in the Linkstar side or you are saying the net cost of it is 20,000 and it hasn't paid for itself yet?

Greg Krzemien

No, I'm saying that was the cost of Promopath but it has and again I don't have the number in front of me but as Dennis had alluded to, it does help us with getting better publishers, better traffic. It does bring some business our way, better relationship with publishers because Promopath is open. I was just telling what the cost of Promopath was as far as in that cost of the company for the quarter.

Andrew Shapiro

And - and just curious in terms of assessing profitability, your biggest products - that your - your biggest selling products now going out to Linkstar, are they your newer products or do have some historical products maintained a high-ranking in your - in your sales out of this which was I would assume then would be higher for margin because there were repeat customers?

Dennis Raefield

Well, it's actually a very interesting market and we track it daily. The Purity Mineral Science, the makeup, the high-quality makeup continues to be a significant player. It has very long legs. The customers like it and we have good retention on it. So, it's actually quite profitable because once we pay the CPA, the cost per acquisition once, we get to keep that customer for a long time and that does keep a long time but we've also had a - the product that started out very slowly which was the teeth whitening, Extreme Bright White is now a number two product and growing and other than a false start, maybe you know, one or two products that started and stopped that disappeared, we've had pretty mixed success and pretty even success with all the product lines.

So, we're not relying on anyone. I would not want to lose Purity Mineral but we're not going to because people use it, consume it, need it and it does a good job. It's a quality product and we found the quality customer. One of the things that -(Ron) has done to change and we're waiting for the outcome, is that he has gone away from the - what they call the incentive traffic where people are really trying to win something for free and he's gone to people who really want to be a buyer of the product for the product's sake and so our return rate is starting to fall whereas in the past and even in January, we were getting people who are what we call this incentive buyers and they're the ones that I think that are the most affected by the credit crunch because they don't have the disposable credit card income that they used to have. So I think it's becoming a more real business. It still is in our core but it is becoming a more real business than as you know what it was when it was acquired which was quite a volatile and edgy business. I think that is all I would really say about it right now.

Andrew Shapiro

You mentioned something about the infomercials on the History Channel?

Dennis Raefield

There's an infomercial on the (TLC) The Learning Channel.

Andrew Shapiro

Yes, any pay back from it?

Dennis Raefield

Yes, sir.

Andrew Shapiro

OK.

Dennis Raefield

Absolutely, and it was good and I think I didn't answer your question about Promopath. We look at Promopath every day to say, "Does it - does it work? Is it worth it by itself?" If you look at it as a separate company, it loses a little money but if you look at the two together, it is an asset that's helping Linkstar significantly and so we're going to continue to run it but we are not going to - we're not going to open that faucet. I just - I'm not ready to.

Andrew Shapiro

Lastly on this, you historically have introduced two new products a quarter, what are the new products this quarter or is that pace being slowed down in light of the what we call as the sales process and other things?

Dennis Raefield

No, it's not really slowed down. It's at least one per quarter; you know, two is our goal. We've done ones and twos. One of the ones we're doing, we did a - a launch of petvitamins.com, we took on our website and it was very successful. We cleaned out our entire inventory and we had to shut it down. We hadn't anticipated the success; that's being re-launched. So, that will be one of the Q2. There is another one for Q2 launch that's quite significant. That's ready to go. So, it's going to be one - you know, one, one and a half, probably rather than two because right now, I want to make sure this company makes a profit but the pipeline isn't draining. We need to keep that pipeline full in case there's a potential buyer. We don't want them to have a drop off in business.

Andrew Shapiro

Let me back out in the queue in case there is someone else, then come back to me and we'll - we'll talk security.

Dennis Raefield

Certainly. (Theresa)?

Operator

There is no one else in queue.

Andrew's line is back open.

Andrew Shapiro

All right. Security. So, you announced several new products with great fanfare over the past six months - nine months. OK. Can you update us in the products that have actually been producing meaningful incremental revenues?

Dennis Raefield

Yes. On the security defense side and personal defense side, I think our number one seller is now the - what's called the Hot Pink pepper spray. That's probably our number one product. It didn't exist, you know, eight months ago and it is very popular. The Mace pepper gun is out and that is our number two seller. So, those two have kind of pushed to - pushed as far as new growth, pushed aside the other products. On the Mace security side, we have introduced - let me first talk about the industrial division. We don't talk about it very much but it's a profitable and growing division, selling cameras mainly used on production lines and research, cameras that are expensive and used for specialty purposes and we have now introduced our own brand of that camera and their sales are taking off and helping and they help the margins as well because it's a pretty competitive market out there for name brand. There are lots of places to buy our industrial video cameras except now, we have our own. So, that's just a small plus that we haven't talked about much.

On the Mace security side, there's a plethora of new products in various stages. You know, we brought in a product - a very experienced product management team from GE that was - did not want to go forward with GE and wanted to move into something a little more entrepreneurial and they have introduced quite a few new products. Our number one product that's taking off is on the DIY side and it's called the MX series. It is a DVR that is now in best of class for home use and small business and the price point is pretty much unbeatable. There is no ...

Andrew Shapiro

Is it selling?

Dennis Raefield

Excuse me?

Andrew Shapiro

Is the product selling?

Dennis Raefield

Yes, the product is selling and I think I mentioned that Mace.com did 150 percent growth in April. It - that marketplace is still subject to us learning a lot about Google and Google ad works but it is growing and that's the product that's leading it. In addition, we have another retailer just committed to taking an end-user retailer then is coming in to take in a significant amount of that product and another product that has not been seen on the marketplace before and I don't want to burst your thunder but we have another product that no one's seen yet.

Andrew Shapiro

Is it coming out?

Dennis Raefield

We now are working on the Mace pro side of the products. Those products are being released and are released and I'm still concerned about the dealer market. It's still very weak but it is improving and the access control products have taken off on a - perhaps a little slower than we thought but they are taking off and we had a tremendous amount of activity on defense protection that we just showed today at (C-West). So, I am very excited about that. We had (inaudible) reported the 10-K call. We had several hundred leads. We followed up on it. We've quoted four or five jobs. They are - they are longer term before we see results but I am happy with them.

So, it's still - I'm not happy at all, Andrew, with where MSP is growing. It should be growing a lot faster than it is. They did - that division made money for the first time and the company's loss was the smallest last month. So, just MSP by itself was in break even. They made great money on the central station, they made more money than way ahead of schedule on the central station that looks to be a good acquisition but I'm still unhappy overall. I don't think we have got the sales - the outside sales program done yet. It just isn't right.

Andrew Shapiro

So, I'm in a - I'm in a loss. Maybe, you are just speaking about April and that's where the enthusiasm and - and all of this - and description of every product doing great and growing. When I looked at the quarter ended March, am I - am I missing something or wasn't your security revenue at 4.3 million down from the December quarter of ...

Dennis Raefield

Yes, I said that. No, our - we had a terrible January and February in all of the divisions and MSP led the way.

Andrew Shapiro

OK.

Dennis Raefield

MSP lost significant money ...

Andrew Shapiro

So, what you're referring to - what you're referring to then is the last six to eight weeks?

Dennis Raefield

Oh, yes. Remember when I told you the four EBITDAs?

Andrew Shapiro

Yes.

Dennis Raefield

And we lost almost a million dollars in January, 900,000, 500,000 in February, 300,000 in March and ...

Andrew Shapiro

What is the ...

Dennis Raefield

... the whole company lost 185,000 in April. So, that is a significant move in the right direction but your ...

Andrew Shapiro

Right but is that cost cuts or - what are you doing - are revenues up, too?

Dennis Raefield

No, I would say revenues are not up. Revenues aren't up until March and April than January, February. They went down from November to December - October, November, December.

Andrew Shapiro

So, March and April, your revenues are up as well as your costs have been cut and the severances are burning off?

Dennis Raefield

Yes. I will tell that the revenues are enough to make me happy at all and - and I'm really at the tipping point to say, you know, is there a recovery, do we need to do more? The problem is trying to run it on a month-to-month basis and not letting any of the programs carry out. You know, we've been changing programs because I just don't think we have it right yet but, yes, March and April were significantly better than January and February but still not to where we were last September or so, you know, October when we started the recovery. I - it's just - it's disappointing.

Andrew Shapiro

OK, and what is the progress on licensing the Mace brand name. You talked about pursuit of a bulletproof vest, the padlock company, maybe other products. At the same time, you had also mentioned some of the areas you were looking at licensing; you didn't license because we were going to go - Mace will possibly go into those areas and in light of - we'll call it the pullback of some of your sale strategies, you can't do - you can't be all things to all people in this company. Your overhead - you know, you just can't afford it.

Dennis Raefield

Right.

Andrew Shapiro

So, what's the status on the licensing in terms of I guess irons in the fire or have they all been put out?

Dennis Raefield

No, they're not all put out but they're the same as they were at the 10-K column a month ago which was about six weeks ago. So, no, no significant investment in that. I think we've been certainly consumed with the - the Paolino award. Now, that's behind us and if there is any good news there, that overhang is settled, not in a - not in a way we want it but it has - it has now allowed us to refocus. We have been spending a lot of time and money and management energy on that even that's been handled mostly by our chairman of the board, Mr. Jack Mallon but it still affects the rest of our company because we always have to react and do things. So, no, I haven't done anymore work on branding since the last call.

Andrew Shapiro

Now, in your - your prepared remarks, Greg's remarks, it wasn't clear; just a clarification on the return rate; wasn't clear on the Linkstar thing. Where do you stand on the sizeable direct sales force that you had, that the company didn't have, you built in, you acknowledged that it wasn't working, has - and it does exist now, it's been scaled back or it's now then completely cut out or there's more cuts that can or could happen?

Dennis Raefield

No, we - some of the reasons we - you see that these we've gotten to closer to break even, is we did terminate that sales force. We have one long-time person who is successful, works out of a (forward) operation but there are no other sales people at this time other than the president of the division and one sales man. So, no, they're - they've already been cut and - and that those costs have been saved and the sales have, you know, seemed to be unchanged, positive or negative. They just kind of stagnating and that's why we have to come up with plan B but the efforts failed before and now we have to analyze why and make a change and try something different.

Andrew Shapiro

What is - when did their severance stop in your cost structure versus the quarter end or April or when does - when does that roll off?

Dennis Raefield

Well, that - I think Greg mentioned that the cost - we had a lot of severances in Q1 and we have a lot of people that were terminated; you know, they were in January but February and February but not March. So I think here that one of the reasons you're seeing that we got down to an under $200,000 EBITDA is that a lot of these cost savings are now starting to hit and - but they're - most of them are - I really - I think I've done - you know, I've got another reorganization plan but it is relatively major to do it and I want to see the May results and we will decide in May whether or not we continue the plan. It is - April was the best we've seen and, you know, we remember - you know, my board has directed me to get to cash flow neutral so that we're not bleeding down our resources and as we slowly rebuild and not to - not to - not to run out of cash and we're making sure that we don't.

Andrew Shapiro

Right. Now, you said that April was a - your smallest EBITDA loss, only 185,000 on the - on the security side there and you are looking at May and then ...

Dennis Raefield

No, that was on the whole company.

Andrew Shapiro

Oh, 185 was a whole company?

Dennis Raefield

Yes.

Andrew Shapiro

OK. So, but security then may have lost more because you got profitable in Linkstar again?

Dennis Raefield

No, no. We actually - no, we made money in security. I think you missed that.

Andrew Shapiro

Oh.

Dennis Raefield

The security segment was profitable for the first time I think. I don't want to say ever because I can't - I just can't get to the detail of ...

Andrew Shapiro

Right.

Dennis Raefield

... years ago but it was profitable.

Andrew Shapiro

So, assuming May comes in the same or further improved, you would then not roll out this major restructuring or only part of this restructuring but if May didn't improve and you roll up this restructuring, do you feel this restructuring would then end all be all put that, the division was going to be our core business at break even or better going forward. So, this is nothing that we're looking for as it has to take to year end to do. This is something that you're now a quarter or two or months away from?

Dennis Raefield

You read that right, Andrew.

Andrew Shapiro

OK. Well, I just want to hear it out of management. I don't want to ...

Dennis Raefield

You - I concur that is the plan. It is not - it is - I believe that, you know, it - we don't have the cushion. You know, our cushion was just set aside for the Paolino decision and I don't think we - even though I will rebuild that cushion with the sale of the rest of our assets, those are to grow the business, not to be consumed as cash and the board is - board and I are united that we do not want to continue to wait for cash flow neutrality and my and their goals are aligned completely that we will get to break even.

Andrew Shapiro

OK. So, now, that is break even but that's on the segment, OK?

Dennis Raefield

No.

Andrew Shapiro

Then you ...

Dennis Raefield

No, that's break even on the whole company.

Andrew Shapiro

OK. Including offsetting corporate overhead?

Dennis Raefield

You bet. The 185 in April included offsetting. We actually made profits in each unit and you know, as you know, our corporate overhead has been reducing - but with the number of $185,000 loss for April and I don't want to over sensitize that a month doesn't make a quarter, it's not reportable but it's - I'm trying to give you the trend - that's the whole corporation included. No one off, no notable items, just ...

Andrew Shapiro

So, that includes corporate overhead including your interest expense on your minimal debt?

Dennis Raefield

Well, EBITDA does not include interest.

Andrew Shapiro

OK, but its corporate overhead inside of that?

Dennis Raefield

You bet.

Andrew Shapiro

OK. So, you're getting closer to (NYSE:MS) before your massive May restructuring that's in the pocket if you have to use it kind of thing?

Dennis Raefield

Yes.

Andrew Shapiro

OK.

Dennis Raefield

You read it exactly right. I'm sorry to say if I wasn't clear on that.

Andrew Shapiro

No, in fact that was ...

Dennis Raefield

Thank you for clarifying. I have it - I have it in my pocket. I think it's a - you know, a part of it is the danger of doing all these restructurings is you know, is that just to shake up that you do. We have some good employees. So, they're tasked to make May be better than April and if they do that, we will continue to play the cards.

Andrew Shapiro

OK. Now, is your May plan one that you could employ or deploy part of it in order to make the company even more profitable but without being so disruptive?

Dennis Raefield

Certainly.

Andrew Shapiro

OK. Very good. I think I have no more questions.

Dennis Raefield

Oh, we have to give you a prize, Andrew, for your (inaudible).

Andrew Shapiro

Well, Dennis, you see that the issue is, if you can get to break even in profitability, you don't get as many questions from me.

Dennis Raefield

Is that sounds like a worthwhile goal in itself, Mr. Shapiro.

Andrew Shapiro

OK, thanks.

Dennis Raefield

OK. I appreciate your continued in-depth questioning and hopefully, we're straight up with you on the answers.

Andrew Shapiro

OK.

Dennis Raefield

OK. If - are there any other question? Anyone in queue, (Theresa) or can we end the call?

Operator

If you would like to ask a question, press star one at this time.

And there is no one else in queue.

Dennis Raefield

OK. Well, then I would like to thank everyone for coming today and attending and I feel that if - you'll be getting my shareholder proxy letter in the mail and I do feel that we are - while it looks like we for this quarter because of the set - the award set aside. I think you can see that we're moving very rapidly towards break even and I am working very hard to get May and June to be better than April and our team is tasked for that and I hope that that gave you some insight and as I say, it is - it is an internally reported number but it has been checked and verified.

So, thank you for joining us and we will talk to you next quarter. Bye-bye.

Operator

And that concludes today's conference call. You may now disconnect.

Don Taylor

Thank you.

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Source: Mace Security International 1Q 2010 Earnings Call Transcript
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