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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
| x | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
| For the fiscal year ended December 31, 2008 | ||
OR | ||
| o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
| For the transition period from to | ||
Commission file number001-15395
MARTHA STEWART LIVING OMNIMEDIA, INC.
(Exact Name of Registrant as Specified in Its Charter)
| Delaware | 52-2187059 | |
| (State or Other Jurisdiction of Incorporation or Organization) | (I.R.S. Employer Identification No.) | |
| 11 West 42nd Street, New York, New York (Address of Principal Executive Offices) | 10036 (Zip Code) |
Registrant’s telephone number, including area code:(212) 827-8000
Securities Registered Pursuant to Section 12(b) of the Act:
| Title of Each Class | Name of Each Exchange on Which Registered | |
| Class A Common Stock, Par Value $0.01 Per Share | New York Stock Exchange |
Securities Registered Pursuant to Section 12(g) of the Act:None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No x
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 of Section 15(d) of the Act. Yes o No x
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 o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 ofRegulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of thisForm 10-K or any amendment to thisForm 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule12b-2 of the Exchange Act. (Check one):
| Large accelerated filer o | Accelerated filer x | Non-accelerated filer o | Smaller reporting company o |
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined inRule 12b-2 of the Act). Yes o No x
The aggregate market value of the voting stock held by non-affiliates of the registrant, computed by reference to the number of shares outstanding and using the price at which the stock was last sold on June 30, 2008, was $184,832,242.*
*Excludes 2,888,163 shares of our Class A Common Stock, and 26,690,125 shares of our Class B Common Stock, held by directors, officers and our founder, as of June 30, 2008. Exclusion of shares held by any person should not be construed to indicate that such person possesses the power, direct or indirect, to direct or cause the direction of the management or policies of the Company, or that such person controls, is controlled by or under common control with the Company.
Number of Shares Outstanding As of March 10, 2009
28,148,482 shares of Class A Common Stock
26,690,125 shares of Class B Common Stock
Documents Incorporated by Reference.
Portions of Martha Stewart Living Omnimedia, Inc.’s Proxy Statement for
Its 2009 Annual Meeting of Stockholders are Incorporated
by Reference into Part III of This Report.
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In this Annual Report onForm 10-K, the terms “we,” “us,” “our,” “MSO” and the “Company” refer to Martha Stewart Living Omnimedia, Inc. and, unless the context requires otherwise, Martha Stewart Living Omnimedia LLC (“MSLO LLC”), the legal entity that, prior to October 22, 1999, operated many of the businesses we now operate, and their respective subsidiaries.
FORWARD-LOOKING STATEMENTS
All statements in this Annual Report onForm 10-K, except to the extent describing historical facts, are “forward-looking statements,” as that term is defined in the Private Securities Litigation Reform Act of 1995. These forward-looking statements represent our current beliefs regarding future events, many of which, by their nature, are inherently uncertain and outside of our control. These statements often can be identified by terminology such as “may,” “will,” “should,” “could,” “expects,” “intends,” “plans,” “anticipates,” “believes,” “estimates,” “potential” or “continue” or the negative of these terms or other comparable terminology. Our actual results may differ materially from those projected in these statements, and factors that could cause such differences include those factors discussed in “Risk Factors” in Item 1A of this Annual Report onForm 10-K and those discussed in the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7, as well as other factors. Forward-looking statements herein speak only as of the date of filing of this Annual Report onForm 10-K. We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise. You are advised, however, to consult any further disclosures we make on related subjects in our reports to the Securities and Exchange Commission.
PART I
Item 1. Business.
OVERVIEW
We are an integrated media and merchandising company providing consumers with inspiring lifestyle content and well-designed, high-quality products. Our Company is organized into four business segments with Publishing, Internet and Broadcasting representing our media segments that are complemented by our Merchandising segment, a combination that enables us to cross-promote our content and products.
Our growth strategy is three-pronged:
| • | Increase advertising on our media platforms, including publishing, broadcasting and online, through cross-platform, omnimedia initiatives; | |
| • | Leverage our brands through merchandising relationships; and | |
| • | Create, launchand/or acquire new brands |
The media and merchandise we create generally encompasses eight core areas:
| • | Cooking and Entertaining (recipes, techniques, and indoor and outdoor entertaining) | |
| • | Holidays (celebrating special days and special occasions) | |
| • | Crafts (how-to projects) | |
| • | Home (decorating, collecting and renovating) | |
| • | Whole Living (healthy living and sustainable practices) | |
| • | Weddings (all aspects of planning, celebrating and commemorating a wedding) | |
| • | Organizing (homekeeping, petkeeping, clotheskeeping, restoring and other types of domestic maintenance) | |
| • | Gardening (planting, landscape design and outdoor living) |
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As of March 5, 2009, we had approximately 645 employees. Our revenues from foreign sources were $13.4 million, $12.3 million and $15.6 million in 2008, 2007 and 2006, respectively. Substantially all of our assets are located within the United States.
HISTORY
Martha Stewart published her first book,Entertaining, in 1982. Over the next eight years she became a well-known authority on the domestic arts, authoring eight more books on a variety of our core content areas. In 1991, Time Publishing Ventures, Inc. (“TPV”), a subsidiary of Time Inc., launchedMartha Stewart Livingmagazine with Ms. Stewart serving as itseditor-in-chief. In 1993, TPV began producing a weekly television program,Living, hosted by Ms. Stewart. In 1995, TPV launched a mail-order catalog,Martha by Mail, which made available products featured in, or developed in connection with, the magazine and television program. In late 1996 and early 1997, a series of transactions occurred resulting in MSLO LLC acquiring substantially all Martha Stewart-related businesses. Ms. Stewart was the majority owner of MSLO LLC; TPV retained a small equity interest in the business. On October 22, 1999, MSLO LLC merged into MSO, then a wholly owned subsidiary of MSLO LLC. Immediately following the merger, we consummated an initial public offering.
BUSINESS SEGMENTS
Our four business segments are described below. Additional financial information relating to these segments may be found in Note 15 to our Consolidated Financial Statements.
PUBLISHING
In 2008, our Publishing segment accounted for 58% of our total revenues, consisting of operations related to magazine and book publishing. Revenues from magazine advertising and circulation represented approximately 58% and 38%, respectively, of the segment’s revenues in 2008.
Magazines
Martha Stewart Living. Our flagship magazine,Martha Stewart Living, is the foundation of our publishing business. Launched in 1991 as a quarterly publication with a circulation of 250,000, we currently publishMartha Stewart Livingon a monthly basis with a rate base of 2.025 million, effective with the January 2009 issue. The magazine appeals primarily to the college-educated woman between the ages of 25 and 54 who owns her principal residence.Martha Stewart Livingoffers lifestyle ideas and original how-to information in a highly visual, upscale editorial environment. The magazine has won numerous prestigious industry awards and generates a substantial majority of our magazine revenues, primarily from advertising.
Martha Stewart Weddings. We launchedMartha Stewart Weddingsin 1994, originally as an annual publication. In 1997, it went to semi-annual publication and became a quarterly in 1999.Martha Stewart Weddingstargets the upscale bride and serves as an important vehicle for introducing young women to our brands.Martha Stewart Weddingsis distributed primarily through newsstands.
Everyday Food. We launchedEveryday Foodin September 2003 after publishing four test issues. This digest-sized magazine featuring quick, easy recipes was created for the supermarket shopper and the everyday cook.Everyday Foodtargets women ages 25 to 49, and is intended to broaden our consumer audience while developing a new brand and diversifying our revenue.
Body + Soul. In August 2004, we acquired certain assets and liabilities ofBody + Soulmagazine andDr. Andrew Weil’s Self Healingnewsletter (“Body & Soul Group”), which are publications featuring “natural living” content. The magazine generates both advertising and circulation revenue,
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while the newsletter generates substantially all of its revenue from subscriptions. Body & Soul Group also sells a limited line of merchandise related to “natural living,” which we record as publishing revenue attributed toBody + Soul. In 2008, we increased the frequency ofBody + Soulto 10 issues from 8 issues in 2007.
Blueprint: Design Your Life.In 2006, we began testing a new magazine calledBlueprint: Design Your Life. Geared to womenages 25-39,Blueprint targeted a different demographic than our core consumer, while maintaining our distinctive “how-to” approach, covering home, fashion, and beauty. After two test issues in 2006 and six in 2007, we decided to discontinue publishing the title after the January/February 2008 issue.
Magazine Summary
Certain information related to our subscription magazines is as follows:
| 2007 | 2007 Rate | 2008 | 2008 Rate | 2009 Rate | ||||||||||
| Title | Frequency | Base * | Frequency | Base * | Base * | |||||||||
Martha Stewart Living | 12 | 1,950,000 | 12 | 2,000,000 | 2,025,000 | |||||||||
Martha Stewart Weddings | 5 | ** | N/A *** | 5 | ** | N/A *** | N/A *** | |||||||
Everyday Food | 10 | 875,000 | 10 | 900,000 | 1,000,000 | |||||||||
Body + Soul | 8 | 450,000 | 10 | 550,000 | 600,000 | |||||||||
| * | Rate base increases are effective with the January issues which typically are on sale in December of the prior fiscal year. | |
| ** | Includes one special issue ofMartha Stewart Weddings | |
| *** | Does not have a stated rate base. |
Special Interest Publications. In addition to our periodic magazines, we occasionally publish special interest magazine editions. We began with one in 1998 and published eight in 2008. Our special interest publications provide in-depth advice and ideas around a particular topic in one of our core content areas, allowing us to leverage our distribution network to generate additional revenues. Our special interest publications are generally sponsored by multiple advertisers and are sold at newsstands. In 2008, we publishedGood Things for Kids, Outdoor Living, Good Things for the Healthy Home, Handmade Holiday Crafts, Holiday Entertainingand threeBody + Soulspecials.
Magazine Production, Distribution and Fulfillment. We print most of our domestic magazines under agreements with R. R. Donnelly and currently purchase paper through an agreement with Time Inc. While paper used in our magazines is widely available, volatility in the paper market resulted in decreased paper manufacturing capacity during 2008 and early 2009. During the first quarter of 2009, we realized the first decreases in paper prices in 18 months because of decreasing market demand. We expect paper market pricing to stabilize in 2009 after two years of steady increases. We also expect to see a mid-year 2009 increase in postage expense. Increased fuel costs in 2008 impacted our costs for magazine distribution and ink. We use no other significant raw materials in our businesses. Newsstand distribution of the magazines is handled by Time Warner Retail Sales and Marketing (“TWRSM”), an affiliate of Time Inc., under an agreement that expires with the December 2010 issue ofMartha Stewart Living. In early 2009, two of the four major logistics providers (“wholesalers”) used for newsstand distribution announced price increases. TWRSM ceased distribution with one of these wholesalers and was subsequently able to reach an agreement with the other to retain its current pricing structure. Although we expect pricing for newsstand distribution to be stable in 2009, there remains some risk that the other wholesalers may seek price increases. Subscription fulfillment services for our magazines are provided by Time Customer Service, another affiliate of Time Inc., under an agreement that expires in June 2014.
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Books
In the second quarter of 2007, we announced a multi-year agreement with Clarkson Potter/Publishers to publish 10 Martha Stewart branded books. Amendments signed in December 2007, August 2008 and January 2009 ultimately increased the number of books to be delivered to 15. In 2008, two of the books published under this agreement— Martha Stewart’s Cookies and Martha Stewart’s Cooking School— were each onThe New York Timesbestseller list for several weeks. Through our efforts in the books business, we now have a library of over 60 books.
In August 2008, we announced a multi-year agreement with HarperStudio to publish 10 Emeril Lagasse branded books. We expect the first book,Emeril at the Grill, to be available in bookstores in the first half of 2009. Additionally, we hold the rights to Emeril’s book backlist which is published by HarperCollins Publishers.
Competition
Publishing is a highly competitive business. Our magazines, books and related publishing products compete with other mass media and many other types of leisure-time activities. Competition for advertising dollars in magazine operations is primarily based on advertising rates, as well as editorial and aesthetic quality, the desirability of the magazine’s demographic, reader response to advertisers’ products and services and the effectiveness of the advertising sales staff.Martha Stewart Livingcompetes for readers and advertising dollars with women’s service, decorating, cooking and lifestyle magazines and websites.Everyday Foodcompetes for readers and advertising dollars with women’s service and cooking magazines and websites.Martha Stewart Weddingscompetes for readers and advertising dollars primarily in the wedding service magazine category and websites.Body + Soulcompetes for readers and advertising dollars primarily with women’s lifestyle, health, fitness, and natural living magazines and websites. Our special interest publications can compete with a variety of magazines depending on the focus of the particular issue. Please also look to our risk factors in Item 1A for further information on competitive pressures we face in our Publishing segment.
Seasonality
Our Publishing segment can experience fluctuations in quarterly performance due principally to publication schedule variations from year to year, timing of direct mail expenses, delivery schedule of our long-term book contracts, and other seasonal factors. Not all of our magazines are published on a regularly scheduled basis throughout the year. For example,Martha Stewart Weddingswas published five times in 2008: three issues in the second quarter and two issues in the fourth quarter. Additionally, the publication schedule for our special interest publications can vary and lead to quarterly fluctuations in the Publishing segment’s results.
MERCHANDISING
Our Merchandising segment contributed 20% of our total revenues in 2008. The segment consists of operations relating to the design of merchandise and related packaging, promotional and advertising materials, and the licensing of various proprietary trademarks, in connection with retail programs conducted through a number of retailers and manufacturers. Pursuant to agreements with our retail and manufacturing partners, we are typically responsible for the design of all merchandiseand/or related packaging, signage, advertising and promotional materials. Our retail partners source the products through a manufacturer base and are mostly responsible for the promotion of the product. Our licensing partners sourceand/or produce the branded products together with other lines they make or sell. Our licensing agreements require us to maintain no inventory and incur no meaningful expenses other than employee compensation.
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Select Licensed Retail Partnerships
Martha Stewart Everyday at Kmart and Sears Canada
Martha Stewart Everydayis our mass-market brand. Currently, the label is associated with products that generally fall into the following categories: Home (which includes sheets, towels, pillows, bath accessories, window treatments and kitchen textiles); Garden (which includes outdoor furniture and accessories); Kitchen (which includes cookware, bakeware, utensils, dinnerware, flatware, and beverageware); Keeping (which includes organizational products relating to the pantry, closet and laundry); Decorating (which includes mirrors, picture frames, candles, and lamps); Ready-to-Assemble furniture (living, dining, bath and bedroom furniture); and Holiday (which includes artificial Christmas trees, decorating products, wrapping and ornaments).
In the United States we have an exclusive license agreement with Kmart Corporation in the mass-market channel. In 2008, Kmart represented approximately 43% of total revenues in our Merchandising segment and approximately 10% of total Company revenues. Kmart’s contribution to both total Merchandising revenue and total Company revenues decreased materially from 2007 to 2008 mostly as the result of a decrease in the annual minimum royalties due from Kmart and the continued diversification of our business. (See “Management’s Discussion and Analysis — Executive Summary” for details regarding our contract with Kmart). In Canada, we had an exclusive license agreement with Sears Canada forMartha Stewart Everydayfrom September 2003 to August 2008.
We own theMartha Stewart Everydaytrademark and generally retain all intellectual property rights related to the designs of merchandise, packaging, signage and collateral materials developed for the various programs.
Martha Stewart Collection at Macy’s
In September 2007, we launched theMartha Stewart Collectionexclusively at Macy’s. TheMartha Stewart Collectionline encompasses a broad range of home goods, including bed and bath textiles, housewares, casual dinnerware, flatware and glassware, cookware, holiday decorating andtrim-a-tree items. We own theMartha Stewart Collectiontrademark and generally retain all intellectual property rights related to the designs of the merchandise, packaging, signage and collateral materials developed for the various programs.
Martha Stewart Flowers with 1-800-Flowers
In 2007, we announced our partnership with 1-800-Flowers.com to create an exclusive, new, co-branded floral, plant and gift-basket program. This licensing agreement provides an opportunity to participate in thesame-day delivery of the flowers market. The co-branded floral and plant program launched in April 2008 and the co-branded gift baskets program launched in October 2008.
Martha Stewart at Costco
In December 2007, we introduced co-branded food with Costco’s private label brand, Kirkland Signature as part of a two-year relationship with Costco, which is currently winding down. We plan to expand our food brand through manufacturing relationships in the future.
Digital Photography Products
The financial results from the sales of digital photography products were reported in the Internet segment through December 31, 2007. In 2008, the digital photography product business was managed by and reported in the Merchandising segment as a licensed retail partnership.
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Select Licensed Martha Stewart Manufacturing Partnerships
Martha Stewart Crafts
In May 2007, we launchedMartha Stewart Craftsproducts at over 900 Michael’s stores, and in August 2007, pursuant to our licensing relationship with EK Success, LTD (“EK Success”) and GTCR Golder Rauner, LLC, began distributing product to certain independent craft stores across the United States. In August 2007, we invested $10.2 million, including acquisition costs, in United Craft MS Brands, LLC (“United Craft”), an entity primarily funded by GTCR Golder Rauner that acquired Wilton Products, Inc. which owns Wilton Industries, Inc., Dimensions Holding, LLC and EK Success. The investment gives us a 3.8% ownership interest in United Craft. We also have a subordinated equity interest of 7.25% in United Craft, the market value of which is contingent on reaching specific performance hurdles. In addition to our existing licensing relationship with EK Success, we also entered into a new licensing agreement with Wilton Industries. Through this arrangement, we will broaden our footprint in the crafts market by introducing licensed products in the following categories: food crafts; party favors; and weddings.
Martha Stewart Furniture with Bernhardt
We have had a Martha Stewart furniture program with the Bernhardt Furniture Company since 2003 and renewed that relationship at the end of 2007. Currently, merchandise produced under this relationship includes furniture for the living room, bedroom, and dining room, that is sold at furniture and department stores nationwide, including certain Macy’s stores.
KB Home /Martha Stewart Homes
In October 2005, we entered into an agreement with KB Home, Inc. to design and style all interior and exterior components for 655 new homes in Cary, North Carolina. In February 2006, we announced an expanded agreement with KB, pursuant to which we are collaborating with KB on new home communities throughout the United States. As part of the expanded agreement, we also offer a range of design options, featured exclusively in KB Studios nationwide. In December 2007, we amended the terms of our relationship in the initial contract, accepting a one-time payment in exchange for certain promotional obligations.
Select Licensed Emeril Lagasse Manufacturing Partnerships
We acquired certain licensing agreements in connection with our April 2008 acquisition of specific Emeril Lagasse assets. These licensing agreements are primarily associated with partnerships with various food and kitchen preparation manufacturers that produce products under the Emeril Lagasse brand.
Emerilware by All-Clad
Launched in August 2000,Emerilwareby All-Clad consists of lines of high quality, gourmet cookware and barbeque tools available at department stores and specialty retail outlets across the United States as well as through the Home Shopping Network.
Emerilware by T-Fal
Launched in November 2006,Emerilwareby T-FAL is a line of small kitchen appliances available at department stores and specialty retail outlets across the United States, as well as through the Home Shopping Network.
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Emeril’s Original with B&G Foods
In September 2000, Emeril Lagasse introduced with B&G Foods,Emeril’s Original, a signature line of seasonings, salad dressings, basting sauces and marinades, mustards, salsas, pasta sauces, pepper sauces, spice rubs, cooking sprays and stocks is available at supermarkets and specialty markets across the United States, as well as through the Home Shopping Network.
Competition
The retail business is highly competitive and the principal competition for all of our merchandising lines consists of competitors in the mass-market and department stores in which our Merchandising segment products are sold, including Wal-Mart, Target, Kohl’s, JCPenney, Bed Bath & Beyond, Home Depot, BJ’s and Sam’s Club as well as other products in the respective product categories. Competitive factors include numbers and locations of stores, brand awareness and price. We also compete with the Internet businesses of these stores and other websites that sell similar retail goods. Competition in our flower business includes other online sellers as well as traditional floral retailers. Please also look to our risk factors in Item 1A for further information on competitive pressures we face in our Merchandising segment.
Seasonality
Revenues from the Merchandising segment can vary significantly from quarter to quarter due to new product launches and the seasonality of many product lines. In addition, we historically recognize a substantial portion of the revenue resulting from the difference between the minimum royalty amount under the Kmart contract and royalties paid on actual sales in the fourth quarter of each year, when the amount can be determined.
INTERNET
In 2008, revenues from the Internet segment accounted for 5% of our total revenues. Our Internet segment was historically comprised of three businesses: online advertising sales atmarthastewart.com, product sales ofMartha Stewart Flowers, and digital photography product sales. In 2008, the sale of flowers and digital photography products transitioned to our Merchandising segment for management and reporting purposes. Flowers revenue accounted for 7% and 35% of segment revenues in 2008 and 2007, respectively. Revenue from digital photography products accounted for 4% of segment revenues in 2007 and was fully transitioned to the Merchandising segment in 2008.
In August 2004, we chose to discontinueMartha By Mailand its online product offerings, which historically had been included in the Internet segment. The last catalog was mailed in the fourth quarter of 2004, with all remaining inventory disposed of in early 2005.
marthastewart.com
Themarthastewart.comwebsite offers recipes and how-to content, integrated across the Martha Stewart brands in the following categories: food, entertaining, holidays, home and garden, crafts, weddings, pets and whole living. In 2007, we relaunched the site with a new, more user-friendly platform. The site relaunch and subsequent releases included the development of advanced search, community tools, and the creation of photo galleries and Martha Stewart’s blog. Advertising is the primary source of revenue for our site.
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Martha Stewart Flowers
Originally launched in 1999 asmarthasflowers.com, the websitemarthastewartflowers.comcontinued to operate under the business model of providing fresh floral products shipped directly from farms to consumers. This business model enabled customers to ship floral gifts overnight, delivering Martha Stewart-inspired designs with superior freshness. In 2007, we chose to partner with 1-800-Flowers to create an exclusive co-branded floral, plant and gift-basket program beginning in 2008. This new, higher-margin licensing agreement provides an opportunity to participate in thesame-day delivery of the fresh flowers market.Martha Stewart Flowers, under this agreement, is managed by and reported in the Merchandising segment as of the second quarter of 2008 as a licensed retail partnership.
WeddingWire
In the first quarter of 2008, we entered into a series of transactions with WeddingWire, a localized wedding platform that combines an online marketplace with planning tools and a social community. In exchange for a cash payment from the Company of $5.0 million, we acquired approximately 43% of the equity in WeddingWire. We also entered into a commercial agreement related to software and content licensing, and media sales. The addition of WeddingWire’s planning tool set to our site expands our wedding’s franchise and further builds our interactive community by adapting WeddingWire’s technology for other digital content areas.
pingg
In the fourth quarter of 2008, we entered into an agreement with pingg, an online invitation and event management site. In exchange for a cash payment of $2.2 million, we acquired approximately 21% of the equity in pingg. We also entered into a commercial agreement related to software, design licensing and media sales. Some of the most popular searches onmarthastewart.comrelate to entertaining, including baby and bridal showers, birthday parties and graduation parties. Visitors to the pingg site can conveniently create online invitations for their events by incorporating the beautiful imagery and photography for which the Martha Stewart brand is known.
Competition
The online advertising sales business is highly competitive. Our website,marthastewart.com,competes with other how-to, food and lifestyle websites. Our challenge is to attract and retain users through an easy-to-use and content-relevant website. Competition for advertising rates is based on the number of unique users we attract each month, the demographic profile of that audience and the number of pages they view on our site. Please also look to our risk factors in Item 1A for further information on competitive pressures we face in our Internet segment.
Seasonality
Revenues from our Internet segment can vary significantly from quarter to quarter. Advertising revenue onmarthastewart.comis tied to traffic among other key factors and is typically highest in the fourth quarter of the year due to higher consumer demand in our holiday content areas, and corresponding higher advertiser demand to reach our audience demographic with their marketing messages.
BROADCASTING
Our Broadcasting business segment accounted for 17% of our total revenues in 2008. The segment consists of operations relating to the production of television programming, the domestic and international distribution of our library of programming in existing and repurposed formats, revenue
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derived from the provision of talent services, and the operations of our satellite radio channel. We generally own the copyrights in the programs we produce for television and radio distribution.
In September 2005, we launchedThe Martha Stewart Show— a syndicated daily lifestyle series hosted by Martha Stewart — which generates the majority of the Broadcasting segment’s revenue. Filmed in front of a studio audience, the show consists of several segments, each featuring inspiring ideas and new projects from one or several of our core content areas. NBC Universal Domestic Television Distribution distributes the program domestically. In 2008, we announced that a fifth season ofThe Martha Stewart Showis expected to begin in September 2009. Because seasons run twelve months beginning and ending in the middle of September, the 2008 results include a large portion of season 3 and the first 16 weeks of season 4, which is currently airing in syndication. The Broadcasting segment previously produced theLivingshow, which ceased airing in September 2004. Revenues forThe Martha Stewart Showcurrently are mostly comprised of advertising, licensing and product placement.
In 2007, we announced several agreements with Scripps-owned networks including the primetime rebroadcast ofThe Martha Stewart Showon the Fine Living channel on aone-day delay from the initial syndicated broadcast. We also have a series,Martha Stewart Crafts, currently airing daily on the DIY channel, which is a “best of” compilation from the formerLivingshow, featuring how-to crafting segments.
We began to offer, in October 2007, access to segments from our library of programming through an advertising-supported, freevideo-on-demand service.Martha Stewart On Demandis currently available to Comcast and Cox digital cable customers. We provide a total of 7.5 hours of content which is updated monthly with 50% refreshed content.
In 2008, the “Whatever Girls,” a popular duo on theMartha Stewart Living Radiochannel on SIRIUS Satellite Radio, debuted a new show calledWhatever Martha!The program airs on the Fine Living cable channel and includes original commentary on classic clips ofLiving.
Everyday Food, ahalf-hour original series inspired by the magazine of the same name, airs weekly on PBS stations nationwide. Unlike revenues forThe Martha Stewart Show,revenues for theEveryday Foodseries are provided by underwriters. In 2008, we added a spin-off companion show,Everyday Baking from Everyday Food, which also aired weekly on PBS stations and is currently still airing as repeats in 2009.
During 2008 we entered into an agreement with Discovery Talent Services LLC pursuant to which Emeril Lagasse provides talent services for the television series Emeril Greenairing daily on Discovery’s Planet Green network. Additionally, we acquired certain television agreements in connection with our April 2008 acquisition of specific Emeril Lagasse assets and entered into additional agreements related thereto. Pursuant to these agreements, we receive talent fees for Emeril Lagasse’s services provided for the Television Food Network (“TVFN”) series Essence of Emeriland license fees for the exploitation of the series Emeril Live, as well as fees for ongoing consulting services to TVFN.
In November 2005, we launched theMartha Stewart Living Radiochannel on SIRIUS Satellite Radio. Our channel provides programming 24 hours a day, seven days a week. Under the terms of the four-year agreement, we receive a fixed revenue stream earned evenly over the life of the contract, with the potential for additional amounts based on certain subscriber and advertising based targets.
Competition
Broadcasting is a highly competitive business. Our television programs compete directly for viewers, distributionand/or advertising dollars with other lifestyle and how-to television programs, as
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well as with general programming on other television stations and all other competing forms of media. Overall competitive factors in this segment include programming content, quality and distribution as well as the demographic appeal of the programming. As in our other media, competition for television and radio advertising dollars is based primarily on advertising rates, audience size and demographic composition, viewer response to advertisers’ products and services and effectiveness of the advertising sales staff. While the revenue from our radio business is contractually guaranteed, we compete for listeners with similarly themed programming on both satellite and terrestrial radio. Please also look to our risk factors in Item 1A for further information on competitive pressures we face in our Broadcasting segment.
INTELLECTUAL PROPERTY
We use multiple trademarks to distinguish our brands, includingMartha Stewart Living,Martha Stewart Everyday,Martha Stewart Collection,Everyday Food,Martha Stewart Weddings,marthastewart.com, Martha Stewart Flowers, Body + Soul, wholeliving.com,Emeril’sandBam!These and numerous other trademarks are the subject of registrations and pending applications filed by us for use with a variety of products and other content, both domestically and internationally, and we continue to expand our worldwide usage and registration of related trademarks. We file copyrights regarding our proprietary designs and editorial content on a regular basis. We regard our rights in and to our trademarks and materials as valuable assets in the marketing of our products and vigorously seek to protect them against infringement and denigration by third parties. We own and license the rights to many of these marks pursuant to an agreement between us and Ms. Stewart, the description of which is incorporated by reference into Item 13 of this Annual Report onForm 10-K.
AVAILABLE INFORMATION
Our website can be found on the Internet atwww.marthastewart.com. We have adopted a code of ethics applicable to our directors, officers (including our principal executive officer, principal financial and accounting officer and controller and persons performing similar functions) and employees, known as the Code of Business Conduct and Ethics. The Code of Business Conduct and Ethics is available on our websitewww.marthastewart.com.Our proxy statements, Annual Reports onForm 10-K, Quarterly Reports onForm 10-Q and Current Reports onForm 8-K and any amendments to these documents, as well as certain of our other filings with the Securities and Exchange Commission (the “SEC”), can be viewed and downloaded free of charge as soon as reasonably practicable after they have been filed with the SEC by accessingmarthastewart.comand clicking on Investor Relations and SEC Filings. Please note that information on, or that can be accessed through, our website is not deemed “filed” with the SEC and is not to be incorporated by reference into any of our filings under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended.
Item 1A. Risk Factors
A wide range of factors could materially affect our performance. Like other companies, we are susceptible to macroeconomic downturns that may affect the general economic climate and our performance, the performance of those with whom we do business, and the appetite of consumers for products and publications. Similarly, the price of our stock is impacted by general equity market conditions, the relative attractiveness of our market sector, differences in results of operations from estimates and projections, and other factors beyond our control. In addition to the factors affecting specific business operations identified in connection with the description of these operations and the financial results of these operations elsewhere in this report, the following factors, among others, could adversely affect our operations:
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Our success depends in part on the popularity of our brands and the reputation and popularity of Martha Stewart, our founder, and Emeril Lagasse. Any adverse reactions to publicity relating to Ms. Stewart or Mr. Lagasse, or the loss of either of their services, could adversely affect our revenues, results of operations and our ability to maintain or generate a consumer base.
While we believe there has been significant consumer acceptance for our products as stand-alone brands, the image, reputation, popularity and talent of Martha Stewart and Emeril Lagasse remain important factors.
Ms. Stewart’s efforts, personality and leadership have been, and continue to be, critical to our success. While we have managed our business without her daily participation at times in the past, the repeated diminution or loss of her services due to disability, death or some other cause, or any repeated or sustained shifts in public or industry perceptions of her, could have a material adverse effect on our business.
In addition, we recently acquired the assets relating Emeril Lagasse’s businesses other than his restaurants and foundation. The value of these assets is largely related to the ongoing popularity and participation of Mr. Lagasse in the activities related to exploiting these assets. The continued value of these assets would be materially adversely affected if Mr. Lagasse were to lose popularity with the public or be unable to participate in our business, forcing us potentially to write-down a significant amount of the value we paid for these assets.
The crisis in the financial markets and sustained weakening of the economy could significantly impact our business, financial condition, results of operations and cash flows, and could adversely affect the value of our intellectual property assets, hamper our ability to refinance our existing debt or raise additional funds.
The economy has been experiencing extreme disruption recently, including extreme volatility and declines in securities prices, severely diminished liquidity and a drastic reduction in credit availability. These events have lead to increased unemployment, declines in consumer confidence, discretionary income and spending, and extraordinary and unprecedented uncertainty and instability for many companies, across all industries. This economic downturn is adversely affecting consumer spending and could severely impact many of the companies with whom we do business. We cannot predict the health and viability of the companies with which we do business and upon which we depend for royalty revenues, advertising dollars and credit.
These economic conditions and market instability also make it increasingly difficult for us to forecast consumer and product demand trends and companies’ willingness to spend money to advertise in our media properties. An extended period of reduced cash flows could increase our need for credit, at a time when such credit may not be available due to the recent developments in the financial markets. A reduction in cash flows also could also cause us to be in violation of certain debt covenants. We are not able to predict the likely duration and severity of the current disruption in the financial markets and the economic recession. If these economic conditions continue to worsen or persist for an extended period of time, it is likely that our results of operations and cash flows will be negatively impacted leading to deterioration in our financial condition.
In addition, we have significant goodwill and intangible assets recorded on our balance sheet. We have already incurred an impairment charge with respect to goodwill and certain intangible assets. We will continue to evaluate the recoverability of the carrying amount of our goodwill and intangible assets on an ongoing basis, and we may in the future incur additional, and possibly substantial, impairment charges, which would adversely affect our financial results. Impairment assessment inherently involves the exercise of judgment in determining assumptions about expected future cash flows and the impact of market conditions on those assumptions. Future events and changing market conditions may prove
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assumptions to be wrong with respect to prices, costs, holding periods or other factors. Although we believe the assumptions we have used in testing for impairment are reasonable, significant changes in any one or our assumptions could produce a significantly different result. Differing results may amplify impairment charges in the future.
These effects of the current financial crisis are difficult to forecast and mitigate. As a consequence, our operating results will be difficult to predict and prior results will not likely be indicative of results to be expected in future periods. Any of the foregoing effects could have a material adverse effect on our business, results of operations, and financial condition and could adversely affect our stock price.
Our Merchandising business and licensing programs may continue to suffer from downturns in the health and stability of the general economy and housing market, and their adverse impact on our consumers and business relationships.
Reduction in the availability of credit, a continued downturn in the housing market, and other negative economic developments, including increased unemployment and negative performance in the stock market in general, have occurred and may continue or become more pronounced in the future. Each of these developments has and could further limit consumers’ discretionary spending or further affect their confidence. These and other adverse consumer trends have lead to reduced spending on general merchandise, homes and home improvement projects — categories in which we license our brands. Further, downturns in consumer spending adversely impact consumer sales overall, resulting in weaker revenues from our licensed products. These trends also may affect the viability and financial health of companies with which we conduct business. Continued slowdown in consumer spending, or going-concern problems for companies with which we do business could materially adversely impact our business, financial condition and prospects.
Our business is largely dependent on advertising revenues in our publications, online operations and broadcasts. The market for advertising has been adversely affected by the economic downturn. Our failure to attract or retain advertisers would have a material adverse effect on our business.
We depend on advertising revenue in our Publishing, Internet and Broadcasting businesses. We cannot control how much or where companies choose to advertise. We have seen a significant downturn in advertising dollars generally in the marketplace, and more competition for the reduced dollars, which has hurt our publications. As a result, fewer advertisers represent a greater proportion of our advertising revenue. We cannot assure how or whether this trend might correct. If advertisers continue to spend less money, or if they advertise elsewhere in lieu of our publications, broadcasts or website, our business and revenues will be materially adversely affected.
We face significant competition for advertising and consumer demand.
We face significant competition from a number of print and website publishers, some of which have greater financial and other resources than we have, which may enhance their ability to compete in the markets we serve. As advertising dollars have diminished, the competition for advertising dollars has intensified. Competition for advertising revenue in publications is primarily based on advertising rates, the nature and scope of readership, reader response to the promotions for advertisers’ products and services and the effectiveness of sales teams. Other competitive factors in publishing include product positioning, editorial quality, circulation, price and customer service, which impact readership audience, circulation revenues and, ultimately, advertising revenues. Because some forms of media have relatively low barriers to entry, we anticipate that additional competitors, some of which have greater resources than we do, may enter these markets and intensify competition.
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Acquiring or developing additional brands or businesses, and integrating acquired assets, poses inherent financial and other risks and challenges.
Last year, we acquired certain assets of Chef Emeril Lagasse. Failure to manage or integrate those assets, or exploit the Emeril brand, could adversely affect our results of operations and our ability to acquire other brands.
The process of consolidating and integrating acquired operations and assets takes a significant period of time, places a significant strain on resources and could prove to be more expensive and time consuming than we predicted. We may increase expenditures to accelerate the integration process with the goal of achieving longer-term cost savings and improved profitability. We also may be required to manage multiple relationships with third parties as we expand our product offerings and brand portfolio. These developments may increase expenses as we hire additional personnel to manage our growth. These investments require significant time commitments from our senior management and place a strain on their ability to manage our existing businesses.
Part of our strategic plan is to acquire other businesses. These transactions involve challenges and risks in negotiation, execution, valuation, and integration. Moreover, competition for certain types of acquisitions is significant, particularly in the field of interactive media. Even if successfully negotiated, closed, and integrated, certain acquisitions may not advance our business strategy and may fall short of expected return on investment targets.
Our Merchandising business has relied heavily on revenue from a single source, the loss of revenue from which has hurt and may continue to hurt our profitability.
For the twelve months ended January 31, 2009, the minimum guaranteed royalty payment from Kmart was $20.0 million, significantly less that the $65.0 million we received for the twelve months ended January 31, 2008. This drop in guarantees from Kmart is permanent, and our agreement with Kmart continues only through January 2010. We have not yet earned royalties from other sources in sufficient scope to recoup the loss in guaranteed payments from Kmart. While we continue to diversify our merchandise offerings in an effort to build up alternative royalty streams, we may not be able to earn, from sources other than Kmart, revenue in excess of the reduction of guarantees from our Kmart contract. This shortfall has adversely affected our operating results and business.
We are expanding our merchandising and licensing programs into new areas and products, the failure of any of which could diminish the perceived value of our brand, impair our ability to grow and adversely affect our prospects.
Our growth depends to a significant degree upon our ability to develop new or expand existing retail merchandising programs. We have entered into several new merchandising and licensing agreements in the past few years and have acquired new agreements through our acquisition of the Emeril Lagasse assets. Some of these agreements are exclusive and have a duration of many years. While we require that our licensees maintain the quality of our respective brands through specific contractual provisions, we cannot be certain that our licensees, or their manufacturers and distributors, will honor their contractual obligations or that they will not take other actions that will diminish the value of our brands. Furthermore, we cannot be certain that our licensees are not adversely impacted by general economic or market conditions, including decreased consumer spending and reduced availability of credit. If these companies experience financial hardship, they may be unwilling or unable to pay us royalties or continue selling our product, regardless of their contractual obligations.
There is also a risk that our extension into new business areas will meet with disapproval from consumers. We have limited experience in merchandising in some of these business areas. We cannot guarantee that these programs will be fully implemented, or if implemented, that they will be successful.
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If the licensing or merchandising programs do not succeed, we may be prohibited from seeking different channels for our products due to the exclusive nature and multi-year terms of these agreements. Disputes with new or existing licensees may arise which could hinder our ability to grow or expand our product lines. Disputes also could prevent or delay our ability to collect the licensing revenue that we expect in connection with these products. If such developments occur or our merchandising programs are otherwise not successful, the value and recognition of our brands, as well as our business, financial condition and prospects, could be materially adversely affected.
IfThe Martha Stewart Showfails to maintain a sufficient audience, if adverse trends continue or develop in the television production business generally, or if Martha Stewart were to cease to be able to devote substantial time to our television business, that business would be adversely affected. We also anticipate deriving value from Mr. Lagasse’s television shows, the popularity of which cannot be assured.
Our television production business is subject to a number of uncertainties. Our business and financial condition could be materially adversely affected by:
Failure of our television programming to maintain a sufficient audience
Television production is a speculative business because revenues derived from television depend primarily upon the continued acceptance of that programming by the public, which is difficult to predict. Public acceptance of particular programming depends upon, among other things, the quality of that programming, the strength of stations on which that programming is broadcast, promotion of that programming, the quality and acceptance of competing television programming and other sources of entertainment and information.The Martha Stewart Showtelevision program has experienced a decline in ratings that reflects both the general decline in daytime broadcast television viewers discussed below, as well as the decision by some major market stations to shift the airing of the show. These developments have negatively impacted our television advertising revenues. If ratings for the show were to further decline, it would adversely affect the advertising revenues we derive from television and may result in the show being broadcast on fewer stations. A ratings decline further than we anticipate could also make it economically inefficient to continue production of the show in the dailyone-hour format or otherwise. If production of the show were to cease, we would lose a significant marketing platform for us and our products, as well as cause us to write down our capitalized programming costs. The amount of any writedown would vary depending on a number of factors, including when production ceased and the extent to which we continued to generate revenues from the use of our existing program library.
We do not produce the television shows featuring Emeril Lagasse. Nonetheless, Emeril’s failure to maintain or build popularity would result in the loss of a significant marketing platform for us and our products, as well as the loss of anticipated revenue and profits from his television shows.
Adverse trends in the television business generally
Television revenues may also be affected by a number of other factors, most of which are not within our control. These factors include a general decline in daytime broadcast television viewers, pricing pressure in the television advertising industry, strength of the stations on which our programming is broadcast, general economic conditions, increases in production costs, availability of other forms of entertainment and leisure time activities and other factors. Any or all of these factors may quickly change, and these changes cannot be predicted with certainty. There has been a reduction in advertising dollars generally available and more competition for the reduced dollars across more media platforms. While we currently benefit from our ability to sell advertising on our television programs, if adverse changes occur, we cannot be certain that we will continue to be able to sell this
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advertising or that our advertising rates can be maintained. Accordingly, if any of these adverse changes were to occur, the revenues we generate from television programming could decline.
We have placed emphasis on building an advertising-revenue-based website, dependent on high levels of consumer traffic and resulting page views. Failure to fulfill these undertakings would adversely affect our brand and business prospects.
Our growth depends to a significant degree upon the continued development and growth of our Internet business. We have had failures with direct commerce in the past, and only limited experience in building an advertising-revenue-based website. When initial results from the relaunch of themarthastewart.comsite in the second quarter of 2007 were below expectations, we made changes to the site. We cannot be certain that those changes will enable us to sustain growth for our website in the long term. In addition, the competition for advertising dollars has intensified as the availability of advertising dollars has diminished. In order for our Internet business to succeed, we must, among other things:
| • | significantly increase our online traffic and advertising revenue; | |
| • | attract and retain a base of frequent visitors to our website; | |
| • | expand the content, products and tools we offer over our website; | |
| • | respond to competitive developments while maintaining a distinct brand identity; | |
| • | attract and retain talent for critical positions; | |
| • | maintain and form relationships with strategic partners to attract more consumers; | |
| • | continue to develop and upgrade our technologies; and | |
| • | bring new product features to market in a timely manner. |
We cannot be certain that we will be successful in achieving these and other necessary objectives or that our Internet business will be profitable. If we are not successful in achieving these objectives, our business, financial condition and prospects could be materially adversely affected.
If we are unable to predict, respond to and influence trends in what the public finds appealing, our business will be adversely affected.
Our continued success depends on our ability to provide creative, useful and attractive ideas, information, concepts, programming, content and products, which strongly appeal to a large number of consumers. In order to accomplish this, we must be able to respond quickly and effectively to changes in consumer tastes for ideas, information, concepts, programming, content and products. The strength of our brands and our business units depends in part on our ability to influence tastes through broadcasting, publishing, merchandising and the Internet. We cannot be sure that our new ideas and content will have the appeal and garner the acceptance that they have in the past, or that we will be able to respond quickly to changes in the tastes of homemakers and other consumers. In addition, we cannot be sure that our existing ideas and content will continue to appeal to the public.
New product launches may reduce our earnings or generate losses.
Our future success will depend in part on our ability to continue offering new products and services that successfully gain market acceptance by addressing the needs of our current and future customers. Our efforts to introduce new products or integrate acquired products may not be successful or profitable. The process of internally researching and developing, launching, gaining acceptance and establishing profitability for a new product, or assimilating and marketing an acquired product, is both risky and costly. New products generally incur initial operating losses. Costs related to the development
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of new products and services are generally expensed as incurred and, accordingly, our profitability from year to year may be adversely affected by the number and timing of new product launches. For example, we had a cumulative loss of $15.7 million in connection withBlueprint, which we ceased publishing. Other businesses and brands that we may develop also may prove not to be successful.
Our principal Publishing vendors are consolidating and this may adversely affect our business and operations.
We rely on certain principal vendors in our Publishing business, and their ability or willingness to sell goods and services to us at favorable prices and other terms. Many factors outside our control may harm these relationships and the ability and willingness of these vendors to sell these goods and services to us on such terms. Our principal vendors include paper suppliers, printers, subscription fulfillment houses and national newsstand wholesalers, distributors and retailers. Each of these industries in recent years has experienced consolidation among its principal participants. Further consolidation may result in all or any of the following, which could adversely affect our results of operations:
| • | decreased competition, which may lead to increased prices; | |
| • | interruptions and delays in services provided by such vendors; and | |
| • | greater dependence on certain vendors. |
We may be adversely affected by fluctuations in paper and postage costs.
In our Publishing business, our principal raw material is paper. Paper prices have fluctuated over the past several years. We generally purchase paper from major paper suppliers who adjust the price periodically. We have not entered, and do not currently plan to enter, into long-term forward price or option contracts for paper. Accordingly, significant increases in paper prices could adversely affect our future results of operations.
Postage for magazine distribution is also one of our significant expenses. We primarily use the U.S. Postal Service to distribute magazine subscriptions. In recent years, postage rates have increased, and a significant increase in postage prices could adversely affect our future results of operations. We may not be able to recover, in whole or in part, paper or postage cost increases.
We may face increased costs for distribution of our magazines to newsstands and bookstores.
Distribution of magazines to newsstands and bookstores is conducted primarily through companies, known as wholesalers. Wholesalers have in the past advised us that they intended to increase the price of their services. We have not experienced any material increase to date, however some wholesalers have experienced credit and on-going concern risks. It is possible that other wholesalers likewise may seek to increase the price of their services or face business interruption. An increase in the price of our wholesalers’ services could have a material adverse effect on our results of operations. The need to change wholesalers could cause a disruption or delay in deliveries, which could adversely impact our results of operations.
We may be adversely affected by a continued weakening of newsstand sales.
The magazine industry has seen a weakening of newsstand sales during the past few years. A continuation of this decline could adversely affect our financial condition and results of operations by reducing our circulation revenue and causing us to either incur higher circulation expense to maintain our rate bases, or to reduce our rate bases which could negatively impact our revenue.
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Our websites and networks may be vulnerable to unauthorized persons accessing our systems, which could disrupt our operations and result in the theft of our and our users’ proprietary or personal information.
Our Internet activities involve the storage and transmission of proprietary information and personal information of our users. We endeavor to protect our proprietary information and personal information of our users from third party access. However, it is possible that unauthorized persons may be able to circumvent our protections and misappropriate proprietary or personal information or cause interruptions or malfunctions in our Internet operations. We may be required to expend significant capital and other resources to protect against or remedy any such security breaches. Accordingly, security breaches could expose us to a risk of loss, or litigation and possible liability. Our security measures and contractual provisions attempting to limit our liability in these areas may not be successful or enforceable.
Martha Stewart controls our company through her stock ownership, enabling her to elect who sits on our board of directors, and potentially to block matters requiring stockholder approval, including any potential changes of control.
Ms. Stewart controls all of our outstanding shares of Class B common stock, representing over 90% of our voting power. The Class B common stock has ten votes per share, while Class A common stock, which is the stock available to the public, has one vote per share. Because of this dual-class structure, Ms. Stewart has a disproportionately influential vote. As a result, Ms. Stewart has the ability to control unilaterally the outcome of all matters requiring stockholder approval, including the election and removal of our entire board of directors and any merger, consolidation or sale of all or substantially all of our assets, and the ability to control our management and affairs. While her 2006 settlement with the SEC bars Ms. Stewart for the five-year period ending in August 2011 from serving at the Company as a director, or as an officer with financial responsibilities, her concentrated control could, among other things, discourage others from initiating any potential merger, takeover or other change of control transaction that may otherwise be beneficial to our businesses and stockholders.
Our intellectual property may be infringed upon or others may accuse us of infringing on their intellectual property, either of which could adversely affect our business and result in costly litigation.
Our business is highly dependent upon our creativity and resulting intellectual property. We are also susceptible to others imitating our products and infringing our intellectual property rights. We may not be able to successfully protect our intellectual property rights, upon which we depend. In addition, the laws of many foreign countries do not protect intellectual property rights to the same extent as do the laws of the United States. Imitation of our products or infringement of our intellectual property rights could diminish the value of our brands or otherwise adversely affect our revenues. If we are alleged to have infringed the intellectual property rights of another party, any resulting litigation could be costly, affecting our finances and our reputation. Litigation also diverts the time and resources of management, regardless of the merits of the claim. There can be no assurance that we would prevail in any litigation relating to our intellectual property. If we were to lose such a case, and be required to cease the sale of certain products or the use of certain technology or were forced to pay monetary damages, the results could adversely affect our financial condition and our results of operations.
A loss of the services of other key personnel could have a material adverse effect on our business.
Our continued success depends to a large degree upon our ability to attract and retain key management executives, as well as upon a number of key members of our creative staff. The loss of some of our senior executives or key members of our creative staff, or an inability to attract or retain other key individuals, could materially adversely affect us.
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We operate in four highly competitive businesses: Publishing, Merchandising, Internet and Broadcasting each of which subjects us to competitive pressures and other uncertainties.
We face intense competitive pressures and uncertainties in each of our four businesses: Publishing, Merchandising, Internet and Broadcasting. Please see “Business — Publishing — Competition,” “Business — Merchandising — Competition,” “Business — Internet — Competition” and “Business — Broadcasting — Competition” in this Annual Report oForm 10-K for a description of competitive risks and uncertainties in the applicable segment.
Item 1B. Unresolved Staff Comments.
None.
Item 2. Properties.
Information concerning the location, use and approximate square footage of our principal facilities as of December 31, 2008, all of which are leased, is set forth below:
| Approximate Area | ||||||
| Location | Use | in Square Feet | ||||
| 601 West 26th Street New York, NY | Product design facilities, photography studio, Merchandising and Internet offices, test kitchens, and prop storage | 206,614 | ||||
| 11 West 42nd Street New York, NY | Principal executive and administrative offices; publishing offices; and sales offices | 92,649 | ||||
| 226 West 26th Street New York, NY | Executive and administrative office for television production | 22,050 | ||||
| 221 West 26th Street New York, NY | Television production facilities | 25,800 | ||||
| 42 Pleasant Street Watertown, MA | Publishing office for Body & Soul Group | 7,860 | ||||
| Satellite Sales Offices in MI, IL & CA | Advertising sales offices | 8,359 | ||||
The leases for these offices and facilities expire between January 2010 and January 2018, and some of these leases are subject to our renewal. We anticipate consolidating certain of our offices by relocating our principal executive and administrative offices as well as our publishing offices at 11 West 42nd Street to 601 West 26th Street in 2009. To that end, we entered into a sublease agreement in 2008 for a portion of our office space at 11 West 42nd Street and we expect to vacate that portion during 2009.
We also have an intangible asset agreement for various properties owned by Martha Stewart for our editorial, creative and product development processes. These living laboratories allow us to experiment with new designs and new products, such as garden layouts, help generate ideas for new content available to all of our media outlets and serve as locations for photo spreads and television segments. The description of this intangible asset agreement is incorporated by reference into Item 13 and disclosed in the related party transaction disclosure in Note 11 in Notes to Consolidated Financial Statements of this Annual Report onForm 10-K.
We believe that our existing facilities are well maintained and in good operating condition.
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Item 3. Legal Proceedings
In April 2008, a complaint was filed against the Company and 23 other defendants in the United States District Court for the Eastern District of Texas, captionedDatatern, Inc. v. Bank of America Corp. et al.(No. 5-08CV-70). The complaint alleges that each defendant is directly or indirectly infringing a United States patent (No. 5,937,402) putatively owned by plaintiff, through alleged use on websites of object oriented source code to employ objects that are populated from a relational database, and seeks injunctive relief and money damages. We recently executed a settlement agreement for an immaterial amount and expect the court to dismiss the action against us in the very near future.
The Company is party to other legal proceedings in the ordinary course of business, including product liability claims for which we are indemnified by our licensees. None of these proceedings is deemed material.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of our security holders during the fourth quarter of our fiscal year ended December 31, 2008.
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
Market for the Common Stock
Our Class A Common Stock is listed and traded on The New York Stock Exchange. Our Class B Common Stock is not listed or traded on any exchange, but is convertible into Class A Common Stock at the option of its owner on a share-for-share basis. The following table sets forth the high and low sales price of our Class A Common Stock as reported by the NYSE for each of the periods listed.
| Q1 | Q2 | Q3 | Q4 | Q1 | Q2 | Q3 | Q4 | |||||||||||||||||||||||||||||
| 2007 | 2007 | 2007 | 2007 | 2008 | 2008 | 2008 | 2008 | |||||||||||||||||||||||||||||
| High Sales Price | $ | 22.50 | $ | 19.50 | $ | 17.27 | $ | 13.96 | $ | 9.43 | $ | 9.49 | $ | 9.99 | $ | 8.70 | ||||||||||||||||||||
| Low Sales Price | $ | 16.70 | $ | 16.65 | $ | 10.80 | $ | 8.75 | $ | 5.22 | $ | 7.13 | $ | 5.63 | $ | 2.51 | ||||||||||||||||||||
As of March 9, 2009, there were 8,473 record holders of our Class A Common Stock and one record holder of our Class B Common Stock. We believe that there is a significantly greater number of beneficial owners of our Class A Common Stock than the number of record holders since many shares are held by nominees.
Dividends
We do not pay regular quarterly dividends. However, in late July 2006, our Board of Directors declared a one-time special dividend of $0.50 per share on all the shares of Class A Common Stock and Class B Common Stock outstanding on August 31, 2006, an aggregate amount of $26.9 million.
Our $30 million loan agreement with Bank of America contains certain covenants that limit our ability to pay dividends to an amount (combined with repurchases) no greater than $30 million during the term of the loan agreement, provided no event of default exists or would result and we would be in pro forma compliance with our financial covenants. See Note 8 in the Notes to the Consolidated Financial Statements in this Annual Report onForm 10-K.
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Recent Sales of Unregistered Securities and Use of Proceeds
None.
Issuer Purchases of Equity Securities
The following table provides information about our purchases of our Class A Common Stock during each month of the quarter ended December 31, 2008:
| Maximum Number (or | ||||||||||||||||||||
| Total Number of | Approximate Dollar | |||||||||||||||||||
| Shares (or Units) | Value) of Shares (or | |||||||||||||||||||
| Total Number of | Purchased as Part of | Units) that May Yet Be | ||||||||||||||||||
| Shares (or Units) | Average Price Paid | Publicly Announced | Purchased under the | |||||||||||||||||
| Period(1) | Purchased | per Share (or Unit) | Plans or Programs | Plans or Programs | ||||||||||||||||
| October 2008 | 1,806 | $ | 6.04 | Not applicable | Not applicable | |||||||||||||||
| November 2008 | 3,665 | $ | 3.63 | Not applicable | Not applicable | |||||||||||||||
| December 2008 | 9,421 | $ | 3.02 | Not applicable | Not applicable | |||||||||||||||
| Total for the quarter ended December 31, 2008 | 14,892 | $ | 3.99 | |||||||||||||||||
| (1) | Represents shares withheld by, or delivered to us pursuant to provisions in agreements with recipients of restricted stock granted under our stock incentive plans allowing us to withhold, or the recipient to deliver to us, the number of shares having the fair value equal to tax withholding due. |
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Notwithstanding anything to the contrary set forth in any of our filings under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, that might incorporate Securities and Exchange Commission filings, in whole or in part, the following performance graph shall not be deemed to be incorporated by reference into any such filings.
PERFORMANCE GRAPH
The following graph compares the performance of our Class A Common Stock with that of the Standard & Poor’s 500 Stock Index (“S&P Composite Index”) and the stocks included in the Media General Financial Services database under the Standard Industry Code 2721 (Publishing-Periodicals) (the “Publishing Index”*) during the period commencing on December 31, 2003 and ending on December 31, 2008. The graph assumes that $100 was invested in each of our Class A Common Stock, the S&P Composite Index and the Publishing Index at the beginning of the relevant period, is calculated as of the end of each calendar month and assumes reinvestment of dividends. The performance shown in the graph represents past performance and should not be considered an indication of future performance.
COMPARE CUMULATIVE TOTAL RETURN
AMONG MARTHA STEWART LIVING OMNIMEDIA, INC.,
S&P COMPOSITE INDEX AND SIC CODE INDEX
* The Publishing Index consists of companies that are primarily publishers of periodicals, although many also conduct other businesses, including owning and operating television stations and cable networks, and is weighted according to market capitalization of the companies in the index. The hypothetical investment assumes investment in a portfolio of equity securities that mirror the composition of the Publishing Index.
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Item 6. Selected Financial Data.
SELECTED FINANCIAL DATA
Years ended December 31,
(in thousands except per share data)
| 2008 | 2007 | 2006 | 2005 | 2004 | ||||||||||||||||
| INCOME STATEMENT DATA | ||||||||||||||||||||
| REVENUES | ||||||||||||||||||||
| Publishing | $ | 163,540 | $ | 183,727 | $ | 156,559 | $ | 125,765 | $ | 95,960 | ||||||||||
| Merchandising | 57,866 | 84,711 | 69,504 | 58,819 | 53,386 | |||||||||||||||
| Internet | 15,576 | 19,189 | 15,775 | 11,258 | 27,512 | |||||||||||||||
| Broadcasting | 47,328 | 40,263 | 46,503 | 16,591 | 10,580 | |||||||||||||||
| Total revenues | 284,310 | 327,890 | 288,341 | 212,433 | 187,438 | |||||||||||||||
| Operating income (loss) | (10,857) | 7,714 | (2,833) | (78,311) | (60,004) | |||||||||||||||
| Income (loss) from continuing operations | (10,857) | 10,289 | (16,250) | (75,295) | (59,073) | |||||||||||||||
| �� | ||||||||||||||||||||
| Loss from discontinued operations | - | - | (745) | (494) | (526) | |||||||||||||||
| Net income (loss) | $ | (15,665) | $ | 10,289 | $ | (16,995) | $ | (75,789) | $ | (59,599) | ||||||||||
| PER SHARE DATA | ||||||||||||||||||||
| Earnings/(loss) per share: | ||||||||||||||||||||
| Basic and diluted – Income (loss) from continuing operations | $ | (0.29) | $ | 0.20 | $ | (0.32) | $ | (1.48) | $ | (1.19) | ||||||||||
| Basic and diluted – Loss from discontinued operations | - | - | (0.01) | (0.01) | (0.01) | |||||||||||||||
| Basic and diluted – Net income (loss) | $ | (0.29) | $ | 0.20 | $ | (0.33) | $ | (1.49) | $ | (1.20) | ||||||||||
| Weighted average common shares outstanding: | ||||||||||||||||||||
| Basic | 53,360 | 52,449 | 51,312 | 50,991 | 49,712 | |||||||||||||||
| Diluted | 53,360 | 52,696 | 51,312 | 50,991 | 49,712 | |||||||||||||||
| Dividends per common share | $ | - | $ | - | $ | 0.50 | $ | - | $ | - | ||||||||||
| FINANCIAL POSITION | ||||||||||||||||||||
| Cash and cash equivalents | $ | 50,204 | $ | 30,536 | $ | 28,528 | $ | 20,249 | $ | 104,647 | ||||||||||
| Short-term investments | 9,915 | 26,745 | 35,321 | 83,788 | 35,309 | |||||||||||||||
| Total assets | 261,285 | 255,267 | 228,047 | 253,828 | 264,678 | |||||||||||||||
| Long-term obligations | 19,500 | - | - | - | - | |||||||||||||||
| Shareholders’ equity | 150,995 | 155,529 | 130,957 | 160,631 | 187,628 | |||||||||||||||
| OTHER FINANCIAL DATA | ||||||||||||||||||||
| Cash flow provided by (used in) operating activities | $ | 41,570 | $ | 11,735 | $ | (5,711) | $ | (30,349) | $ | (22,226) | ||||||||||
| Cash flow provided by (used in) investing activities | (38,856) | (6,606) | 40,125 | (58,300) | (39,756) | |||||||||||||||
| Cash flow provided by (used in) financing activities | 16,954 | (3,121) | (26,135) | 4,251 | 1,063 | |||||||||||||||
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NOTES TO SELECTED FINANCIAL DATA
Earnings from continuing operations
2008results include a $34.1 million reduction in the contractual minimum guarantee from Kmart in the Merchandising segment, as well as a $9.3 million non-cash goodwill impairment charge recorded in the Publishing segment.
2007results include non-cash equity compensation expense of $6.0 million due to the vesting of the final warrant granted to Mark Burnett in connection with the production ofThe Martha Stewart Show.
2006results include a one-time newsstand expense reduction adjustment of $3.2 million related to the settlement of certain newsstand-related fees recorded in our Publishing segment, a favorable dispute resolution with a former merchandising licensee of $2.5 million in income, royalty income of $2.8 million related to the successful termination of a home video distribution agreement recorded in our Broadcasting segment, non-cash equity compensation expense of $2.3 million resulting from the vesting of shares covered by a warrant granted to Mark Burnett in connection with his participation inThe Martha Stewart Showand a one-time litigation reserve of $17.1 million in connection with theIn re Martha Stewart Living Omnimedia Securities Litigation matter, which included incurred and anticipated professional fees, net of insurance reimbursement.
2005results include non-cash equity compensation charges of $31.8 million resulting from the vesting of shares covered by a warrant granted to Mark Burnett in connection with his participation inThe Martha Stewart Show.
2004results include royalty revenue of $1.6 million related to the dissolution of a merchandising licensing agreement. The results also include a non-cash equity compensation charge of $3.9 million resulting from the modification of the terms of certain previously granted employee stock options related to the retirement of our previous Chief Executive Officer.
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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
EXECUTIVE SUMMARY
We are an integrated media and merchandising company providing consumers with inspiring lifestyle content and well-designed, high-quality products. Our Company is organized into four business segments with Publishing, Internet and Broadcasting representing our media segments that are complemented by our Merchandising segment. In 2008, total revenues decreased approximately 13% due primarily to the reduction of our contractual minimum guarantee from Kmart. Also impacting 2008 were lower advertising and circulation revenues in the Publishing segment as well as prior year revenues fromBlueprint, a publication that we discontinued at the end of 2007. These declines were partially offset by revenues from the Emeril Lagasse assets acquired in 2008 which contributed to both the Broadcasting and Merchandising segments and from the addition of new Merchandising initiatives in 2008.
Our operating costs and expenses were lower in 2008 primarily from savings in our Publishing segment which had lower selling and promotion expenses as well as lower production, distribution and editorial costs. Partially offsetting the Publishing and other Company-wide cost savings was a non-cash impairment charge in the fourth quarter of 2008 related primarily to the goodwill associated with our 2004 acquisition of theBody + Soulpublication group. This charge was the result of our annual impairment testing in connection with the preparation of this Annual Report onForm 10-K. Also offsetting 2008 cost savings was a charge to the Corporate segment in the third quarter of 2008 related to severance and other one-time costs. Excluding severance charges in 2008, compensation costs were lower across all segments due to the reduction of our annual bonus pool and lower headcount.
We ended the year with approximately $60 million in cash, cash equivalents and short-term investments. Our overall liquidity increased approximately $3 million from December 31, 2007. The increase to our liquidity was due to the satisfaction of our 2007 year-end receivable due from Kmart and the net proceeds of our term loan with Bank of America. Partially offsetting the increase to cash was the cash payment related to the Emeril Lagasse acquisition as well as the payment of 2007 bonuses and our investments in WeddingWire and pingg.
Media.
In 2008, revenues from our media platforms declined approximately 7% largely due to decreased advertising revenues in our Publishing segment as the result of fewer ad pages and the absence ofBlueprint. The declines in Publishing were partially offset by the contributions of the Emeril Lagasse assets to our Broadcasting segment and advertising gains in the Internet segment. Based on our current outlook, we expect to experience continued declines in Publishing segment advertising revenues for the first quarter of 2009.
Publishing. Publishing is our largest business segment, accounting for 58% of our total revenues in 2008. The segment consists of operations related to magazines and books. Publishing is driven primarily by magazines, includingMartha Stewart Living,Martha Stewart Weddings,Everyday Food, andBody + Soul; these are supplemented by special interest publications.
Publishing derives its revenues primarily from advertising, which accounted for 58% of 2008 Publishing segment revenues; magazine subscription and newsstand sales, along with royalties from our book business account for most of the balance of segment revenue. In 2008, advertising revenues declined due to a decrease in pages, partially offset by higher rates per page driven in part by a higher circulation rate base. Total revenues also declined due to the elimination ofBlueprintand lower circulation revenue from decreased subscription revenue per copy and continued newsstand softness. The decline in revenues was partially offset by cost savings from the closure ofBlueprint, as well as
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decreases in circulation, marketing, advertising, production and editorial expenses. The Publishing segment results also include the fourth quarter 2008 non-cash impairment charge related toBody + Soul. As we entered the first quarter of 2009, print advertising revenue is expected to be approximately 30% lower than in the first quarter of 2008.
Internet. Our Internet segment was historically comprised of three businesses: online advertising sales atmarthastewart.com, product sales ofMartha Stewart Flowers, and digital photography product sales. In 2008, the sale of flowers and digital products transitioned to our Merchandising segment for management and reporting purposes. Flowers revenue accounted for 7% and 35% of segment revenues in 2008 and 2007, respectively. Revenue from digital photography products accounted for 4% of segment revenues in 2007 and was fully transitioned to the Merchandising segment in 2008.
In 2008, revenues from the Internet segment accounted for 5% of our total revenues. Online advertising has become the biggest driver of revenues for the segment, accounting for 11% of total advertising revenues in 2008. We continued to experience growth throughout the year from our online audience with our page views increasing, on average, about 40% from the prior year and advertising revenue increasing 23% for the year. Expenses related tomarthastewart.comare driven primarily by staffing and technology costs.
Broadcasting. The Broadcasting segment contributed 17% of our total revenues in 2008. The segment consists primarily of operations related to the production of television and satellite radio programming, as well as television revenues from Chef Emeril Lagasse’s programs. Television programming is comprised of a daily syndicated broadcast show,The Martha Stewart Show, andEveryday Food, which airs on PBS. In 2008, we addedEveryday Baking from Everyday Food, also airing on PBS. Satellite radio programming encompasses theMartha Stewart Living Radio channel on SIRIUS Satellite Radio. The Broadcasting segment now also includes a new original series on Planet Green featuring Emeril Lagasse, as well as theEssence of Emerilon the Food Network and the rebroadcast ofEmeril Live!on the Fine Living Network. The Emeril shows derive high-margin revenues from both talent and licensing fees with primarily compensation costs associated with those revenues.
Broadcasting is driven primarily byThe Martha Stewart Show. Revenues from the show comprised 63% of segment revenues in 2008 and were generated primarily from advertising. For the current season ofThe Martha Stewart Show(season 4), nearly all advertising is sold-out. Ongoing efforts to distribute season 5 ofThe Martha Stewart Showhave resulted in a national clearance of approximately 75% to date. In past seasons (seasons 1 and 2), revenues included licensing fees. Additional revenues are derived from product placement along with revenues from cable replay (seasons 1 and 3 only) and international distribution. While the daily show operates at a loss, it currently serves as a key promotional platform for us to launch new merchandising initiatives and market our magazines, providing powerful brand exposure that increases demand for our content and products while minimizing our advertising expenditures.
Revenues fromEveryday FoodandEveryday Bakingare provided by underwriters. Programming developed from the library generates revenues primarily from licensing agreements with cable networks.
Merchandising.
Through our Merchandising segment, we license our trademarks and designs for a variety of products sold at multiple price points through a variety of distribution channels. In 2008, Merchandising represented 20% of our total revenues. It is a high-margin business comprised of licensing agreements that require us to maintain no inventory and to incur no meaningful expenses other than employee compensation.
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While Kmart represented about 43% of the segment revenues in 2008, we expect to continue to generate revenues from a more diverse mix of business partners. This diversification effort included our initiatives with Macy’s for our line ofMartha Stewart Collectionproducts; EK Success for a line of broadly-distributed crafts products, including the expansion of our crafts line into Wal-Mart; 1-800-Flowers.com for a co-branded floral, plant and gift basket program; and KB Home for MarthaStewart-inspired homes and neighborhoods in communities throughout the country. Additional licensing agreements currently in place relate to paint (Lowe’s), furniture (Bernhardt), rugs (Safavieh), lighting (Generation Brands) and carpet tiles (FLOR), among others.
In 2008, the Merchandising segment benefited from the acquisition of certain assets of Emeril Lagasse’s business, as well as new business initiatives signed during the year with Crest and Turbo Chef, and our agreement with Macy’s for ourMartha Stewart Collectionproducts, our partnership with1-800-Flowers.com for our flowers program and the expansion of our crafts line with EK Success into Wal-Mart.
However, these initiatives and contributions were more than offset by the decrease in our Kmart minimum guarantees leading to lower total Merchandising revenues and decreased operating income in 2008 as compared to 2007. Our multi-year agreement with Kmart includes royalty payments based on sales, as well as minimum guarantees. The minimum guarantees have exceeded actual royalties earned from retail sales from 2003 through 2008 primarily due to store closings and historic lower same-store sales trends. For the contract years ending January 31, 2009 and 2010, the minimum guarantees will be substantially lower than prior years. The following are the minimum guaranteed royalty payments (in millions) over the term of the agreement for the respective years ending on the indicated dates:
| 1/31/02 | 1/31/03 | 1/31/04 | 1/31/05 | 1/31/06 | 1/31/07 | 1/31/08 | 1/31/09 | 1/31/10 | |||||||||||||||||||
| Minimum Royalty Amounts | $15.3 | $40.4 | $47.5 | $49.0 | $54.0 | $59.0 | $65.0 | $20.0 | $15.0* | ||||||||||||||||||
* For the contract year ending January 31, 2010 the minimum royalty amount is the greater of $15 million or 50% of the earned royalty for the year ending January 31, 2009.
For the contract year ended January 31, 2009, our earned royalty based on actual retail sales at Kmart was $17.9 million. Furthermore, $10.0 million of royalties previously paid have been deferred and were subject to recoupment in the period ending January 31, 2009. No royalties were recouped in 2008 for the contract year ended January 31, 2009. The $10.0 million of deferred royalties remain subject to recoupment for the period ending January 31, 2010.
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RESULTS OF OPERATIONS
Comparison for the Year Ended December 31, 2008 to the Year Ended December 31, 2007.
PUBLISHING SEGMENT
| (in thousands) | 2008 | 2007 | Variance | |||||||||
Publishing Segment Revenues | ||||||||||||
| Advertising | $ | 94,871 | $ | 106,691 | $ | (11,820) | ||||||
| Circulation | 62,634 | 71,707 | (9,073) | |||||||||
| Books | 4,676 | 3,373 | 1,303 | |||||||||
| Other | 1,359 | 1,956 | (597) | |||||||||
Total Publishing Segment Revenues | 163,540 | 183,727 | (20,187) | |||||||||
Publishing Segment Operating Costs and Expenses | ||||||||||||
| Production, distribution and editorial | 86,018 | 93,312 | 7,294 | |||||||||
| Selling and promotion | 55,419 | 72,655 | 17,236 | |||||||||
| General and administrative | 5,951 | 5,034 | (917) | |||||||||
| Depreciation and amortization | 379 | 1,188 | 809 | |||||||||
| Impairment on assets | 9,349 | — | (9,349) | |||||||||
Total Publishing Segment Operating Costs and Expenses | 157,116 | 172,189 | 15,073 | |||||||||
Publishing Segment Operating Income | $ | 6,424 | $ | 11,538 | $ | (5,114) | ||||||
Publishing revenues decreased 11% for the year ended December 31, 2008 from the prior year. Advertising revenue decreased $11.8 million due to the decrease in pages inMartha Stewart Living,Everyday FoodandMartha Stewart Weddings, as well as the inclusion in 2007 of revenue fromBlueprint, a publication that we discontinued at the end of 2007. The decrease in advertising pages was partially offset by slightly higher advertising rates across all titles, as well as two extra issues ofBody + Soul. Circulation revenue decreased $9.1 million due to lower newsstand unit volume, lower subscription rate per copy and higher agency commissions in 2008 forMartha Stewart LivingandEveryday Food. Circulation revenue was negatively impacted by the 2007 contribution ofBlueprint. These decreases were partially offset by higher volume of subscription sales forMartha Stewart Living,Body + SoulandEveryday Foodas well as the positive impact of the frequency increase inBody + Soul. Revenue related to our books business increased $1.3 million primarily due to the timing of delivery and acceptance of manuscripts related to our multi-book agreement with Clarkson Potter/Publishers. Other revenue decreased due to lower ancillary sales of products related toBody + Soul.
| Magazine Publication Schedule | ||||||||
| Year ended December 31, | 2008 | 2007 | ||||||
Martha Stewart Living | 12 Issues | 12 Issues | ||||||
Martha Stewart Weddings(a) | 5 Issues | 5 Issues | ||||||
Everyday Food | 10 Issues | 10 Issues | ||||||
Body + Soul(b) | 10 Issues | 8 Issues | ||||||
Special Interest Publications | 8 Issues | 9 Issues | ||||||
Blueprint(c) | N/A | 6 Issues | ||||||
| (a) | In 2008 and 2007, we published one specialMartha Stewart Weddingsissue. | |
| (b) | Frequency switched to 10 issues a year in 2008 | |
| (c) | Launched in May 2006 and discontinued after the January/February 2008 issue which was accounted for in the year ended December 31, 2007. |
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Production, distribution and editorial expenses decreased $7.3 million in 2008, primarily due to savings related to the discontinuation ofBlueprintas well as lower volume of pages and lower art and editorial staff costs, partially offset by higher print order ofBody + Souland higher paper and postage costs. Selling and promotion expenses decreased $17.2 million due to the absence of costs ofBlueprint, lower circulation marketing costs, lower fulfillment rates associated withMartha Stewart LivingandEveryday Foodand lower advertising staff and marketing program costs. Prior year selling and promotion expenses also included non-recurring employee-related separation charges. General and administrative expenses increased $0.8 million primarily due to higher allocation of facilities and administrative costs as well as slightly higher compensation costs. In the fourth quarter of 2008, we recorded a non-cash impairment charge related primarily to the goodwill associated with our 2004 acquisition of theBody + Soulpublication group. This charge was the result of our annual impairment testing in connection with the preparation of this Annual Report on Form 10-K. Depreciation and amortization expenses decreased due to a change in allocation policy.
MERCHANDISING SEGMENT
| (in thousands) | 2008 | 2007 | Variance | |||||||||
Merchandising Segment Revenues | ||||||||||||
| Kmart earned royalty | $ | 18,772 | $ | 25,190 | (6,418) | |||||||
Kmart minimum guaranteetrue-up | 4,978 | 39,102 | (34,124) | |||||||||
| Other | 34,116 | 20,419 | 13,697 | |||||||||
Total Merchandising Segment Revenues | 57,866 | 84,711 | (26,845) | |||||||||
Merchandising Segment Operating Costs and Expenses | ||||||||||||
| Production, distribution and editorial | 10,409 | 13,418 | 3,009 | |||||||||
| Selling and promotion | 6,529 | 6,475 | (54) | |||||||||
| General and administrative | 7,980 | 7,214 | (766) | |||||||||
| Depreciation and amortization | 90 | 375 | 285 | |||||||||
Total Merchandising Segment Operating Costs and Expenses | 25,008 | 27,482 | 2,474 | |||||||||
Merchandising Segment Operating Income | $ | 32,858 | $ | 57,229 | $ | (24,371) | ||||||
Merchandising revenues decreased 32% for the year ended December 31, 2008 from the prior year. The decrease in segment revenues was due primarily to the reduction of our contractual minimum guarantee from Kmart. Actual retail sales of our products at Kmart declined 25% on a comparable store and total store basis. The pro-rata portion of revenues related to the contractual minimum amounts covering the specified periods, net of amounts subject to recoupment, is listed separately above. Other revenues increased primarily due to contributions from Emeril Lagasse’s brand and our annualized agreement with Macy’s for ourMartha Stewart Collectionproducts. The increase in other revenues was also due to our partnership with 1-800-Flowers.com for our newly-launched flowers program and from the expansion of our crafts line with EK Success into Wal-Mart. The increases from these new initiatives were partially offset by the inclusion in 2007 of revenues from an endorsement and promotional agreement with U.S. affiliates of SVP Worldwide, makers ofSinger,Husqvarna VikingandPfaffsewing machines, with no comparable revenue in 2008.
Production, distribution and editorial expenses decreased $3.0 million primarily due to lower compensation costs. General and administrative costs increased $0.8 million reflecting the additional Merchandising segment expenses of our Emeril Lagasse brand, as well as higher allocated facilities costs.
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INTERNET SEGMENT
| (in thousands) | 2008 | 2007 | Variance | |||||||||
Internet Segment Revenues | ||||||||||||
| Advertising and other | $ | 14,472 | $ | 11,779 | $ | 2,693 | ||||||
| Product | 1,104 | 7,410 | (6,306) | |||||||||
Total Internet Segment Revenues | 15,576 | 19,189 | (3,613) | |||||||||
Internet Segment Operating Costs and Expenses | ||||||||||||
| Production, distribution and editorial | 8,984 | 14,092 | 5,108 | |||||||||
| Selling and promotion | 6,164 | 6,023 | (141) | |||||||||
| General and administrative | 3,487 | 3,969 | 482 | |||||||||
| Depreciation and amortization | 1,737 | 1,242 | (495) | |||||||||
Total Internet Segment Operating Costs and Expenses | 20,372 | 25,326 | 4,954 | |||||||||
Internet Segment Operating Loss | $ | (4,796) | $ | (6,137) | $ | 1,341 | ||||||
Internet revenues decreased 19% for the year ended December 31, 2008 from the prior year. Advertising revenue increased $2.7 million due to an increase in page views and sold advertising volume. Product revenue decreased $6.3 million due to the transition of our flowers program fromMartha Stewart Flowers,which generated sales through Valentine’s Day 2008, to our new, co-branded agreement with 1-800-Flowers.com which began generating revenue in the second quarter of 2008 and reported in the Merchandising segment.
Production, distribution and editorial expenses decreased $5.1 million in 2008 from the prior year due primarily to the transition of our flowers business, which eliminated inventory and shipping expenses, and due to the prior year use of freelancers and consultants as well as technology costs related to the 2007 re-design ofmarthastewart.com. These savings were partially offset by an increase in headcount and related compensation costs. All costs related to 1-800-Flowers.com are reported in the Merchandising segment. General and administrative expenses decreased $0.5 million due to the transition of our flowers business as described above. Depreciation and amortization expenses increased $0.5 million primarily due to the 2007 launch of the redesigned website and the related depreciation costs.
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BROADCASTING SEGMENT
| (in thousands) | 2008 | 2007 | Variance | |||||||||
Broadcasting Segment Revenues | ||||||||||||
| Advertising | $ | 26,666 | $ | 21,078 | 5,588 | |||||||
| Radio | 7,500 | 7,500 | — | |||||||||
| Licensing and other | 13,162 | 11,685 | 1,477 | |||||||||
Total Broadcasting Segment Revenues | 47,328 | 40,263 | 7,065 | |||||||||
Broadcasting Segment Operating Costs and Expenses | ||||||||||||
| Production, distribution and editorial | 31,291 | 34,099 | 2,808 | |||||||||
| Selling and promotion | 3,392 | 4,026 | 634 | |||||||||
| General and administrative | 7,287 | 7,456 | 169 | |||||||||
| Depreciation and amortization | 2,578 | 2,201 | (377) | |||||||||
Total Broadcasting Segment Operating Costs and Expenses | 44,548 | 47,782 | 3,234 | |||||||||
Broadcasting Segment Operating Income / (Loss) | $ | 2,780 | $ | (7,519) | $ | 10,299 | ||||||
Broadcasting revenues increased 18% for the year ended December 31, 2008 from the prior year. Advertising revenue increased $5.6 million primarily due to the increase in advertising inventory (related to our revised season 3 distribution agreement forThe Martha Stewart Show), partially offset lower revenue due to the timing of integrations as well as a decline in household ratings. Licensing revenue increased $1.5 million primarily due to Chef Emeril Lagasse’s television programming including the new original series on Planet Green featuring Emeril Lagasse as well as from theEssence of Emerilon the Food Network and the rebroadcast ofEmeril Live!on the Fine Living Network. Licensing and other revenue also increased due to a domestic distribution agreement with the Fine Living Network on cable to airThe Martha Stewart Show, increased international distribution ofThe Martha Stewart Show, a new marketing agreement with TurboChef and the new series Whatever Martha!These increases were partially offset by the exchange of season 3 license fees for additional advertising inventory related toThe Martha Stewart Show.
Production, distribution and editorial expenses decreased $2.8 million due principally to a 2007 non-cash charge associated with the vesting of a portion of a warrant granted in connection with the production ofThe Martha Stewart Show,as well as lower production costs for season 3 ofThe Martha Stewart Show as compared to season 2. These decreases are partially offset by 2008 distribution costs which were reported net of licensing revenues in 2007 as well as costs related to the new series Whatever Martha!and costs associated with Emeril Lagasse’s television programming. Selling and promotion expenses decreased $0.6 million primarily due to lower marketing costs associated with the launch of season 4 ofThe Martha Stewart Showas compared to the costs of the season 3 launch and the timing of promotional expenses. Depreciation and amortization increased $0.4 million due to the amortization of the content library for Emeril, which was partially offset by the full depreciation of the set forThe Martha Stewart Showin the second quarter of 2007.
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CORPORATE
| (in thousands) | 2008 | 2007 | Variance | |||||||||
Corporate Operating Costs and Expenses | ||||||||||||
| General and administrative | $ | 44,934 | $ | 44,841 | $ | (93) | ||||||
| Depreciation and amortization | 3,189 | 2,556 | (633) | |||||||||
Total Corporate Operating Costs and Expenses | 48,123 | 47,397 | 726 | |||||||||
Corporate Operating Loss | $ | (48,123) | $ | (47,397) | $ | (726) | ||||||
Corporate operating costs and expenses increased 2% for the year ended December 31, 2008 from the prior year. General and administrative expenses increased $0.1 million due to cash and non-cash charges of $3.5 million related to a Company-wide reorganization that resulted in severance and other one-time compensation-related expenses and increased costs associated with a new intangible asset agreement. These increases were fully offset by lower non-cash compensation and the reduction of our annual bonus pool. Depreciation and amortization increased $0.6 million due to a change in allocation policy.
OTHER ITEMS
INTEREST INCOME, NET. Interest income, net, was $0.5 million for the year ended December 31, 2008, compared to $2.8 million for the prior year ended December 31, 2007. The decrease was attributable primarily to our 2008 interest expense from our $30 million term loan related to the acquisition of certain assets of Emeril Lagasse. Interest income also decreased due to lower interest rates.
OTHER INCOME. Other income for the year ended December 31, 2007 was $0.4 million with no comparable income in 2008. The prior year income is related to the final legal settlement of the class action lawsuit known asIn re Martha Stewart Living Omnimedia, Inc. Securities Litigation.
LOSS ON EQUITY SECURITIES: Loss on equity securities was $2.2 million for the year ended December 31, 2008. The loss is the result of marking certain assets to fair value in accordance with accounting principles governing derivative instruments as well as recognizing an other-than-temporary loss on our shares of TurboChef stock.
LOSS IN EQUITY INTEREST. Loss in equity interest was $0.8 million for the year ended December 31, 2008 related to our equity investment in WeddingWire. We record our proportionate share of the results of WeddingWire one quarter in arrears. Therefore, this loss represents our portion of prorated results of WeddingWire through September 30, 2008.
INCOME TAX EXPENSE. Income tax expense was $2.3 million for the year ended December 31, 2008, compared to a $0.6 million expense in the prior year. The current year provision includes $1.8 million which is attributable to differences between the financial statement carrying amounts of current and prior-year acquisitions of certain indefinite-lived intangible assets and their respective tax bases.
NET LOSS. Net loss was $15.7 million for the year ended December 31, 2008, compared to a net income of $10.3 million for the year ended December 31, 2007, as a result of the factors described above.
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RESULTS OF OPERATIONS
Comparison for the Year Ended December 31, 2007 to the Year Ended December 31, 2006.
PUBLISHING SEGMENT
| (in thousands) | 2007 | 2006 | Variance | |||||||||
Publishing Segment Revenues | ||||||||||||
| Advertising | $ | 106,691 | $ | 83,285 | $ | 23,406 | ||||||
| Circulation | 71,707 | 69,721 | 1,986 | |||||||||
| Books | 3,373 | 831 | 2,542 | |||||||||
| Other | 1,956 | 2,722 | (766) | |||||||||
Total Publishing Segment Revenues | 183,727 | 156,559 | 27,168 | |||||||||
Publishing Segment Operating Costs and Expenses | ||||||||||||
| Production, distribution and editorial | 93,312 | 83,770 | (9,542) | |||||||||
| Selling and promotion | 72,655 | 63,386 | (9,269) | |||||||||
| General and administrative | 5,034 | 2,777 | (2,257) | |||||||||
| Depreciation and amortization | 1,188 | 600 | (588) | |||||||||
Total Publishing Segment Operating Costs and Expenses | 172,189 | 150,533 | (21,656) | |||||||||
Publishing Segment Operating Income | $ | 11,538 | $ | 6,026 | $ | 5,512 | ||||||
Publishing revenues increased 17% for the year ended December 31, 2007 from the prior year. This increase was due to a $23.4 million increase in advertising revenues, primarily as the result of an increase in both advertising pages and rate inMartha Stewart Livingmagazine, which accounted for $15.0 million of the increase. Advertising revenues increased across all other publications includingEveryday Food,Body + SoulandMartha Stewart Weddingswhich contributed $6.1 million in the aggregate from increases in pages and rates.Blueprintcontributed an additional $2.4 million of advertising revenues due to the increase in frequency of the publication in 2007 as compared to 2006. Circulation revenues increased $2.0 million primarily due to the increased frequency ofBlueprintmagazine of $2.2 million and theMartha Stewart Weddingsspecial; this was partially offset by slightly lower circulation revenues fromEveryday Food, Special Interest Publications andMartha Stewart Living. Other revenues increased $1.8 million primarily due to the delivery and acceptance of certain manuscripts related to the multi-book agreement with Clarkson Potter/Publishers.
| Magazine Publication Schedule | ||||||||
| Year ended December 31, | 2007 | 2006 | ||||||
Martha Stewart Living | Twelve Issues | Twelve Issues | ||||||
Martha Stewart Weddings(a) | Five Issues | Four Issues | ||||||
Everyday Food | Ten Issues | Ten Issues | ||||||
Special Interest Publications | Nine Issues | Five Issues | ||||||
Body + Soul | Eight Issues | Eight Issues | ||||||
Blueprint(b) | Six Issues | Two Issues | ||||||
| (a) | In 2007, we published one specialMartha Stewart Weddingsissue. | |
| (b) | Launched in May 2006 and discontinued as a stand-alone publication after the January/February 2008 issue. |
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Production, distribution and editorial expenses increased $9.5 million in 2007 from the prior year, primarily reflecting the additional costs associated with the increase in advertising pages inMartha Stewart Living, which results in higher physical costs, as well as the costs associated with the increased frequency ofBlueprintin 2007 and higher compensation costs associated with the creation of books. Selling and promotion expenses increased $9.3 million in 2007 from the prior year, primarily due to a favorable 2006 one-time newsstand expense reduction adjustment of $3.2 million related to the settlement of certain newsstand-related fees. Additionally, selling and promotion expenses increased due to a 2007 non-recurring, employee-related separation charge, higher compensation costs, an increase in newsstand distribution ofMartha Stewart Livingand higher marketing costs associated withEveryday Food. General and administrative expenses increased $2.3 million in 2007 from the prior year due to higher compensation costs and allocated overhead. Included within the Publishing segment is a $7.7 million loss inBlueprintcompared to a $6.2 million loss in the prior year. Non-cash compensation included in the expenses above increased $1.6 million to $4.3 million in 2007 from $2.7 million in 2006 due to a 2007 non-recurring employee-related separation charge as well as new executive hires.
MERCHANDISING SEGMENT
| (in thousands) | 2007 | 2006 | Variance | |||||||||
Merchandising Segment Revenues | ||||||||||||
| Kmart earned royalty | $ | 25,190 | $ | 29,853 | $ | (4,663) | ||||||
Kmart minimum guaranteetrue-up | 39,102 | 26,126 | 12,976 | |||||||||
| Other | 20,419 | 13,525 | 6,894 | |||||||||
Total Merchandising Segment Revenues | 84,711 | 69,504 | 15,207 | |||||||||
Merchandising Segment Operating Costs and Expenses | ||||||||||||
| Production, distribution and editorial | 13,418 | 11,956 | (1,462) | |||||||||
| Selling and promotion | 6,475 | 3,145 | (3,330) | |||||||||
| General and administrative | 7,214 | 6,853 | (361) | |||||||||
| Depreciation and amortization | 375 | 1,021 | 646 | |||||||||
Total Merchandising Segment Operating Costs and Expenses | 27,482 | 22,975 | (4,507) | |||||||||
Merchandising Segment Operating Income | $ | 57,229 | $ | 46,529 | $ | 10,700 | ||||||
Merchandising revenues increased 22% for the year ended December 31, 2007 from the prior year. Actual retail sales of our product at Kmart declined 17% on a comparable store basis and 18% on a total store basis due to store closings, lower same-store sales trends and decreased assortment of product categories. The impact of the decrease in sales on the calculation of our earned royalty was partially offset by a February 1, 2007 increase in the royalty rate under our agreement with Kmart of approximately 3%. The pro-rata portion of revenues related to the contractual minimum amounts covering the specified periods, net of amounts subject to recoupment, is listed separately above. For the contract years ending January 31, 2009 and January 31, 2010, the minimum royalty amount is expected to be $20 million and $15 million respectively. Furthermore, $10.0 million of royalties previously paid have been deferred and are subject to recoupment in the periods ending January 31, 2009 and January 31, 2010. Other revenues increased 51% largely due to the 2007 launch of theMartha Stewart Collectionat Macy’s andmacys.comas well as sales from other new initiatives includingMartha Stewart Craftsand the endorsement and promotional agreement with U.S. affiliates of SVP Worldwide, makers ofSinger,Husqvarna VikingandPfaffsewing machines. Additionally, other revenues increased due to services we provided to our partners for creative services projects including KB Home model merchandising and other related projects. These increases in other revenues were partially offset by the inclusion in 2006 revenues of a $3.0 million favorable dispute resolution with a former merchandising licensee.
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Production, distribution and editorial expenses increased $1.4 million in 2007 from the prior year primarily due to higher compensation and allocated payroll costs. Selling and promotion expenses increased $3.3 million in 2007 from the prior year primarily due to expenses associated with services we provided to our partners for creative services projects including KB Home model merchandising and other related projects. Included in the expenses above are non-cash compensation charges which increased $0.6 million to $1.6 million in 2007 from $1.0 million in 2006.
INTERNET SEGMENT
| (in thousands) | ||||||||||||
| 2007 | 2006 | Variance | ||||||||||
Internet Segment Revenues | ||||||||||||
| Advertising and other | $ | 11,779 | $ | 8,196 | $ | 3,583 | ||||||
| Product | 7,410 | 7,579 | (169) | |||||||||
Total Internet Segment Revenues | 19,189 | 15,775 | 3,414 | |||||||||
Internet Segment Operating Costs and Expenses | ||||||||||||
| Production, distribution and editorial | 14,092 | 10,444 | (3,648) | |||||||||
| Selling and promotion | 6,023 | 3,335 | (2,688) | |||||||||
| General and administrative | 3,969 | 2,410 | (1,559) | |||||||||
| Depreciation and amortization | 1,242 | 117 | (1,125) | |||||||||
Total Internet Segment Operating Costs and Expenses | 25,326 | 16,306 | (9,020) | |||||||||
Internet Segment Operating Loss | $ | (6,137) | $ | (531) | $ | (5,606) | ||||||
Internet segment revenues increased 22% for the year ended December 31, 2007 from the prior year. Advertising revenues increased due to higher rates and an increase in inventory sold following the relaunch of the website, with a majority of the increase realized in the fourth quarter. Product revenues decreased slightly due to recognizing most of the minimum guarantee from Kodak in 2006 partially offset by higher units sold in 2007 from both Kodak and Shutterfly.
Production, distribution and editorial costs increased $3.6 million in 2007 from the prior year due primarily to higher staffing and technology expenses associated with our build-out of the advertising-based website which launched towards the end of the first quarter of 2007. Selling and promotion expense increased $2.7 million in 2007 from the prior year due to higher compensation expenses associated with developing an internet advertising sales force and higher marketing costs associated with attracting new users to the website. General and administrative expenses increased $1.6 million in 2007 from the prior year due to increases in facilities allocations and personnel. Depreciation and amortization expenses increased $1.1 million in 2007 from the prior year due to the 2007 launch of the redesigned website and the related depreciation costs. Included in the expenses above are non-cash compensation charges which increased $0.3 million to $0.5 million in 2007 from $0.2 million in 2006.
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BROADCASTING SEGMENT
| (In thousands) | ||||||||||||
| 2007 | 2006 | Variance | ||||||||||
Broadcasting Segment Revenues | ||||||||||||
| Advertising | $ | 21,078 | $ | 16,969 | $ | 4,109 | ||||||
| Radio | 7,500 | 7,504 | (4) | |||||||||
| Licensing and other | 11,685 | 22,030 | (10,345) | |||||||||
Total Broadcasting Segment Revenues | 40,263 | 46,503 | (6,240) | |||||||||
Broadcasting Segment Operating Costs and Expenses | ||||||||||||
| Production, distribution and editorial | 34,099 | 32,043 | (2,056) | |||||||||
| Selling and promotion | 4,026 | 4,324 | 298 | |||||||||
| General and administrative | 7,456 | 8,726 | 1,270 | |||||||||
| Depreciation and amortization | 2,201 | 3,026 | 825 | |||||||||
Total Broadcasting Segment Operating Costs and Expenses | 47,782 | 48,119 | 337 | |||||||||
Broadcasting Segment Operating Loss | $ | (7,519) | $ | (1,616) | $ | (5,903) | ||||||
Broadcasting revenues decreased 13% for the year ended December 31, 2007 from the prior year. For season 3 ofThe Martha Stewart Showwhich began in the middle of September 2007, we entered into a revised distribution agreement to replace the season 3 license fees with additional advertising inventory. Therefore, season 2 revenues are reported net of agency commission, estimated reserves for television audience underdelivery and NBC distribution fees, while season 3 revenues are reported net of only the agency commission and estimated reserves for television audience underdelivery. Due to the partial impact of this change as well as higher product integration revenues and higher advertising rates, advertising revenues increased in 2007 by 24% as compared to 2006. The increase was partially offset by a decline in ratings. Licensing and other revenues decreased 47% primarily due to the partial impact of the new season 3 distribution agreement as well as lack of distribution in the secondary cable market for season 2 ofThe Martha Stewart Showand lower license fees from stations for season 2 compared to season 1. Licensing and other revenues in 2006 also benefited from the successful termination of a home video distribution agreement. These decreases were partially offset by the season 3 agreement to distributeThe Martha Stewart Showin the secondary cable market.
Production, distribution and editorial expenses increased $2.1 million in 2007 from the prior year due principally to a non-cash charge of $6.0 million associated with the vesting of the final warrant granted in connection with the production ofThe Martha Stewart Show. These costs were partially offset by lower production costs forThe Martha Stewart Showwhich were approximately $1.7 million less for season 2 as compared to season 1. Production costs are expected to continue to decrease for season 3 ofThe Martha Stewart Show. General and administrative expenses decreased $1.3 million in 2007 from the prior year due to a 2006 asset write-down, the reduction of 2007 facility expenses due to the shutdown of the Connecticut television studios in the prior year and lower compensation costs.
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CORPORATE
| (In thousands) | ||||||||||||
| 2007 | 2006 | Variance | ||||||||||
Corporate Operating Costs and Expenses | ||||||||||||
| General and administrative | $ | 44,841 | $ | 49,407 | $ | 4,566 | ||||||
| Depreciation and amortization | 2,556 | 3,834 | 1,278 | |||||||||
Total Corporate Operating Costs and Expenses | 47,397 | 53,241 | 5,844 | |||||||||
Corporate Operating Loss | $ | (47,397) | $ | (53,241) | $ | 5,844 | ||||||
Corporate operating costs and expenses decreased 11% for the year ended December 31, 2007 from the prior year. General and administrative expenses decreased $4.6 million principally due to lower non-cash compensation costs, lower rent expense and higher allocations of personnel, technology and facilities expenses to each of the segments. These decreases were partially offset by non-recurring, employee-related separation costs. Depreciation and amortization expenses decreased $1.3 million as certain computer software assets are now fully depreciated. Included in the expenses above are non-cash compensation charges which decreased $1.0 million from $6.9 million in 2006 to $5.9 million in 2007.
INTEREST INCOME, NET. Interest income, net, was $2.8 million for the year ended December 31, 2007, compared with $4.5 million for the year ended December 31, 2006. The decrease was attributable to lower average cash, cash equivalents and short-term investment balances and lower interest rates.
LEGAL SETTLEMENT. During 2006, we recorded a litigation reserve of $17.1 million associated with the estimated settlement of the class action lawsuit known asIn re Martha Stewart Living Omnimedia, Inc. Securities Litigation. In the second quarter of 2007, the settlement received Court approval and the related reserve was adjusted by $(0.4) million to reflect our final costs related to the litigation.
INCOME TAX PROVISION. Income tax provision for the year ended December 31, 2007 was $0.6 million, compared to income tax provision of $0.8 million for the year ended December 31, 2006. The current period results exclude any potential tax benefits generated from current period losses due to the establishment of a valuation reserve taken against any such benefits.
LOSS FROM DISCONTINUED OPERATIONS. We had no loss from discontinued operations in 2007 compared to a loss of $0.7 million for the year ended December 31, 2006. Discontinued operations represent the operations of The Wedding List, which we decided to discontinue in 2002. The prior year expenses are related primarily to facilities. In the third quarter of 2006, we signed a sublease. As a result, we do not expect to report further loss from discontinued operations of The Wedding List. We believe that the additional reserve taken in the second quarter of 2006 is sufficient to cover any future charges.
NET INCOME. Net income was $10.3 million for the year ended December 31, 2007, compared to a net loss of $(17.0) million for the year ended December 31, 2006, as a result of the factors mentioned above.
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LIQUIDITY AND CAPITAL RESOURCES
Overview
Our primary source of liquidity is currently from cash generated by operating activities. Specifically, the majority of our cash generation in 2008 was provided by the collection of prior-year Kmart contractual minimums and from the Emeril Lagasse assets acquired in 2008. If our Internet strategy is successful, we expect that business will generate cash flow from operations over time. As with other industries, operating results and cash flows may change due to a variety of factors, including changes in demand for the product, changes in our cost structure and changes in macroeconomic factors. Any such changes in our business can have a significant effect on cash flows. In addition in 2008, we entered into a loan agreement and borrowed $30 million from Bank of America to fund a portion of the acquisition of the Emeril Lagasse assets.
We believe, as described further below, that our available cash balances and short-term investments will be sufficient to meet our recurring cash needs for working capital and capital expenditures for 2009 including our debt service obligations.
Sources and Uses of Cash
During 2008, our cash and cash equivalents increased $19.7 million from December 31, 2007. The increase was due to the satisfaction of our 2007 year-end receivable due from Kmart in the amount of $47.6 million as well as $19.5 million representing the net proceeds of our term loan with Bank of America and $16.8 million from the net sales of short-term investments. These increases to cash were partially offset by the $46.3 million cash payment related to the Emeril Lagasse acquisition, as well as the payment of 2007 bonuses and our investments in WeddingWire and pingg. Our overall liquidity increased $2.8 million from December 31, 2007 when including cash, cash equivalents and short-term investments.
The acquisition agreement for the Emeril Lagasse transaction also included a payment of $5.0 million in shares of our Class A Common Stock. An additional payment of up to $20 million may be required in 2013, based upon the achievement of certain operating metrics in 2011 and 2012, a portion of which may be payable, at our election, in shares of our Class A Common Stock.
Operating Activities
Cash provided by operating activities improved year-over-year by $29.8 million from $11.7 million for the year ended December 31, 2007 to $41.6 million for the year ended December 31, 2008. In 2008, cash from operations was primarily due to the satisfaction of the 2007 year-end receivable due from Kmart partially offset by the payment of 2007 bonuses. Our 2007 year-end receivable from Kmart was satisfied with cash received of $47.6 million in 2008. Our Kmart receivable as of December 31, 2008 was substantially lower. Approximately $6 million in cash was received by us in 2009 which primarily represented the satisfaction of our December 31, 2008 receivable.
In 2008, we recognized $2.5 million of non-cash revenue primarily related to our three-year agreement with TurboChef Technologies, Inc. (“TurboChef). In the second quarter of 2008, we entered into an agreement with TurboChef to provide intellectual property and promotional services in exchange for $10 million. In lieu of cash consideration, TurboChef provided initial compensation in 2008 in the form of 381,049 shares of TurboChef stock and a warrant to purchase 454,000 shares of TurboChef stock for an aggregate fair value of approximately $5 million. In addition, in each of the second and third years of this agreement, we will receive $2.5 million of TurboChef stock or cash, at TurboChef’s option. Total consideration for this agreement will be recognized on a straightline basis over the three-year term.
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Any changes to the market value of the TurboChef stock require an adjustment to both our shares held as well as our warrant to purchase shares. Any temporary adjustment to our shares held affects the investment balance and flows through other comprehensive income on the balance sheet. Any adjustment to our warrant affects the investment balance and flows through other income/(expense) on our statement of operations. Therefore, any change to the warrant valuation is an adjustment to the cash flows from operations.
As of December 31, 2008, the 381,049 shares of TurboChef stock had a fair market value of $1.9 million based on the closing price on December 31, 2008. We determined that the decrease in fair market value of these shares was other than temporary and accordingly, we recognized a loss of $1.1 million which is an adjustment to our net loss. Additionally, we recognized a $1.1 million loss in connection with our warrant to purchase 454,000 shares of TurboChef stock.
On January 5, 2009, the Middleby Corporation completed its acquisition of TurboChef in a cash and stock transaction. Under the terms of the merger agreement, holders of TurboChef’s common shares will receive a combination of $3.67 in cash and 0.0486 Middleby shares of common stock per TurboChef share. The consideration upon acquisition would equate to $1.9 million which represents $1.4 million in cash and 18,518 shares of Middleby worth $0.5 million on January 5, 2009. The original warrant converted into a warrant to acquire 24,607 shares of Middleby Common Stock at a price per share of $88.38.
Investing Activities
Our cash inflows from investing activities generally include proceeds from the sale of short-term investments. Investing cash outflows generally include payments for the acquisition of new businesses; short- and long-term investments; and additions to property, plant, and equipment.
Cash (used in) and provided by investing activities was $(38.9) million, $(6.6) million and $40.1 million for the years ended December 31, 2008, 2007, and 2006, respectively. In 2008, cash used in investing activities primarily represented the cash paid in connection with the acquisition of certain assets of Emeril Lagasse. We also invested $5.0 million of cash in WeddingWire, of which $0.6 million was used for operating activities. Additionally, we invested $2.2 million of cash in pingg. Cash used for capital expenditures was due to leasehold improvements to our offices related to a consolidation of office space as well as recurring upgrades for office technology and improvements to our website,marthastewart.com. These cash payments were partially offset by the net sales of short-term investments of $16.8 million.
Financing Activities
Our cash inflows from financing activities generally include proceeds from the exercise of stock options for our Class A Common Stock issued under our equity incentive plans. Financing cash outflows generally include the satisfaction of certain tax liabilities related to share-based compensation and the payment of dividends.
Cash flows provided by (used in) financing activities were $17.0 million, $(3.1) million and $(26.1) million for the years ended December 31, 2008, 2007 and 2006, respectively. In 2008, in connection with the acquisition of certain assets of Emeril Lagasse, we entered into an agreement with Bank of America for a $30.0 million term loan with principal installments of $1.5 million to be paid quarterly. Cash provided by the loan was partially offset by the accelerated repayment of the loan in the third and fourth quarters of 2008 as well as costs related to obtaining the debt. Cash flows used in financing activities during 2008 were also due to the remittance payroll related tax obligations associated with the vesting of certain restricted stock grants.
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Debt
We also have a line of credit with Bank of America in the amount of $5.0 million, which is generally used to secure outstanding letters of credit. Under the terms of the credit agreement, we are required to satisfy certain debt covenants, with which we were compliant as of December 31, 2008. As of December 31, 2008, we had no outstanding borrowings under this facility. Of a total line of $5.0 million, we currently have letters of credit drawn on $2.7 million.
We entered into a loan agreement with Bank of America in the amount of $30 million related to the acquisition of certain assets of Emeril Lagasse. The loan was originally secured by cash collateral of $28.5 million. In the third quarter of 2008, the cash collateral was replaced by collateral consisting of substantially all of the assets of the Emeril business that were acquired by the Company. Martha Stewart Living Omnimedia, Inc. and most of its domestic subsidiaries are guarantors of the loan. The loan agreement requires equal principal payments and related interest to be paid by the Company quarterly for the duration of the loan term, approximately 5 years. During the third quarter of 2008, in addition to our quarterly payment on September 30, 2008, we prepaid $4.5 million in principal representing the amounts due on December 31, 2008, March 31, 2009 and June 30, 2009. During the fourth quarter of 2008, we prepaid $3.0 million in principal representing the amounts due on September 30, 2009, and December 31, 2009. Accordingly, the loan payable is characterized as a non-current liability as of December 31, 2008. The interest rate on the loan is a floating rate of1-month LIBOR plus 2.85%. We expect to pay the principal installments and interest expense with cash from operations.
The loan terms include financial covenants, failure with which to comply would result in an event of default and would permit Bank of America to accelerate and demand repayment of the loan in full. As of December 31, 2008, we were compliant with all the financial covenants. A summary of the most significant financial covenants is as follows:
| Financial Covenant | Required at December 31, 2008 | |||
| Tangible Net Worth | Greater than $ | 40.0 million | ||
| Funded Debt to EBITDA (a) | Less than 2.0 | |||
| Parent Guarantor (the Company) Basic Fixed Charge Coverage Ratio (b) | Greater than 2.75 | |||
| Quick Ratio | Greater than 1.0 | |||
| (a) | EBITDA is earnings before interest, taxes, depreciation and amortization as defined in the loan agreement. | |
| (b) | Basic Fixed Charge Coverage is the ratio of EBITDA for the trailing four quarters to the sum of interest expense for the trailing four quarters and the current portion of long-term debt at the covenant testing date. |
The loan agreement also contains a variety of other customary affirmative and negative covenants that, among other things, limit our and our subsidiaries’ ability to incur additional debt, suffer the creation of liens on their assets, pay dividends or repurchase stock, make investments or loans, sell assets, enter into transactions with affiliates other than on arm’s length terms in the ordinary course of business, make capital expenditures, merge into or acquire other entities or liquidate. The negative covenants expressly permit us to, among other things: incur an additional $15 million of debt to finance permitted investments or acquisitions; incur an additional $15 million of earnout liabilities in connection with permitted acquisitions; spend up to $30 million repurchasing our stock or paying dividends thereon (so long as no default or event of default existed at the time of or would result from such repurchase or dividend payment and we would be in pro forma compliance with the above-
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described financial covenants assuming such repurchase or dividend payment had occurred at the beginning of the most recently-ended four-quarter period); make investments and acquisitions (so long as no default or event of default existed at the time of or would result from such investment or acquisition and we would be in pro forma compliance with the above-described financial covenants assuming the acquisition or investment had occurred at the beginning of the most recently-ended four-quarter period); make up to $15 million in capital expenditures in fiscal year 2008 and $7.5 million in each subsequent fiscal year, provided that we can carry over any unspent amount to any subsequent fiscal year (but in no event may we make more than $15 million in capital expenditures in any fiscal year); sell one of our investments (or any asset we might receive in conversion or exchange for such investment); and sell assets during the term of the loan comprising, in the aggregate, up to 10% of our consolidated shareholders’ equity, provided we receive at least 75% of the consideration in cash.
Cash Requirements
Our commitments consist primarily of leases for office facilities under operating lease agreements. Future minimum payments under these leases are included in Note 12 to our Consolidated Financial Statements and are summarized in the table below:
| Payments due by period (in thousands) | ||||||||||||||||||||||||||||||
| More | ||||||||||||||||||||||||||||||
| Less than | than | |||||||||||||||||||||||||||||
| Contractual Obligations | Total | 1 year | 1-3 years | 3-5 years | 5 years | Other | ||||||||||||||||||||||||
| Long – Term Debt Obligations | $ | 19,500 | $ | — | $ | 12,000 | $ | 7,500 | $ | — | $ | — | ||||||||||||||||||
| Capital Lease Obligations | — | — | — | — | — | — | ||||||||||||||||||||||||
| Operating Lease Obligations | 75,250 | 15,045 | 15,401 | 13,612 | 31,192 | — | ||||||||||||||||||||||||
| Purchase Obligations | — | — | — | — | — | — | ||||||||||||||||||||||||
| Unrecognized Tax Benefits* | 226 | 50 | — | — | — | 176 | ||||||||||||||||||||||||
| Other Long – Term Liabilities Reflected on the Company’s Balance Sheet under GAAP | — | — | — | — | — | — | ||||||||||||||||||||||||
| Total | $ | 110,286 | $ | 15,360 | $ | 36,203 | $ | 20,230 | $ | 38,317 | $ | 176 | ||||||||||||||||||
* These amounts represent expected payments with interest for uncertain tax positions as of December 31, 2008. We are not able to reasonably estimate the timing of future cash flows related to $0.2 million of this liability, and therefore have presented this amount as “Other” in the table above. See Note 10, “Income Taxes,” in the Notes to Consolidated Financial Statements, for further discussion.
In addition to our contractual obligations, we expect to have capital expenditures in 2009 of approximately $6 million due to the continued leasehold improvements related to the consolidation of office space as well as continued upgrades to our corporate information technology.
OFF-BALANCE SHEET ARRANGEMENTS
Our bylaws may require us to indemnify our directors and officers against liabilities that may arise by reason of their status as such and to advance their expenses incurred as a result of any legal proceedings against them as to which they could be indemnified.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
General
Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with United States generally
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accepted accounting principles (“GAAP”). The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to bad debts, inventories, deferred production costs, long-lived assets and accrued losses. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
We believe that, of our significant accounting policies, the following may involve the highest degree of judgment and complexity.
Revenue Recognition
We recognize revenues when realized or realizable and earned. Revenues and associated accounts receivable are recorded net of provisions for estimated future returns, doubtful accounts and other allowances.
The Emerging Issues Task Force reached a consensus in May 2003 on IssueNo. 00-21, “Revenue Arrangements with Multiple Deliverables”(“EITF 00-21”) which became effective for revenue arrangements starting in the third quarter of 2003. In an arrangement with multiple deliverables,EITF 00-21 provides guidance to determine a) how the arrangement consideration should be measured, b) whether the arrangement should be divided into separate units of accounting, and c) how the arrangement consideration should be allocated among the separate units of accounting. We have applied the guidance included inEITF 00-21 in establishing revenue recognition policies for our arrangements with multiple deliverables. For agreements with multiple deliverables, if we are unable to put forth vendor specific objective evidence required underEITF 00-21 to determine the fair value of each deliverable, then we will account for the deliverables as a combined unit of accounting rather than separate units of accounting. In this case, revenue will be recognized as the earnings process is completed.
Advertising revenues in the Publishing segment are recorded upon release of magazines for sale to consumers and are stated net of agency commissions and cash and sales discounts. Subscription revenues are recognized on a straight-line basis over the life of the subscription as issues are delivered. Newsstand revenues are recognized based on estimates with respect to future returns and net of brokerage and newsstand-related fees. We base our estimates on our historical experience and current market conditions. Revenues earned from book publishing are recorded as manuscripts are delivered to and accepted by our publisher. Additional revenue is recorded as sales on a unit basis exceed the advanced royalty for the individual title or in certain cases, advances on cross-collateralized titles.
Licensing-based revenues, most of which are in our Merchandising segment, are accrued on a monthly basis based on the specific terms of each contract. Generally, revenues are recognized based on actual sales while any minimum guarantees are earned evenly over the fiscal year. Revenues related to our agreement with Kmart are recorded on a monthly basis based on actual retail sales, until the last period of the year, when we recognize a substantial majority of thetrue-up between the minimum royalty amount and royalties paid on actual sales, when such amounts are determinable. Payments are generally made by our partners on a quarterly basis.
Internet advertising revenues are generally based on the sale of impression-based advertisements, which are recorded in the period in which the advertisements are served.
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Television advertising revenue is recorded when the related commercial is aired and is recorded net of agency commission, estimated reserves for television audience underdelivery and, when applicable, distribution fees. Television integration revenue is recognized when the segment featuring the related product/brand immersion is initially aired. Television revenue related to Emeril Lagasse is generally recognized when services are performed. Revenue from our radio operations is recognized evenly over the four-year life of the contract, with the potential for additional revenue based on certain subscriber and advertising based targets.
We maintain reserves for all segment receivables, as appropriate. These reserves are adjusted regularly based upon actual results. We maintain allowance for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances might be required.
Television Production Costs
Television production costs are capitalized and amortized based upon estimates of future revenues to be received and future costs to be incurred for the applicable television product. The Company bases it estimates on existing contracts for programs, historical advertising rates and ratings, as well as market conditions. Estimated future revenues and costs are adjusted regularly based upon actual results and changes in market and other conditions.
Goodwill and Indefinite-Lived Intangible Assets
We are required to analyze our goodwill and other intangible assets on an annual basis as well as when events and circumstances indicate impairment may have occurred. Unforeseen events and changes in circumstances and market conditions and material differences in the value of long-lived assets due to changes in estimates could negatively affect the fair value of our assets and result in an impairment charge. In estimating fair value, we must make assumptions and projections regarding items such as future cash flows, future revenues, future earnings and other factors. The assumptions used in the estimate of fair value are generally consistent with the past performance of each reporting unit and are also consistent with the projections and assumptions that are used in current operating plans. Such assumptions are subject to change as a result of changing economic and competitive conditions. If these estimates or their related assumptions change in the future, we may be required to record an impairment loss for any of our intangible assets. The recording of any resulting impairment loss could have a material adverse effect on our financial statements.
Long-Lived and Definite-Lived Intangible Assets
We review the carrying values of our long-lived assets whenever events or changes in circumstances indicate that such carrying values may not be recoverable. Unforeseen events and changes in circumstances and market conditions and material differences in the value of long-lived assets due to changes in estimates of future cash flows could negatively affect the fair value of our assets and result in an impairment charge, which could have a material adverse effect on our financial statements.
Deferred Income Tax Asset Valuation Allowance
We record a valuation allowance to reduce our deferred income tax assets to the amount that is more likely than not to be realized. In evaluating our ability to recover our deferred income tax assets, we consider all available positive and negative evidence, including our operating results, ongoing tax planning and forecasts of future taxable income on a jurisdiction by jurisdiction basis. Our cumulative pre-tax loss in recent years represents sufficient negative evidence for us to determine that the establishment of a full valuation allowance against the deferred tax asset is appropriate. This valuation
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allowance offsets deferred tax assets associated with future tax deductions as well as carryforward items. In the event we were to determine that we would be able to realize our deferred income tax assets in the future in excess of their net recorded amount, we would make an adjustment to the valuation allowance which would reduce the provision for income taxes. See Note 10 in the Consolidated Financial Statements for additional information.
Non-Cash Equity Compensation
We currently have a stock incentive plan that permits us to grant various types of share-based incentives to key employees, directors and consultants. The primary types of incentives granted under the plan are restricted shares of common stock and stock options. Restricted shares are valued at the market value of traded shares on the date of grant, while stock options are valued using a Black-Scholes option pricing model. The Black-Scholes option pricing model requires numerous assumptions, including expected volatility of our stock price and expected life of the option.
Item 7A. Quantitative and Qualitative Disclosure about Market Risk.
We are exposed to certain market risks as the result of our use of financial instruments, in particular the potential market value loss arising from adverse changes in interest rates as well as from adverse changes in our publicly traded investments. We also hold a derivative financial instrument that could expose us to further market risk. We do not utilize financial instruments for trading purposes.
Interest Rate Risk
We are exposed to market rate risk due to changes in interest rates on our loan agreement with Bank of America that we entered into on April 2, 2008 under which we borrowed $30.0 million to fund a portion of the acquisition of certain assets of Emeril Lagasse. Interest rates applicable to amounts outstanding under this facility are at variable rates based on the1-month LIBOR rate plus 2.85%. A change in interest rates on this variable rate debt impacts the interest incurred and cash flows but does not impact the fair value of the instrument. We had outstanding borrowings of $19.5 million on the term loan at December 31, 2008 at an average rate of 5.18% and 4.53% for the quarter and year ended December 31, 2008, respectively. A one percent increase in the interest rate would have increased interest expense by $0.2 million for the twelve months ended December 31, 2008.
We also have exposure to market rate risk for changes in interest rates as those rates relate to our investment portfolio. The primary objective of our investment activities is to preserve principal while at the same time maximizing yields without significantly increasing risk. To achieve this objective, we invest our excess cash in debt instruments of the United States Government and its agencies, in high-quality corporate issuers and, by internal policy, limit both the term and amount of credit exposure to any one issuer. As of December 31, 2008, net unrealized gains and losses on these investments were not material. We did not hold any investments in either auction rate securities or collateralized debt obligations as of December 31, 2008. We attempt to protect and preserve our invested funds by limiting default, market and reinvestment risk. Our future investment income may fluctuate due to changes in interest rates, or we may suffer losses in principal if forced to sell securities that have declined in market value due to changes in interest rates. A one percent decrease in average interest rates would have decreased interest income by $ $0.7 million for the twelve months ended December 31, 2008.
Investment Risk
In 2008, we were exposed to market rate risk due to changes in fair value of the publicly-traded securities of TurboChef. In 2008, TurboChef issued to us 381,049 shares of TurboChef stock and a warrant to purchase 454,000 shares of TurboChef stock together valued at approximately $5 million on the date of issuance. In accordance with Statement of Financial Accounting Standards (“SFAS”) No
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115,Accounting for Certain Investments in Debt and Equity Securities, the TurboChef shares are considered available-for-sale-securities and are recorded at fair value each quarter, with adjustments recorded in other comprehensive income. As of December 31, 2008, the fair market value of TurboChef shares of $1.9 million was below our actual carrying value. We determined that the decrease in fair market value of these shares was other than temporary and accordingly, we recognized a charge in the amount of $1.1 million which was recorded in other expense in the statement of operations.
The warrant meets the definition of a derivative in accordance with SFAS No. 133,Accounting for Derivative Instruments and Hedging Activitiesand is marked to market each quarter with the adjustment recorded in other income or other expense. For the year ended December 31, 2008, we recorded a $1.1 million loss in other expense in the statement of operations.
Non-cash amounts related to this agreement have been appropriately adjusted in the cash flows from operating activities in the statement of cash flows.
On January 5, 2009, the Middleby Corporation completed its acquisition of TurboChef in a cash and stock transaction. Under the terms of the merger agreement, holders of TurboChef’s common shares will receive a combination of $3.67 in cash and 0.0486 Middleby shares of common stock per TurboChef share. The consideration upon acquisition would equate to $1.9 million which represents $1.4 million in cash and 18,518 shares of Middleby worth $0.5 million on January 5, 2009. The original warrant converted into a warrant to acquire 24,607 shares of Middleby Common Stock at a price per share of $88.38.
Our maximum exposure is an additional loss of approximately $2.8 million. However, there is no corresponding limit to the income that may be recognized due to an increase in fair value of the underlying shares.
Item 8. Financial Statements and Supplementary Data.
The information required by this Item is set forth on pages F-1 throughF-33 of this Annual Report onForm 10-K and is incorporated by reference herein.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
None.
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Item 9A. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our Principal Executive Officer and our Principal Financial Officer, we evaluated the effectiveness of our disclosure controls and procedures (as defined inRules 13a-15(e) and15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) required by Exchange ActRules 13a-15(b) or15d-15(e)), as of the end of the period covered by this report. Based upon that evaluation, our Principal Executive Officer and Principal Financial Officer concluded that our disclosure controls and procedures were effective as of that date to provide reasonable assurance that the information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and include controls and procedures designed to ensure that information required to be disclosed by us in such reports is accumulated and communicated to our management, including the Principal Executive Officer and Principal Financial Officer, as appropriate to allow timely decision regarding required disclosure.
Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Under the supervision and with the participation of our management, including our Principal Executive Officer and Principal Financial Officer, we assessed the effectiveness of our internal control over financial reporting as of the end of the period covered by this report based on the framework in “Internal Control — Integrated Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on that assessment, our Principal Executive Officer and Principal Financial Officer concluded that our internal control over financial reporting was effective to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of our financial statements for external purposes in accordance with United States generally accepted accounting principles.
Our independent registered public accounting firm, Ernst & Young LLP, has issued an attestation report on our internal control over financial reporting. The attestation report is included herein.
Evaluation of Changes in Internal Control Over Financial Reporting
Under the supervision and with the participation of our management, including our Principal Executive Officer and Principal Financial Officer, we have determined that, during the fourth quarter of fiscal 2008, there were no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of Martha Stewart Living Omnimedia, Inc.:
We have audited Martha Stewart Living Omnimedia, Inc.’s internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). The Company’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, Martha Stewart Living Omnimedia, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Martha Stewart Living Omnimedia, Inc. as of December 31, 2008 and 2007, and the related consolidated statements of operations, shareholders’ equity and comprehensive loss, and cash flows for each of the three years in the period ended December 31, 2008 and our report dated March 16, 2009 expressed an unqualified opinion thereon.
/s/ Ernst & Young
New York, New York
March 16, 2009
March 16, 2009
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Item 9B. Other Information.
None.
PART III
Item 10. Directors, Executive Officers and Corporate Governance.
The information required by this Item is set forth in our Proxy Statement for our 2009 annual meeting of stockholders (our “Proxy Statement”) under the captions “ELECTION OF DIRECTORS— Information Concerning Nominees,” “INFORMATION CONCERNING EXECUTIVE OFFICERS AND OUR FOUNDER,” “MEETINGS AND COMMITTEES OF THE BOARD— Code of Ethics” and “— Audit Committee,” and “SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE” and is hereby incorporated herein by reference.
Item 11. Executive Compensation.
The information required by this Item is set forth in our Proxy Statement under the captions“MEETINGS AND COMMITTEES OF THE BOARD— Compensation Committee Interlocks and Insider Participation,”“COMPENSATION OF OUTSIDE DIRECTORS,” “DIRECTOR COMPENSATION TABLE,” “COMPENSATION COMMITTEE REPORT,” “COMPENSATION DISCUSSION AND ANALYSIS,” “SUMMARY COMPENSATION TABLE,” “GRANTS OF PLAN-BASED AWARDS IN 2008,” “EXECUTIVE COMPENSATION AGREEMENTS,” “OUTSTANDING EQUITY AWARDS AT FISCAL YEAR-END 2008,” “OPTION EXERCISES AND STOCK VESTED DURING 2008,”and“POTENTIAL PAYMENTS UPON TERMINATION OR CHANGE IN CONTROL”and is hereby incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.
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Equity Compensation Plan Information
The following table sets forth certain information regarding our equity compensation plans as of December 31, 2008.
EQUITY COMPENSATION PLAN INFORMATION
| Number of | ||||||||||||
| Securities | ||||||||||||
| Number of | Remaining Available | |||||||||||
| Securities to be | for Future Issuance | |||||||||||
| Issued upon | Weighted-Exercise | Under Equity | ||||||||||
| Exercise of | Price of | Compensation Plans | ||||||||||
| Outstanding | Outstanding | (Excluding | ||||||||||
| Options, Warrants | Options, Warrants | Securities | ||||||||||
Plan Category | and Rights | and Rights | Reflected in Column | |||||||||
| Equity Compensation plans approved by security holders: | ||||||||||||
| Options (1) | 4,388,891 | $ | 11.90 | n/a | ||||||||
| Restricted shares (2) | 1,187,931 | (3) | n/a | n/a | ||||||||
| Total | 5,576,822 | n/a | 8,548,459 | (4) | ||||||||
| Equity Compensation plans not approved by security holders: | ||||||||||||
| Warrants | 416,667 | (5) | $ | 12.59 | n/a | |||||||
Total | 5,993,489 | n/a | n/a | |||||||||
| (1) | We adopted and made grants under the MSLO LLC Nonqualified Class A LLC Unit/Stock Option Plan in November 1997 (the “1997 Plan”). In connection with our initial public offering, the 509,841 LLC unit options then outstanding were converted into options to purchase 1,997,374 shares of the Class A Common Stock. All options granted under the 1997 Plan have now vested. In connection with the 1997 Plan, Ms. Stewart periodically returns to us a number of shares of Class B Common Stock beneficially owned by her, corresponding, on a net treasury basis, to the number of option exercises under this plan during the relevant period. Under the net treasury method, we subtract from the number of shares resulting from each option exercise the number of shares we could purchase, at the then-current market price, with dollars equal to the option proceeds from such exercise and the value of the tax benefit we receive from the exercise. Ms. Stewart returns to us a number of shares of our Class B Common Stock equal to the sum of the results of these calculations for the relevant period. No options remain outstanding under the 1997 Plan and no further awards will be made from the 1997 Plan. | |
| (2) | The Company routinely issues restricted stock as equity compensation pursuant to the terms of its equity compensation plans. As a result, the table includes data with respect to shares of restricted stock that have been granted to more fully illustrate the balances under its equity compensation plans. | |
| (3) | 200,000 restricted shares included in this figure are subject to market condition vesting criteria. | |
| (4) | Represents total number of shares reserved for issuance under the Omnibus Stock and Option Compensation Plan, less options and restricted stock issued under this plan, plus any forfeited awards and tax shares returned to such plans. There are no shares available for issuance under the 1997 Plan. | |
| (5) | Warrant to purchase 833,333 shares was exercised in part in January 2007. The 416,666 shares represented by the remainder of this warrant became fully vested in July 2007. |
The information required by this Item regarding beneficial ownership of our equity securities is set forth in our Proxy Statement under the caption “SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT” and is hereby incorporated herein by reference.
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Item 13. Certain Relationships and Related Transactions, and Director Independence.
The information required by this Item is set forth in our Proxy Statement under the caption “CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS” and “MEETING AND COMMITTEES OF THE BOARD— Corporate Governance” and is hereby incorporated herein by reference.
Item 14. Principal Accountant Fees and Services.
The information required by this Item is set forth in our Proxy Statement under the caption “AUDIT FEES” and is hereby incorporated herein by reference.
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PART IV
Item 15. Exhibits and Financial Statement Schedules.
(a) (1) and (2) Financial Statements and Schedules: Seepage F-1 of this Annual Report onForm 10-K.
(3) Exhibits:
| Exhibit | ||||
Number | Exhibit Title | |||
| 2.1 | — | Asset Purchase Agreement dated as of February 19, 2008 among Emeril’s Food of Love Productions, L.L.C., emerils.com, LLC and Emeril J. Lagasse, III, as the Sellers, and Martha Stewart Living Omnimedia, Inc. and MSLO Shared IP Sub LLC, as the Buyers (incorporated by reference to Exhibit 99.1 to our Current Report onForm 8-K (file number001-15395) filed on February 19, 2008). | ||
| 3.1 | — | Martha Stewart Living Omnimedia, Inc.’s Certificate of Incorporation (incorporated by reference to Exhibit 3.1 to our Registration Statement onForm S-1, as amended, File Number333-84001 (the “Registration Statement”)). | ||
| 3.2 | — | Martha Stewart Living Omnimedia, Inc.’s By-Laws (incorporated by reference to Exhibit 3.2 to our Quarterly Report onForm 10-Q (file number001-15395) for the quarter ended June 30, 2008 (“June 200810-Q”)). | ||
| 4.1 | — | Warrant to purchase shares of Class A Common Stock, dated August 11, 2006 (incorporated by reference to Exhibit 4.2 to our Quarterly Report onForm 10-Q (file number001-15395) for the quarter ended September 30, 2006 (“September 30, 200610-Q”)). | ||
| 10.1† | — | 1999 Stock Incentive Plan (incorporated by reference to the Registration Statement), as amended by Exhibits 10.1.1, 10.1.2 and 10.1.3. | ||
| 10.1.1† | — | Amendment No. 1 to the 1999 Stock Incentive Plan, dated as of March 9, 2000 (incorporated by reference to our Annual Report onForm 10-K for the year ended December 31, 1999, File Number001-15395 (the “199910-K”)) as amended by Exhibits 10.1.2 and 10.1.3. | ||
| 10.1.2† | — | Amendment No. 2 to the Amended and Restated 1999 Stock Incentive Plan, dated as of May 11, 2000 (incorporated by reference to our Quarterly Report onForm 10-Q for the quarter ended June 30, 2000 (the “June 200010-Q”)) as amended by Exhibit 10.1.3. | ||
| 10.1.3† | — | Amendment No. 3 to the Amended and Restated 1999 Stock Incentive Plan (incorporated by reference to our Current Report onForm 8-K filed on May 17, 2005 (the “May 17, 20058-K”)). | ||
| 10.2† | — | 1999 Non-Employee Director Stock and Option Compensation Plan (incorporated by reference to the Registration Statement) as amended by Exhibit 10.2.1. | ||
| 10.2.1† | — | Amendment No. 1 to the Martha Stewart Living Omnimedia, Inc. Non-Employee Director Stock and Option Compensation Plan (incorporated by reference to the May 17, 20058-K). | ||
| 10.3† | — | Martha Stewart Living Omnimedia LLC Nonqualified Class A LLC Unit/Stock Option Plan (incorporated by reference to the Registration Statement). | ||
| 10.4 | — | Form of Intellectual Property License and Preservation Agreement, dated as of October 22, 1999, by and between Martha Stewart Living Omnimedia, Inc. and Martha Stewart (incorporated by reference to Exhibit 10.8 to the Registration Statement) as amended by Exhibit 10.4.1. | ||
| 10.4.1 | — | Letter Agreement dated September 17, 2004 between Martha Stewart Living Omnimedia, Inc. and Martha Stewart (incorporated by reference to Exhibit 10.3 to our Current Report onForm 8-K (file number001-15395) filed on September 23, 2004 (“September 23, 20048-K”)). | ||
| 10.5 | — | Lease, dated as of September 24, 1992, between Tishman Speyer Silverstein Partnership and Time Publishing Ventures, Inc., as amended by First Amendment of Lease dated as of September 24, 1994 between 11 West 42 Limited Partnership and Time Publishing Ventures, Inc. (incorporated by reference to Exhibit 10.10 to the Registration Statement). | ||
| 10.6 | — | Lease, dated as of March 31, 1998, between 11 West 42 Limited Partnership and Martha Stewart Living Omnimedia LLC (incorporated by reference to Exhibit 10.11 to the Registration Statement). | ||
| 10.7 | — | Lease, dated August 20, 1999, between 601 West Associates LLC and Martha Stewart Living Omnimedia LLC (incorporated by reference to Exhibit 10.12 to the Registration Statement) as amended by Exhibits 10.7.1 and 10.7.2. | ||
| 10.7.1 | — | First Lease Modification Agreement, dated December 24, 1999, between 601 West Associates LLC and Martha Stewart Living Omnimedia, Inc. (incorporated by reference to Exhibit 10.12.1 to our Annual Report onForm 10-K (file number001-15395) for the year ended December 31, 1999) as amended by Exhibit 10.7.2. |
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| Exhibit | ||||
Number | Exhibit Title | |||
| 10.7.2 | Sixth Lease Modification Agreement, dated as of June 14, 2007, between 601 West Associates LLC and Martha Stewart Living Omnimedia, Inc (incorporated by reference to Exhibit 10.1 to our Quarterly Report onForm 10-Q (file number001-15395) for the quarter ended March 31, 2008 (“March 200810-Q”)). | |||
| 10.8 | — | Lease, dated as of October 1, 2000, between Newtown Group Properties Limited Partnership and Martha Stewart Living Omnimedia, Inc. (incorporated by reference to Exhibit 10.1 our Quarterly Report onForm 10-Q (file number001-15395) for the quarter ended June 30, 2001(the “June 200110-Q”)). | ||
| 10.9 | — | License Agreement, dated June 21, 2001 by and between Kmart Corporation and MSO IP Holdings, Inc. (incorporated by reference to Exhibit 10.3 to the June 200110-Q) as amended by Exhibit 10.9.1. | ||
| 10.9.1 | — | Amendment, dated as of April 22, 2004 to the License Agreement, by and between MSO IP Holdings, Inc. and Kmart Corporation, dated June 21, 2001 (incorporated by reference to Exhibit 10.1 to our Quarterly Report onForm 10-Q (file number001-15395) for the quarter ended June 30, 2004). | ||
| 10.10† | — | Split-Dollar Life Insurance Agreement, dated February 28, 2001, by and among Martha Stewart Living Omnimedia, Inc., Martha Stewart and The Martha Stewart Family Limited Partnership (incorporated by reference to Exhibit 10.17 to our Annual Report onForm 10-K (file number001-15395) for the year ended December 31, 2000) as amended by Exhibits 10.10.1 and 10.10.2. | ||
| 10.10.1† | — | Amendment, dated January 28, 2002, to Split-Dollar Life Insurance Agreement, dated February 28, 2001, by and between Martha Stewart Living Omnimedia, Inc., Martha Stewart and The Martha Stewart Family Limited Partnership (incorporated by reference to Exhibit 10.14.2 to our Annual Report onForm 10-K (file number001-15395) for the year ended December 31, 2001) as amended by Exhibit 10.10.2. | ||
| 10.10.2† | — | Amendment, dated as of January 1, 2003, to Split-Dollar Life Insurance Agreement, dated February 28, 2001, as amended, by and among Martha Stewart Living Omnimedia, Inc., Martha Stewart and The Martha Stewart Family Limited Partnership (incorporated by reference to Exhibit 10.14.3 to our Annual Report onForm 10-K (file number001-15395) for the year ended December 31, 2002). | ||
| 10.11† | — | Employment Agreement dated as of September 17, 2004, between Martha Stewart Living Omnimedia, Inc. and Martha Stewart (incorporated by reference to Exhibit 10.1 to September 23, 20048-K) as amended by Exhibit 10.11.1. | ||
| 10.11.1*† | — | First Amendment, dated as of December 23, 2008, to the Employment Agreement dated as of September 17, 2004, between Martha Stewart Living Omnimedia, Inc. and Martha Stewart. | ||
| 10.12 | — | Intangible Asset License Agreement dated as of June 13, 2008 between Martha Stewart Living Omnimedia, Inc. and MS Real Estate Management Company (incorporated by reference to Exhibit 10.9 to our June 200810-Q). | ||
| 10.13† | — | Stock Option Agreement dated as of November 11, 2004, between Martha Stewart Living Omnimedia, Inc. and Susan Lyne (incorporated by reference to Exhibit 99.3 to the November 16, 20048-K). | ||
| 10.14† | — | 2005 Executive Severance Pay Plan (incorporated by reference to Exhibit 10.1 to our Current Report onForm 8-K (file number001-15395) filed on January 6, 2005). | ||
| 10.15† | — | Form of Restricted Stock Award Agreement for use under the Martha Stewart Living Omnimedia, Inc. Amended and Restated 1999 Stock Inventive Plan (incorporated by reference to Exhibit 10.1 to our Current Report onForm 8-K (file number001-15395) filed on January 14, 2005). | ||
| 10.16† | — | Registration Rights Agreement between Charles A. Koppelman and Martha Stewart Living Omnimedia, Inc. dated January 24, 2005 (incorporated by reference to Exhibit 10.3 to our Current Report onForm 8-K (file number001-15395) filed on October 21, 2005). | ||
| 10.17† | — | Employment Agreement dated as of July 24, 2006, between Martha Stewart Living Omnimedia, Inc. and Howard Hochhauser (incorporated by reference to Exhibit 10.2 to our Current Report onForm 8-K (file number001-15395) filed on July 26, 2006). | ||
| 10.18 | — | Warrant Registration Rights Agreement dated as of August 11, 2006, between Martha Stewart Living Omnimedia, Inc. and Mark Burnett (incorporated by reference to Exhibit 10.3 to our September 30, 200610-Q). | ||
| 10.19† | — | Bonus Conversion Policy (incorporated by reference to Exhibit 10.1 to our Current Report onForm 8-K filed on February 27, 2007). | ||
| 10.20† | — | Form of Restricted Stock Unit Award Agreement under the Amended and Restated 1999 Stock Incentive Plan (incorporated by reference to Exhibit 10.2 to our Current Report onForm 8-K (file number001-15395) filed on February 27, 2007). | ||
| 10.21† | — | Employment Agreement dated as of October 1, 2007 between Martha Stewart Living Omnimedia, Inc. and Gregory Barton (incorporated by reference to Exhibit 10.41 to our Annual Report onForm 10-K (file number001-15395) for the year ended December 31, 2007, (the “200710-K”)). |
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| Exhibit | ||||
Number | Exhibit Title | |||
| 10.22† | — | 2008 Executive Severance Pay Plan (incorporated by reference to Exhibit 10.4 to our Quarterly Report onForm 10-Q (file number001-15395) for the quarter ended September 30, 2007 (“September 200710-Q”)). | ||
| 10.23 | — | Publicity Rights Agreement dated as of April 2, 2008 by and among Martha Stewart Living Omnimedia, Inc., MSLO Shared IP Sub LLC and Emeril J. Lagasse, III (incorporated by reference to Exhibit 10.4 to our March 200810-Q). | ||
| 10.24 | — | Loan Agreement dated as of April 4, 2008 by and among Bank of America, N.A., MSLO Emeril Acquisition Sub LLC and Martha Stewart Living Omnimedia, Inc. (incorporated by reference to Exhibit 10.6 to our March 200810-Q). | ||
| 10.25 | — | Pledge Agreement dated as of April 4, 2008 by and among Bank of America, N.A., as collateral agent (incorporated by reference to Exhibit 10.7 to our March 200810-Q). | ||
| 10.26** | — | Security Agreement dated as of July 31, 2008 among Martha Stewart Living Omnimedia, Inc., MSLO Emeril Acquisition Sub LLC, and Bank of America, N.A. (incorporated by reference to Exhibit 10.1 to our Quarterly Report onForm 10-Q (file number001-15395) for the quarter ended September 30, 2008 (“September 200810-Q”)). | ||
| 10.27 | — | Continuing and Unconditional Guaranty dated as of April 4, 2008 executed by Martha Stewart Living Omnimedia, Inc., MSO IP Holdings, Inc., Martha Stewart, Inc., Body and Soul Omnimedia, Inc., MSLO Productions, Inc., MSLO Productions — Home, Inc., MSLO Productions — EDF, Inc. and Flour Productions, Inc. (incorporated by reference to Exhibit 10.8 to our March 200810-Q). | ||
| 10.28 | — | Registration Rights Agreement dated as of April 2, 2008 by and among Martha Stewart Living Omnimedia, Inc., Emeril’s Food of Love Productions, L.L.C., emerils.com, LLC and Emeril J. Lagasse, III (incorporated by reference to Exhibit 10.9 to our March 200810-Q). | ||
| 10.29† | — | New Director Compensation Program as of May 20, 2008 (incorporated by reference to Exhibit 10.1 to our June 200810-Q). | ||
| 10.30† | — | Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan (incorporated by reference to Exhibit 99.1 to our Current Report onForm 8-K (file number001-15395) filed on May 20, 2008 (“May 20, 20088-K”)). | ||
| 10.31† | — | Form of Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Stock Option Agreement and forms of related Notices (incorporated by reference to Exhibit 99.2 to our May 20, 20088-K). | ||
| 10.32† | — | Form of Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Restricted Stock Unit Agreement (incorporated by reference to Exhibit 99.3 to our May 20, 20088-K). | ||
| 10.33† | — | Form of Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Restricted Stock Grant Agreement (incorporated by reference to Exhibit 99.4 to our May 20, 20088-K). | ||
| 10.34† | — | Form of Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Stock Appreciation Right Agreement and form of related Notice (incorporated by reference to Exhibit 99.5 to our May 20, 20088-K). | ||
| 10.35† | — | Form of Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Stock Grant Agreement and form of related Acknowledgement (incorporated by reference to Exhibit 99.6 to our May 20, 20088-K). | ||
| 10.36† | — | Separation Agreement dated as of June 10, 2008 between Martha Stewart Living Omnimedia, Inc. and Susan Lyne (incorporated by reference to Exhibit 10.8 to our June 200810-Q). | ||
| 10.37† | — | Employment Agreement dated as of September 17, 2008 between Martha Stewart Living Omnimedia, Inc. and Charles A. Koppelman (incorporated by reference to Exhibit 10.2 to our September 200810-Q). | ||
| 10.38† | — | Employment Agreement dated as of September 17, 2008 between Martha Stewart Living Omnimedia, Inc. and Wenda Harris Millard (incorporated by reference to Exhibit 10.3 to our September 200810-Q). | ||
| 10.39† | — | Employment Agreement dated as of September 17, 2008 between Martha Stewart Living Omnimedia, Inc. and Robin Marino (incorporated by reference to Exhibit 10.4 to our September 200810-Q). | ||
| 10.40† | — | Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Restricted Stock Grant Agreement dated October 1, 2008 between Martha Stewart Living Omnimedia, Inc. and Charles Koppelman (incorporated by reference to Exhibit 10.5 to our September 200810-Q). | ||
| 10.41† | — | Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Stock Option Grant Agreement and form of related Notice dated October 1, 2008 between Martha Stewart Living Omnimedia, Inc. and Charles Koppelman (incorporated by reference to Exhibit 10.6 to our September 200810-Q). |
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| Exhibit | ||||
Number | Exhibit Title | |||
| 10.42† | — | Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Restricted Stock Grant Agreement dated October 1, 2008 between Martha Stewart Living Omnimedia, Inc. and Wenda Harris Millard (incorporated by reference to Exhibit 10.7 to our September 200810-Q). | ||
| 10.43† | — | Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Stock Option Grant Agreement and form of related Notice dated October 1, 2008 between Martha Stewart Living Omnimedia, Inc. and Wenda Harris Millard (incorporated by reference to Exhibit 10.8 to our September 200810-Q). | ||
| 10.44† | — | Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Restricted Stock Grant Agreement dated October 1, 2008 between Martha Stewart Living Omnimedia, Inc. and Robin Marino (incorporated by reference to Exhibit 10.9 to our September 200810-Q). | ||
| 10.45† | — | Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan Stock Option Grant Agreement and form of related Notice dated October 1, 2008 between Martha Stewart Living Omnimedia, Inc. and Robin Marino (incorporated by reference to Exhibit 10.10 to our September 200810-Q). | ||
| 10.46*† | — | Martha Stewart Living Omnimedia, Inc. Director Deferral Plan. | ||
| 10.47*† | — | Martha Stewart Living Omnimedia, Inc. Non-Employee Director Stock and Option Compensation Plan Deferral Election Form dated July 1, 2004 and Clarification dated December 23, 2008 between Martha Stewart Living Omnimedia, Inc. and Michael Goldstein. | ||
| 10.48† | — | Form of Performance-Based Restricted Stock Unit Agreement pursuant to the Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan (incorporated by reference to Exhibit 10.1 to our Current Report onForm 8-K (file number001-15395) filed on February 6, 2009). | ||
| 14.1 | — | Code of Business Conduct and Ethics (incorporated by reference to Exhibit 14.1 to our Current Report onForm 8-K (file number001-15395) filed on February 27, 2007). | ||
| 21* | — | List of Subsidiaries. | ||
| 23.1* | — | Consent of Independent Registered Public Accounting Firm. | ||
| 31.1* | — | Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | ||
| 31.2* | — | Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | ||
| 32* | — | Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
† indicates management contracts and compensatory plans
* indicates filed herewith
| ** | Schedules and exhibits to this Agreement have been omitted. The Company agrees to furnish a supplemental copy of any omitted schedule or exhibit to the Securities and Exchange Commission upon request. |
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Disclosures Required by Section 303A.12 of the NYSE Listed Company Manual. Section 303A.12 of the New York Stock Exchange Listed Company Manual requires the Principal Executive Officer of each listed company to certify to the NYSE each year that he or she is not aware of any violation by the listed company of any of the NYSE corporate governance listing standards. Our Principal Executive Officer submitted the required certification without qualification to the NYSE as of May 2008. In addition, the certifications of the Principal Executive Officer and the Principal Financial Officer required by Section 302 of the Sarbanes-Oxley Act of 2002 (the “SOX 302 Certifications”) with respect to our disclosures in our Annual Report onForm 10-K for the year ended December 31, 2008 were filed as Exhibits 31.1 and 31.2 to such Annual Report onForm 10-K. The SOX 302 Certifications with respect to our disclosures in our Annual Report onForm 10-K for the year ended December 31, 2008 are being filed as Exhibits 31.1 and 31.2 to this Annual Report onForm 10-K.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
MARTHA STEWART LIVING OMNIMEDIA, INC.
| By: | /s/ Charles Koppelman |
Name: Charles Koppelman
| Title: | Principal Executive Officer |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the date indicated.
Signature | Title | |||
/s/ Charles Koppelman Charles Koppelman | Principal Executive Officer & Executive Chairman of the Board | |||
/s/ Allison Jacques Allison Jacques | Principal Financial and Accounting Officer | |||
/s/ Charlotte Beers Charlotte Beers | Director | |||
/s/ Michael Goldstein Michael Goldstein | Director | |||
/s/ Arlen Kantarian Arlen Kantarian | Director | |||
/s/ William Roskin William Roskin | Director | |||
/s/ Todd Slotkin Todd Slotkin | Director | |||
Each of the above signatures is affixed as of March 16, 2009.
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INDEX TO CONSOLIDATED FINANCIAL STATEMENTS,
FINANCIAL STATEMENT SCHEDULES AND OTHER
FINANCIAL INFORMATION
| Consolidated Financial Statements: | ||
| F-2 | ||
| F-3 | ||
| F-4 | ||
| F-5 | ||
| F-6 | ||
| F-7 | ||
| II – Valuation and Qualifying Accounts for the years ended December 31, 2008, 2007 and 2006 | F-33 |
All other schedules are omitted because they are not applicable or the required information is shown in the Consolidated Financial Statements or Notes thereto.
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of Martha Stewart Living Omnimedia, Inc.:
We have audited the accompanying consolidated balance sheets of Martha Stewart Living Omnimedia, Inc. as of December 31, 2008 and 2007, and the related consolidated statements of operations, shareholders’ equity and comprehensive loss, and cash flows for each of the three years in the period ended December 31, 2008. Our audits also included the financial statement schedule listed in the Index at Item 15(a). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Martha Stewart Living Omnimedia, Inc. at December 31, 2008 and 2007, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2008, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
As discussed in Note 10 to the consolidated financial statements, effective January 1, 2007, Martha Stewart Living Omnimedia Inc. adopted Financial Accounting Standards Board Interpretation 48, Accounting for Uncertainty in Income Taxes — an interpretation of Statement of Financial Accounting Standards No. 109.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Martha Stewart Living Omnimedia Inc.’s internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 16, 2009 expressed an unqualified opinion thereon.
/s/ Ernst & Young
New York, New York
March 16, 2009
March 16, 2009
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MARTHA STEWART LIVING OMNIMEDIA, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended December 31, 2008, 2007 and 2006
(in thousands except share and per share data)
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended December 31, 2008, 2007 and 2006
(in thousands except share and per share data)
| 2008 | 2007 | 2006 | ||||||||||
REVENUES | ||||||||||||
| Publishing | $ | 163,540 | $ | 183,727 | $ | 156,559 | ||||||
| Merchandising | 57,866 | 84,711 | 69,504 | |||||||||
| Internet | 15,576 | 19,189 | 15,775 | |||||||||
| Broadcasting | 47,328 | 40,263 | 46,503 | |||||||||
Total revenues | 284,310 | 327,890 | 288,341 | |||||||||
OPERATING COSTS AND EXPENSES | ||||||||||||
| Production, distribution and editorial | 136,709 | 154,921 | 138,213 | |||||||||
| Selling and promotion | 71,504 | 89,179 | 74,190 | |||||||||
| General and administrative | 69,632 | 68,514 | 70,173 | |||||||||
| Depreciation and amortization | 7,973 | 7,562 | 8,598 | |||||||||
| Impairment charge | 9,349 | – | – | |||||||||
Total operating costs and expenses | 295,167 | 320,176 | 291,174 | |||||||||
OPERATING (LOSS)/INCOME | (10,857) | 7,714 | (2,833) | |||||||||
| Interest income, net | 490 | 2,771 | 4,511 | |||||||||
| Other income/expense | – | 432 | (17,090) | |||||||||
| Loss on equity securities | (2,221) | – | – | |||||||||
| Loss in equity interest | (763) | – | – | |||||||||
(LOSS)/INCOME BEFORE INCOME TAXES | (13,351) | 10,917 | (15,412) | |||||||||
| Income tax provision | (2,314) | (628) | (838) | |||||||||
(LOSS)/INCOME FROM CONTINUING OPERATIONS | (15,665) | 10,289 | (16,250) | |||||||||
| Loss from discontinued operations | – | – | (745) | |||||||||
NET (LOSS)/INCOME | $ | (15,665) | $ | 10,289 | $ | (16,995) | ||||||
(LOSS) / INCOME PER SHARE | ||||||||||||
| Basic and diluted - (loss)/income from continuing operations | $ | (0.29) | $ | 0.20 | $ | (0.32) | ||||||
| Basic and diluted - Loss from discontinued operations | – | – | (0.01) | |||||||||
| Basic and diluted - Net (loss)/income | $ | (0.29) | $ | 0.20 | $ | (0.33) | ||||||
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING | ||||||||||||
| Basic | 53,360 | 52,449 | 51,312 | |||||||||
| Diluted | 53,360 | 52,696 | 51,312 | |||||||||
DIVIDENDS PER COMMON SHARE | n/a | n/a | $ | 0.50 | ||||||||
The accompanying notes are an integral part of these consolidated financial statements.
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MARTHA STEWART LIVING OMNIMEDIA, INC.
CONSOLIDATED BALANCE SHEETS
December 31, 2008 and 2007
(in thousands except share and per share data)
CONSOLIDATED BALANCE SHEETS
December 31, 2008 and 2007
(in thousands except share and per share data)
| 2008 | 2007 | |||||||
ASSETS | ||||||||
CURRENT ASSETS | ||||||||
| Cash and cash equivalents | $ | 50,204 | $ | 30,536 | ||||
| Short — term investments | 9,915 | 26,745 | ||||||
| Accounts receivable, net | 52,500 | 94,195 | ||||||
| Inventory | 6,053 | 4,933 | ||||||
| Deferred television production costs | 4,076 | 5,316 | ||||||
| Income taxes receivable | 40 | 513 | ||||||
| Other current assets | 3,712 | 3,921 | ||||||
Total current assets | 126,500 | 166,159 | ||||||
PROPERTY, PLANT AND EQUIPMENT,net | 14,422 | 17,086 | ||||||
GOODWILL AND OTHER INTANGIBLE ASSETS,net | 93,312 | 53,605 | ||||||
INVESTMENTS IN EQUITY INTEREST,net | 5,749 | – | ||||||
OTHER NONCURRENT ASSETS | 21,302 | 18,417 | ||||||
Total assets | $ | 261,285 | $ | 255,267 | ||||
| LIABILITIES AND SHAREHOLDERS’ EQUITY | ||||||||
CURRENT LIABILITIES | ||||||||
| Accounts payable and accrued liabilities | $ | 27,877 | $ | 27,425 | ||||
| Accrued payroll and related costs | 7,525 | 13,863 | ||||||
| Income taxes payable | 142 | 1,246 | ||||||
| Current portion of deferred subscription revenue | 22,597 | 25,578 | ||||||
| Current portion of other deferred revenue | 7,582 | 5,598 | ||||||
Total current liabilities | 65,723 | 73,710 | ||||||
DEFERRED SUBSCRIPTION REVENUE | 6,874 | 9,577 | ||||||
OTHER DEFERRED REVENUE | 13,334 | 14,482 | ||||||
LOAN PAYABLE | 19,500 | – | ||||||
DEFERRED INCOME TAX LIABILITY | 1,854 | – | ||||||
OTHER NONCURRENT LIABILITIES | 3,005 | 1,969 | ||||||
Total liabilities | 110,290 | 99,738 | ||||||
COMMITMENTS AND CONTINGENCIES | ||||||||
SHAREHOLDERS’ EQUITY | ||||||||
| Class A Common Stock, $.01 par value, 350,000 shares authorized; 28,204 and 26,738 shares outstanding in 2008 and 2007, respectively | 282 | 267 | ||||||
| Class B Common Stock, $.01 par value, 150,000 shares authorized; 26,690 and 26,722 shares outstanding 2008 and 2007, respectively | 267 | 267 | ||||||
| Capital in excess of par value | 283,248 | 272,132 | ||||||
| Accumulated deficit | (132,027) | (116,362) | ||||||
| 151,770 | 156,304 | |||||||
| Less Class A treasury stock – 59 shares at cost | (775) | (775) | ||||||
Total shareholders’ equity | 150,995 | 155,529 | ||||||
Total liabilities and shareholders’ equity | $ | 261,285 | $ | 255,267 | ||||
The accompanying notes are an integral part of these consolidated financial statements.
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MARTHA STEWART LIVING OMNIMEDIA, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY AND
COMPREHENSIVE LOSS
For the Years Ended December 31, 2008, 2007 and 2006
(in thousands)
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY AND
COMPREHENSIVE LOSS
For the Years Ended December 31, 2008, 2007 and 2006
(in thousands)
| Class A | Class B | Class A | ||||||||||||||||||||||||||||||||||||||
| Common Stock | Common Stock | Accumulated | Treasury Stock | |||||||||||||||||||||||||||||||||||||
| Capital in | Other | |||||||||||||||||||||||||||||||||||||||
| excess of | Accumulated | Comprehensive | ||||||||||||||||||||||||||||||||||||||
| Shares | Amount | Shares | Amount | par value | Deficit | Loss | Shares | Amount | Total | |||||||||||||||||||||||||||||||
Balance at January 1,2006 | 24,882 | $ | 249 | 26,873 | $ | 269 | $ | 242,770 | $ | (81,882) | $ | – | (59) | $ | (775) | $ | 160,631 | |||||||||||||||||||||||
| Net loss | – | – | – | – | – | (16,995) | – | – | – | (16,995) | ||||||||||||||||||||||||||||||
| Conversion of shares | – | – | – | – | – | – | – | – | – | – | ||||||||||||||||||||||||||||||
| Shares returned on net treasury basis | – | – | (82) | (1) | 1 | – | – | – | – | – | ||||||||||||||||||||||||||||||
| Issuance of shares in conjunction with stock options exercises | 151 | 1 | – | – | 1,582 | – | – | – | – | 1,583 | ||||||||||||||||||||||||||||||
| Issuance of shares of stock and restricted stock, net of cancellations and tax withholdings | 332 | 3 | – | – | (794) | – | – | – | – | (791) | ||||||||||||||||||||||||||||||
| Common stock dividends | – | – | – | – | – | (26,934) | – | – | – | (26,934) | ||||||||||||||||||||||||||||||
| Issuance of shares in conjunction with warrant exercises | 744 | 8 | – | – | – | – | – | – | – | 8 | ||||||||||||||||||||||||||||||
| Equity charge associated with common stock warrant | – | – | – | – | 2,261 | – | – | – | – | 2,261 | ||||||||||||||||||||||||||||||
| Non-cash equity compensation | – | – | – | – | 11,194 | – | – | – | – | 11,194 | ||||||||||||||||||||||||||||||
| Balance at December 31, 2006 | 26,109 | 261 | 26,791 | 268 | 257,014 | (125,811) | – | (59) | (775) | 130,957 | ||||||||||||||||||||||||||||||
| Net income | – | – | – | – | – | 10,289 | – | – | – | 10,289 | ||||||||||||||||||||||||||||||
| Cumulative effect of adoption of FIN 48 | – | – | – | – | – | (840) | – | – | – | (840) | ||||||||||||||||||||||||||||||
| Shares returned on a net treasury basis | – | – | (69) | (1) | 1 | – | – | – | – | – | ||||||||||||||||||||||||||||||
| Issuance of shares in conjunction with stock options exercises | 91 | 1 | – | – | 307 | – | – | – | – | 308 | ||||||||||||||||||||||||||||||
| Issuance of shares of stock and restricted stock, net of cancellations and tax withholdings | 384 | 4 | – | – | (3,434) | – | – | – | – | (3,430) | ||||||||||||||||||||||||||||||
| Issuance of shares in conjunction with warrant exercises | 154 | 1 | – | – | – | – | – | – | – | 1 | ||||||||||||||||||||||||||||||
| Equity charge associated with common stock warrant | – | – | – | – | 5,530 | – | – | – | – | 5,530 | ||||||||||||||||||||||||||||||
| Non-cash equity compensation | – | – | – | – | 12,714 | – | – | – | – | 12,714 | ||||||||||||||||||||||||||||||
| Balance at December 31, 2007 | 26,738 | 267 | 26,722 | 267 | 272,132 | (116,362) | – | (59) | (775) | 155,529 | ||||||||||||||||||||||||||||||
| Comprehensive loss: | ||||||||||||||||||||||||||||||||||||||||
| Net loss | – | – | – | – | – | (15,665) | – | – | – | (15,665) | ||||||||||||||||||||||||||||||
| Other comprehensive loss: | ||||||||||||||||||||||||||||||||||||||||
| Unrealized loss on investment | – | – | – | – | – | – | (1,129) | – | – | (1,129) | ||||||||||||||||||||||||||||||
| Realized loss on investment | – | – | – | – | – | – | 1,129 | – | – | 1,129 | ||||||||||||||||||||||||||||||
| Total comprehensive loss | – | – | – | – | – | – | – | – | – | (15,665) | ||||||||||||||||||||||||||||||
| Shares returned on a net treasury basis | – | – | (32) | – | – | – | – | – | – | – | ||||||||||||||||||||||||||||||
| Issuance of shares in conjunction with stock options exercises | 6 | – | – | – | 44 | – | – | – | – | 44 | ||||||||||||||||||||||||||||||
| Issuance of shares of restricted stock, net of cancellations and tax withholdings | 1,460 | 15 | – | – | 2,801 | – | – | – | – | 2,816 | ||||||||||||||||||||||||||||||
| Non-cash equity compensation | – | – | – | – | 8,271 | – | – | – | – | 8,271 | ||||||||||||||||||||||||||||||
| Balance at December 31, 2008 | 28,204 | $ | 282 | 26,690 | $ | 267 | $ | 283,248 | $ | (132,027) | $ | – | (59) | $ | (775) | $ | 150,995 | |||||||||||||||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
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MARTHA STEWART LIVING OMNIMEDIA, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2008, 2007 and 2006
(in thousands)
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2008, 2007 and 2006
(in thousands)
| 2008 | 2007 | 2006 | ||||||||||
CASH FLOWS FROM OPERATING ACTIVITIES | ||||||||||||
| Net (loss)/income | $ | (15,665) | $ | 10,289 | $ | (16,995) | ||||||
| Adjustments to reconcile net (loss)/income to net cash provided by/(used in) operating activities: | ||||||||||||
| Non-cash revenue | (2,502) | – | – | |||||||||
| Depreciation and amortization | 7,973 | 7,562 | 8,598 | |||||||||
| Amortization of deferred television production costs | 21,478 | 21,029 | 25,324 | |||||||||
| Impairment of intangibles | 9,349 | – | – | |||||||||
| Non-cash equity compensation | 8,526 | 19,118 | 13,811 | |||||||||
| Deferred income tax expense | 1,854 | – | – | |||||||||
| Loss in equity interest | 763 | – | – | |||||||||
| Loss on equity securities | 2,221 | – | – | |||||||||
| Other non-cash charges | 815 | – | – | |||||||||
| Changes in operating assets and liabilities | 6,758 | (46,263) | (36,449) | |||||||||
Net cash provided by/(used in) operating activities | 41,570 | 11,735 | (5,711) | |||||||||
CASH FLOWS FROM INVESTING ACTIVITIES | ||||||||||||
| Acquisition of business | (46,310) | – | – | |||||||||
| Investments in equity interest | (6,512) | – | – | |||||||||
| Capital expenditures | (2,864) | (5,032) | (8,342) | |||||||||
| Purchases of short-term investments | (9,915) | (186,210) | (189,755) | |||||||||
| Sales of short-term investments | 26,745 | 194,786 | 238,222 | |||||||||
| Investment in other non-current assets | – | (10,150) | – | |||||||||
Net cash provided by/(used in) investing activities | (38,856) | (6,606) | 40,125 | |||||||||
CASH FLOWS FROM FINANCING ACTIVITIES | ||||||||||||
| Debt issuance costs | (719) | – | – | |||||||||
| Proceeds from long-term debt | 30,000 | – | – | |||||||||
| Repayment of long-term debt | (10,500) | – | – | |||||||||
| Dividends paid | – | – | (26,101) | |||||||||
| Proceeds from exercise of stock options | 44 | 308 | 750 | |||||||||
| Issuance of stock, warrants and restricted stock, net of cancellations and tax liabilities | (1,871) | (3,429) | (784) | |||||||||
Net cash provided by/(used in) financing activities | 16,954 | (3,121) | (26,135) | |||||||||
Net increase in cash | 19,668 | 2,008 | 8,279 | |||||||||
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR | 30,536 | 28,528 | 20,249 | |||||||||
CASH AND CASH EQUIVALENTS, END OF YEAR | $ | 50,204 | $ | 30,536 | $ | 28,528 | ||||||
SUPPLEMENTAL DISCLOSURE OF NON-CASH ACTIVITIES: | ||||||||||||
| Acquisition of business financed by stock issuance | $ | 5,000 | ||||||||||
The accompanying notes are an integral part of these consolidated financial statements.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in millions except share data and where noted)
1. THE COMPANY
Martha Stewart Living Omnimedia, Inc. (together with its wholly owned subsidiaries, the “Company”) is a leading provider of original “how to” content and products for homemakers and other consumers. The Company’s business segments are Publishing, Merchandising, Internet and Broadcasting. The Publishing segment primarily consists of the Company’s operations related to its magazines and books. The Merchandising segment consists of the Company’s operations related to the design of merchandise and related promotional and packaging materials that are distributed by its retail and manufacturing partners in exchange for royalty income, as well as operations relating to direct-to-consumer floral business and sales of digital photo products. The Internet segment comprises the websitemarthastewart.com, marthastewartweddings.comandwholeliving.com. The Broadcasting segment primarily consists of the Company’s television production operations which produce television programming that airs in syndication and on cable, and also those related to its satellite radio channel on Sirius.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The consolidated financial statements include the accounts of all wholly owned subsidiaries. Equity investments over which the Company exercises significant influence, but do not control and are not the primary beneficiary, are accounted for using the equity method of accounting. This method requires the Company’s equity investment to be adjusted each reporting period to reflect the Company’s share in the investee’s income or losses. Investments in which the Company does not exercise significant influence over the investee are accounted for using the cost method of accounting. Intercompany transactions are eliminated.
Acquisitions
The Company accounts for acquisitions using the purchase method. Under this method, the acquiring company allocates the purchase price to the assets acquired based upon their estimated fair values at the date of acquisition, including intangible assets that can be identified. The purchase price in excess of the fair value of the net assets acquired is recorded as goodwill.
Cash and Cash Equivalents
Cash and cash equivalents include cash equivalents that mature within three months of the date of purchase (see Note 3).
Short-term Investments
Short-term investments include investments that have maturity dates in excess of three months on the date of acquisition. Unrealized gains/losses were insignificant in 2007 and 2008 (see Note 3).
Revenue Recognition
The Emerging Issues Task Force (“EITF”) reached a consensus in May 2003 on IssueNo. 00-21, “Revenue Arrangements with Multiple Deliverables”(“EITF 00-21”) which became effective for revenue arrangements starting in the third quarter of 2003. In an arrangement with multiple deliverables,EITF 00-21 provides guidance to determine a) how the arrangement consideration should
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be measured, b) whether the arrangement should be divided into separate units of accounting, and c) how the arrangement consideration should be allocated among the separate units of accounting. The Company has applied the guidance included inEITF 00-21 in establishing revenue recognition policies for its arrangements with multiple deliverables. For agreements with multiple deliverables, if the Company is unable to put forth vendor specific objective evidence required underEITF 00-21 to determine the fair value of each deliverable, then the Company will account for the deliverables as a combined unit of accounting rather than separate units of accounting. In this case, revenue will be recognized as the earnings process is completed.
Magazine advertising revenues are recorded upon release of magazines for sale to consumers and are stated net of agency commissions and cash and sales discounts. Allowances for estimated bad debts are provided based upon historical experience.
Deferred subscription revenue results from advance payments for subscriptions received from subscribers and is recognized on a straight-line basis over the life of the subscription as issues are delivered.
Newsstand revenues are recognized based on the on-sale dates of magazines and are recorded based upon estimates of sales, net of brokerage and newsstand related fees. Estimated returns are recorded based upon historical experience.
Deferred book revenue results from advance payments received from the Company’s publisher and is recognized as manuscripts are delivered to and accepted by the publisher. Revenue is also earned from book publishing as sales on a unit basis exceed the advanced royalty.
Television advertising revenues are recognized when the related commercial is aired and are recorded net of agency commission, estimated reserves for television audience underdelivery and, for season 2 of “The Martha Stewart Show,” NBC distribution fees. In lieu of license fees, the Company gained additional advertising inventory beginning in the third season. Therefore, season 3 and season 4 revenues are reported net of only the agency commission and estimated reserves for television audience underdelivery. Television product placement revenues are recognized when the segment featuring the related product/brand immersion is initially aired. Licensing revenues are recorded as earned in accordance with the specific terms of each agreement. Licensing revenues from the Company’s radio programming are recorded on a straight-line basis over the term of the agreement. Internet advertising revenues based on the sale of impression-based advertisements are recorded in the period in which the advertisements are served.
Licensing-based revenues, most of which are in the Company’s Merchandising segment, are accrued on a monthly basis, based on the specific mechanisms of each contract. Generally, revenues are accrued based on actual sales, while any minimum guarantees are earned evenly over the fiscal year. Revenues related to the Company’s agreement with Kmart are recorded on a monthly basis based on actual retail sales, until the last period of the year, when the Company recognizes a substantial majority of thetrue-up between the minimum royalty amount and royalties paid on actual sales, when such amounts are determinable. Payments are generally made by the Company’s partners on a quarterly basis.
Inventory
Inventory consisting of paper is stated at the lower of cost or market. Cost is determined using thefirst-in, first-out (“FIFO”) method.
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Television Production Costs
Television production costs are capitalized and amortized based upon estimates of future revenues to be received and future costs to be incurred for the applicable television product. The Company bases its estimates on existing contracts for programs, historical advertising rates and ratings, as well as market conditions. Estimated future revenues and costs are adjusted regularly based upon actual results and changes in market and other conditions.
Property, Plant and Equipment
Property, plant and equipment is stated at cost and depreciated using the straight-line method over the estimated useful lives of the assets. Leasehold improvements are amortized using the straight-line method over the lease term or, if shorter, the estimated useful lives of the related assets.
Costs incurred to develop the Company’s website are required to be capitalized and amortized over the estimated useful life of the website in accordance withEITF 00-2, “Accounting for Web Site Development Costs” and Statement of Position (“SOP”)98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use.” For the year ended 2008 and 2007, the Company capitalized $0.3 million and $1.2 million, respectively, of costs associated with the website development. These capitalized costs will be amortized over the useful life of the website.
The useful lives of the Company’s assets are as follows:
| Studio sets | 2 years | |||
| Furniture, fixtures and equipment | 3 – 5 years | |||
| Computer hardware and software | 3 – 5 years | |||
| Leasehold improvements | life of lease |
Goodwill and Intangible Assets
Goodwill
The following table represents the change in the carrying amount of goodwill for each segment during each fiscal year:
| Carrying Value | Carrying Value at | |||||||||||||||
| at December 31, | Acquisition of | Impairment | December 31, | |||||||||||||
| (In thousands) | 2006 and 2007 | business | charge | 2008 | ||||||||||||
| Publishing | $ | 53,105 | $ | - | $ | (8,849 | ) | $ | 44,256 | |||||||
| Merchandising | - | 510 | - | 510 | ||||||||||||
| Broadcasting | - | 340 | - | 340 | ||||||||||||
| Total | $ | 53,105 | $ | 850 | $ | (8,849 | ) | $ | 45,106 | |||||||
The Company reviews goodwill for impairment by applying a fair-value based test annually, or more frequently if events or changes in circumstances warrant, in accordance with SFAS No. 142, “Goodwill and Other Intangible Assets.” Potential goodwill impairment is measured based upon a two-step process. In the first step, the Company compares the fair value of a reporting unit with its carrying amount, including goodwill. If the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is considered not impaired, thus making the second step in impairment testing unnecessary. If the carrying amount of a reporting unit exceeds its fair value, the second step of the goodwill impairment test is performed to measure the amount of the impairment loss. The Company considered the income, market and cost approaches in arriving at its indicators of fair value. The
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Company relied on the income and market approaches to arrive at its valuation conclusion. The cost approach was viewed as the floor for the value of the reporting units and was calculated based on the book value of working capital. The income approach was given greater weight than the market approach due to the lack of strongly comparable companies, the significant fluctuations in the financial markets and the lack of recently comparable transactions. The material assumptions used for the income approach were the forecasted revenue growth by reporting unit, as well as the discount rate and long-term growth rate. The Company considered historical rates and current market conditions when determining the discount and growth rates used in its analyses. For the market approach, the material assumptions were financial data for comparable companies, adjusted for differences in size, diversification and profitability. In addition, the Company reconciled the sum of the fair values of the reporting units to the total market capitalization of the Company. The Company’s estimates are subject to uncertainty, and may be affected by a number of factors outside its control, including general economic conditions, the competitive market, and regulatory changes. If actual results differ from the Company’s estimate of future cash flows, revenues, earnings and other factors, it may record additional impairment charges in the future.
As a result of the annual test in connection with the preparation of this Annual Report on Form 10-K, the Company determined that the carrying amount of theBody & Soulproperties reporting unit exceeded its fair value and recorded a non-cash goodwill impairment charge of approximately $8.8 million in 2008. The fair value of the Body & Soul reporting unit was calculated using the income approach, which requires estimates of future operating results and cash flows discounted using an estimated discount rate. The estimates resulted from updated financial forecasts which reflect the Company’s updated market view, business model revisions, and lower spending levels. The Company evaluated the impact of these revised forecasts on its view of the Body & Soul reporting unit and determined that a write-off of the goodwill was appropriate. For the years ended December 31, 2007 and 2006, no impairment charges were deemed necessary.
Intangible assets
The components of intangible assets as of December 31, 2008 are set forth in the schedule below, and are reported within the Publishing, Merchandising and Broadcasting:
| Balance at | ||||||||||||||||||||||||
| December 31, | Acquisition of | Amortization | Impairment | Balance at | ||||||||||||||||||||
| (in thousands) | 2006 and 2007 | business | expense | charge | December 31, 2008 | |||||||||||||||||||
| Trademarks | $ | 500 | $ | 45,200 | $ | - | $ | (500) | $ | 45,200 | ||||||||||||||
| Other intangibles | 900 | 5,260 | - | - | 6,160 | |||||||||||||||||||
| Accumulated amortization — other intangibles | (900) | - | (2,254) | - | (3,154) | |||||||||||||||||||
| Total | $ | 500 | $ | 50,460 | $ | (2,254) | $ | (500) | $ | 48,206 | ||||||||||||||
The Company reviews long-lived tangible assets and intangible assets with finite useful lives for impairment whenever events or changes in circumstances indicate that their carrying values may not be recoverable, in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-lived Assets.” Using the Company’s best estimates based on reasonable assumptions and projections, the Company records an impairment loss to write down the assets to their estimated fair values if carrying values of such assets exceed their related undiscounted expected future cash flows. The impairment loss is measured as the amount by which the carrying amount exceeds the fair value. The Company evaluates intangible assets with finite useful lives by individual magazine title or other applicable property, which is the lowest level at which independent cash flows can be identified. The Company evaluates corporate assets or other long-lived assets that are not specific to certain magazine titles or properties at a consolidated entity or segment reporting unit level, as appropriate.
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In the fourth quarter of 2008, the Company recorded a non-cash impairment charge of $0.5 million for the write down of intangible assets in the Publishing business segment related to the 2004 acquisition of the Body & Soul properties. For the years ended December 31, 2007 and 2006, no impairment charges were deemed necessary.
Investments in Equity Interest
In the first quarter of 2008, the Company entered into a series of transactions with WeddingWire, a localized wedding platform that combines an online marketplace with planning tools and a social community. In exchange for a cash payment from the Company of $5.0 million, the Company acquired approximately 43% of the equity in WeddingWire. The Company also entered into a commercial agreement related to software and content licensing, and media sales. The transaction has been accounted for using the equity method. Accordingly, the Company allocated $0.6 million of the purchase price to intangible assets related to the commercial agreement and the remaining $4.4 million to investment in equity interest. The intangible asset was determined to have a life of three years and is being amortized accordingly. The Company records its proportionate share of the GAAP results of WeddingWire one quarter in arrears within the loss in equity interest on the condensed consolidated statement of operations.
In the fourth quarter of 2008, the Company entered into an agreement with pingg, an online invitation and event management site. In exchange for a cash payment of $2.2 million, the Company acquired approximately 21% percent of the equity in pingg. The Company also entered into a commercial agreement related to software. The Company will record its proportionate share of the GAAP results of pingg one quarter in arrears beginning in the first quarter of 2009.
Investments in Other Non-Current Assets
The Company has certain investments that are accounted for under the cost method of accounting because the Company does not have the ability to exercise significant influence over those investees. Under the cost method of accounting, investments in private companies are carried at cost and are only adjusted for other-than-temporary declines in fair value and distributions of earnings. For cost method investments in public companies that have readily determinable fair values, the Company classifies its investments as available-for-sale in accordance with Statement of Financial Accounting Standards (“SFAS”) No 115,Accounting for Certain Investments in Debt and Equity Securities, and, accordingly, records these investments at their fair values with unrealized gains and losses excluded from earnings and reported as a separate component of shareholders’ equity as accumulated other comprehensive income/(loss). If a decline in fair value is judged to be other than temporary, the cost basis of the security will be written down to fair value and the amount of the write down will be accounted for as a realized loss, included in earnings.
In August 2007, as part of a transaction led by GTCR Golder Rauner, the Company invested $10.2 million ($10 million in cash and $0.2 million in related acquisition costs) in exchange for Class A Preferred and Common Units in United Craft MS Brands, LLC (“United Craft”), a holding company of the newly combined entity, Wilton Products Inc., which owns EK Success, Wilton Industries, and Dimensions Holding. The investment gives the Company a 3.8% ownership interest in United Craft, which the Company records as a cost method investment.
At the time of the August investment, and in connection with the acquisition by United Craft of Wilton Industries and Dimensions Holding, the Company modified the terms of its existing agreement with United Craft. In 2006, the Company had entered into a licensing relationship with United Craft and its affiliates, including EK Success, for the creation, marketing and sale of paper-based craft products. In connection with that initial license, the Company received a deeply subordinated equity interest in United Craft represented by Class M Common Units. The Company’s ability to realize value
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from that subordinated equity interest was contingent on, among other matters, majority stockholders receiving a specified rate of return in respect of their senior securities. Pursuant to the August amendment to the existing agreement, the proportionate size of the Company’s subordinated interest in the equity of United Craft was reduced and the requisite hurdle rate for the senior equity was reduced as well. Consistent with the accounting treatment of the original subordinated equity interest in United Craft, the Company valued the Class M Common Units and recorded the amount as deferred revenue in the Merchandising segment. The Company engaged an external valuation services firm to value the investment, and finalized, in the fourth quarter of 2007, the fair value of the Class M Common Units as $2.6 million.
In 2007, concurrently with the investment agreement, the Company entered into an additional licensing agreement with Wilton Industries. During 2008 and 2007, the Company recognized royalties from the initial 2006 agreement with EK Success. Royalties from Wilton Industries are not expected to be generated until the launch of the licensed products at a future date.
During the second quarter of 2008, the Company entered into a three-year agreement with TurboChef Technologies, Inc. (“TurboChef”) to provide intellectual property and promotional services in exchange for $10 million. In lieu of cash consideration, TurboChef provided initial compensation in 2008 in the form of 381,049 shares of TurboChef stock and a warrant to purchase 454,000 shares of TurboChef stock for an aggregate fair value of approximately $5 million. In addition, in each of the second and third years of this agreement, the Company will receive $2.5 million of TurboChef stock or cash, at TurboChef’s option. Total consideration for this agreement will be recognized on a straightline basis over the three-year term.
In accordance with SFAS No. 115 the TurboChef shares are considered available-for-sale-securities and are recorded at fair value each quarter, with adjustments recorded in other comprehensive income. As of December 31, 2008, the fair market value of TurboChef shares of $1.9 million was below our actual carrying value. The Company determined that the decrease in fair market value of these shares was other than temporary and accordingly, the Company recognized a charge in the amount of $1.1 million which was recorded in other expense in the statement of operations.
The warrant meets the definition of a derivative in accordance with SFAS No. 133,Accounting for Derivative Instruments and Hedging Activitiesand is marked to market each quarter with the adjustment recorded in other income or other expense. For the year ended December 31, 2008, we recorded a $1.1 million loss in other expense in the statement of operations.
Non-cash amounts related to this agreement have been appropriately adjusted in the cash flows from operating activities in the statement of cash flows.
On January 5, 2009, the Middleby Corporation completed its acquisition of TurboChef in a cash and stock transaction. Under the terms of the merger agreement, holders of TurboChef’s common shares will receive a combination of $3.67 in cash and 0.0486 Middleby shares of common stock per TurboChef share. The consideration upon acquisition would equate to $1.9 million which represents $1.4 million in cash and 18,518 shares of Middleby worth $0.5 million on January 5, 2009. The original warrant converted into a warrant to acquire 24,607 shares of Middleby Common Stock at a price per share of $88.38.
Advertising Costs
Advertising costs, consisting primarily of direct-response advertising, are expensed in the period incurred.
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Earnings Per Share
Basic earnings per share is computed using the weighted average number of actual common shares outstanding during the period. Diluted earnings per share reflects the potential dilution that would occur from the exercise of stock options and shares covered under a warrant and the vesting of restricted stock. For the years ended December 31, 2008, 2007, and 2006, the shares subject to options, the warrant, and restricted stock awards that were excluded from the computation of diluted earnings per share because their effect would have been antidilutive were 5,858,784, 2,276,622 and 3,404,478 with weighted average exercise prices of $6.83, $15.43, and $18.45, respectively.
Options granted under the Martha Stewart Living Omnimedia LLC Nonqualified Class A LLC Unit/Stock Option Plan are not included as they are not dilutive (see Note 9, “Employee and Non-Employee Benefit and Compensation Plans”).
Use of Estimates
The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Management does not expect such differences to have a material effect on the Company’s consolidated financial position or results of operations.
Equity Compensation
See Note 9, “Employee and Non-Employee Benefit and Compensation Plans,” for discussion of equity compensation.
Recent Accounting Pronouncements
In September 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 157, “Fair Value Measurements” (“SFAS 157”), which clarifies the definition of fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurement. SFAS 157 does not require any new fair value measurements and eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS 157 is effective for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. However, on February 12, 2008, the FASB issued FASB Staff Position (“FSP”)FAS 157-2 which delays the effective date of SFAS 157 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). This FSP partially defers the effective date of SFAS 157 to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years for items within the scope of this FSP. The Company adopted SFAS 157 as of January 1, 2008 for financial assets and liabilities. The adoption of SFAS 157 for financial assets and liabilities did not have a material impact on the consolidated financial statements. The Company is currently assessing the impact to the Company’s consolidated financial position, cash flows and results of operations upon adoption of SFAS 157 for nonfinancial assets and nonfinancial liabilities as deferred by this FSP.
In December 2007, the FASB issued SFAS No. 141(R), “Business Combinations” (Revised) (“SFAS 141(R)”). SFAS 141(R) replaces the current standard on business combinations and will significantly change the accounting for and reporting of business combinations in consolidated financial statements. SFAS 141(R) requires an entity to measure the business acquired at fair value and to recognize goodwill attributable to any noncontrolling interests (previously referred to as minority interests) rather than just the portion attributable to the acquirer. SFAS 141(R) will also result in fewer exceptions to the principle of measuring assets acquired and liabilities assumed in a business
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combination at fair value. In addition, SFAS 141(R) will require payments to third parties for consulting, legal, audit, and similar services associated with an acquisition to be recognized as expenses when incurred rather than capitalized as part of the business combination. Also in December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements — An Amendment of ARB No. 51” (“SFAS 160”). SFAS 160 requires that accounting and reporting for minority interests be recharacterized as noncontrolling interests and classified as a component of equity. SFAS 141(R) and SFAS 160 are required to be adopted simultaneously and are effective for the Company beginning January 1, 2009, with earlier adoption prohibited. These standards will change the Company’s accounting treatment for business combinations on a prospective basis. These standards will have no impact on the previous acquisitions recorded by the Company in the financial statements.
In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS 161”). SFAS 161 amends and expands the disclosure requirements of SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” It requires qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about fair value amounts of gains and losses on derivative instruments and disclosures about credit-risk-related contingent features in derivative agreements. SFAS 161 is effective for financial statements issued for fiscal years beginning after November 15, 2008. Accordingly, the Company will adopt SFAS 161 in 2009.
3. CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
Cash and cash equivalents consist of highly liquid investments with maturities of three months or less at date of purchase. Cash equivalents are carried at cost, which approximates their fair market value. Cash and cash equivalents at December 31, 2008 and 2007 consisted of the following:
| (in thousands) | 2008 | 2007 | ||||||
| Cash | $ | 22,790 | $ | 19,469 | ||||
| Money market funds | 27,414 | 11,067 | ||||||
| Total cash and cash equivalents | $ | 50,204 | $ | 30,536 | ||||
As of December 31, 2008, short-term investments consisted solely of U.S. government and agency securities.
The Company’s short-term investments are accounted for as available for sale securities under SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” These investments are recorded at cost, which approximates fair market value; therefore the Company has no unrealized gains or losses from these investments.
Short-term investments at December 31, 2008 and 2007 consisted of the following:
| (in thousands) | 2008 | 2007 | ||||||
| Municipal debt securities | $ | – | $ | 19,586 | ||||
| Auction rate securities | – | 2,875 | ||||||
| Corporate debt securities | – | 4,284 | ||||||
| U.S. government and agency securities | 9,915 | – | ||||||
| Total short-term investments | $ | 9,915 | $ | 26,745 | ||||
All income generated from short-term investments is recorded as interest income.
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| 4. | ACCOUNTS RECEIVABLE, NET |
The components of accounts receivable at December 31, 2008 and 2007 are as follows:
| (in thousands) | 2008 | 2007 | ||||||
| Advertising | $ | 38,656 | $ | 42,828 | ||||
| Licensing | 13,390 | 50,111 | ||||||
| Other | 3,825 | 6,061 | ||||||
| 55,871 | 99,000 | |||||||
| Less: reserve for credits and uncollectible accounts | 3,371 | 4,805 | ||||||
| $ | 52,500 | $ | 94,195 | |||||
As of December 31, 2008 and 2007, accounts receivable from Kmart were approximately $5.9 million and $45.1 million, respectively, primarily related to thetrue-up payment due to the minimum guaranteed royalty for the applicable year. Payment of such respective receivables was received by the Company in the first quarter of the following year, prior to the respective filings of the Annual Report onForm 10-K for the applicable period.
| 5. | INVENTORY |
Inventory is comprised of paper, and was valued at $6.1 million and $4.9 million at December 31, 2008 and 2007, respectively. Cost is determined using the first in, first out (FIFO) method.
| 6. | PROPERTY, PLANT AND EQUIPMENT, NET |
The components of property, plant and equipment at December 31, 2008 and 2007 were as follows:
| (in thousands) | 2008 | 2007 | ||||||
| Studios and equipment | $ | 4,202 | $ | 4,202 | ||||
| Furniture, fixtures and equipment | 10,845 | 10,518 | ||||||
| Computer hardware and software | 27,090 | 25,956 | ||||||
| Leasehold improvements | 28,672 | 27,279 | ||||||
Total Property, Plant and Equipment | 70,809 | 67,955 | ||||||
| Less: accumulated depreciation and amortization | 56,387 | 50,869 | ||||||
Net Property, Plant and Equipment | $ | 14,422 | $ | 17,086 | ||||
Depreciation and amortization expenses related to property, plant and equipment were $5.5 million, $7.6 million and $8.5 million, for the years ended December 31, 2008, 2007 and 2006, respectively.
| 7. | CREDIT FACILITIES |
The Company has a line of credit with Bank of America in the amount of $5.0 million, which is generally used to secure outstanding letters of credit. Under the terms of the credit agreement, the Company is required to satisfy certain debt covenants, with which the Company was in compliance as of December 31, 2008. The Company had no outstanding borrowings under this facility as of December 31, 2008 and had letters of credit of $2.7 million.
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The Company entered into a loan agreement with Bank of America in the amount of $30 million related to the acquisition of certain assets of Emeril Lagasse. The loan was originally secured by cash collateral of $28.5 million. In the third quarter of 2008, the cash collateral was replaced by collateral consisting of substantially all of the assets of the Emeril business that were acquired by the Company. Martha Stewart Living Omnimedia, Inc. and most of its domestic subsidiaries are guarantors of the loan. The loan agreement requires equal principal payments and related interest to be paid by the Company quarterly for the duration of the loan term, approximately 5 years. During the third quarter of 2008, in addition to the Company’s quarterly payment on September 30, 2008, the Company prepaid $4.5 million in principal representing the amounts due on December 31, 2008, March 31, 2009 and June 30, 2009. During the fourth quarter of 2008, the Company prepaid $3.0 million in principal representing the amounts due on September 30, 2009, and December 31, 2009. Accordingly, the loan payable is classified as a non-current liability as of December 31, 2008. The interest rate on the loan is a floating rate of1-month LIBOR plus 2.85%. The Company expects to pay the principal installments and interest expense with cash from operations.
The loan terms include financial covenants, failure with which to comply would result in an event of default and would permit Bank of America to accelerate and demand repayment of the loan in full. As of December 31, 2008, the Company was in compliance with all the financial covenants. A summary of the most significant financial covenants is as follows:
| Financial Covenant | Required at December 31, 2008 | |
| Tangible Net Worth | Greater than $40.0 million | |
| Funded Debt to EBITDA (a) | Less than 2.0 | |
| Parent Guarantor (the Company) Basic Fixed Charge Coverage Ratio (b) | Greater than 2.75 | |
| Quick Ratio | Greater than 1.0 |
| (a) | EBITDA is earnings before interest, taxes, depreciation and amortization as defined in the loan agreement. | |
| (b) | Basic Fixed Charge Coverage is the ratio of EBITDA for the trailing four quarters to the sum of interest expense for the trailing four quarters and the current portion of long-term debt at the covenant testing date. |
The loan agreement also contains a variety of other customary affirmative and negative covenants that, among other things, limit the Company’s and its subsidiaries’ ability to incur additional debt, suffer the creation of liens on their assets, pay dividends or repurchase stock, make investments or loans, sell assets, enter into transactions with affiliates other than on arm’s length terms in the ordinary course of business, make capital expenditures, merge into or acquire other entities or liquidate. The negative covenants expressly permit the Company to, among other things: incur an additional $15 million of debt to finance permitted investments or acquisitions; incur an additional $15 million of earnout liabilities in connection with permitted acquisitions; spend up to $30 million repurchasing the Company’s stock or paying dividends thereon (so long as no default or event of default existed at the time of or would result from such repurchase or dividend payment and the Company would be in pro forma compliance with the above-described financial covenants assuming such repurchase or dividend payment had occurred at the beginning of the most recently-ended four-quarter period); make investments and acquisitions (so long as no default or event of default existed at the time of or would result from such investment or acquisition and the Company would be in pro forma compliance with the above-described financial covenants assuming the acquisition or investment had occurred at the beginning of the most recently-ended four-quarter period); make up to $15 million in capital expenditures in fiscal year 2008 and $7.5 million in each subsequent fiscal year, provided that the Company can carry over any unspent amount to any subsequent fiscal year (but in no event may the
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Company make more than $15 million in capital expenditures in any fiscal year); sell one of the Company’s investments (or any asset the Company might receive in conversion or exchange for such investment); and sell assets during the term of the loan comprising, in the aggregate, up to 10% of the Company’s consolidated shareholders’ equity, provided the Company receives at least 75% of the consideration in cash.
| 8. | SHAREHOLDERS’ EQUITY |
Common Stock
The Company has two classes of common stock outstanding. The Class B Common Stock is identical in all respects to Class A Common Stock, except with respect to voting and conversion rights. Each share of Class B Common Stock entitles its holder to ten votes and is convertible on a one-for-one basis to Class A Common Stock at the option of the holder and automatically upon most transfers.
In late July 2006, the Company’s Board of Directors declared a one-time special dividend of $0.50 per share for a total value of $26.9 million. During September 2006, the Company paid $26.1 million in dividends and reduced the aggregate exercise price under certain warrants by an aggregate of $0.8 million on account of the dividend.
| 9. | EMPLOYEE AND NON-EMPLOYEE BENEFIT AND COMPENSATION PLANS |
Retirement Plans
The Company established a 401(k) retirement plan effective July 1, 1997, available to substantially all employees. An employee can contribute up to a maximum of 25% of compensation to the plan, or the maximum allowable contribution by the Internal Revenue Code ($0.02 million in 2008, 2007 and 2006), whichever is less. The Company matches 50% of the first 6% of compensation contributed. Employees vest ratably in employer-matching contributions over a period of four years of service. The employer-matching contributions totaled approximately $1.1 million, $1.2 million and $1.1 million for the years ended December 31, 2008, 2007 and 2006, respectively.
The Company does not sponsor any post-retirementand/or post-employment benefit plan.
Stock Incentive Plans
Prior to May 2008, the Company had several stock incentive plans that permitted the Company to grant various types of share-based incentives to key employees, directors and consultants. The primary types of incentives granted under these plans were stock options and restricted shares of common stock. The Compensation Committee of the Board of Directors was authorized to grant up to a maximum of 10,000,000 underlying shares of Class A Common Stock under the Martha Stewart Living Omnimedia, Inc. Amended and Restated 1999 Stock Incentive Plan (the “1999 Option Plan”), and up to a maximum of 600,000 underlying shares of Class A Common Stock under the Company’s Non-Employee Director Stock and Option Compensation Plan (the “Non-Employee Director Plan”).
In April 2008, the Company’s Board of Directors adopted the Martha Stewart Living Omnimedia, Inc. Omnibus Stock and Option Compensation Plan (the “New Stock Plan”), which was approved by the Company’s stockholders at the Company’s 2008 annual meeting in May 2008. The New Stock Plan has 10,000,000 shares of Class A Common Stock available for issuance. The New Stock Plan replaced the 1999 Option Plan and Non-Employee Director Plan (together, the “Prior Plans”), which together had an aggregate of approximately 1,850,000 shares still available for issuance. Therefore, the total net effect of the replacement of the Prior Plans and adoption of the New Stock Plan was an increase of
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approximately 8,150,000 shares of Class A Common Stock available for issuance under the Company’s stock plans.
In November 1997, the Company established the Martha Stewart Living Omnimedia LLC Nonqualified Class A LLC Unit/Stock Option Plan (the “1997 Option Plan”). The Company had an agreement with Martha Stewart whereby she periodically returned to the Company shares of Class B Common Stock owned by her or her affiliates in amounts corresponding on a net treasury basis to the number of options exercised under the 1997 Option Plan during the relevant period. As of the first quarter of 2008, all shares of Class B Common Stock due to the Company pursuant to this agreement have been returned. No options remain outstanding under the 1997 Option Plan and no further awards will be made from the 1997 Option Plan.
Effective January 1, 2006, the Company adopted the fair-value recognition provisions of SFAS 123R, “Share-Based Payment” and Securities and Exchange Commission Staff Accounting Bulletin No. 107 using the modified prospective transition method. Compensation cost recognized in the years ended December 31, 2008, 2007, and 2006 includes the relevant portion (the amount vesting in the respective periods) of share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS 123, and compensation cost for all share-based payments granted subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of SFAS 123R. Restricted shares are valued at the market value of traded shares on the date of grant, while stock options are valued using a Black-Scholes option pricing model.
Black-Scholes Assumptions
The Company uses the Black-Scholes option pricing model to value options and warrants issued. The model requires numerous assumptions, including expected volatility of the Company’s Class A Common Stock price, expected life of the option and expected cancellations. These assumptions are reviewed and used to value grants when they are issued. Further, certain grants are subject to revaluation at reporting period end dates or when vesting provisions lapse. In the fourth quarter of 2006, the Company re-examined its volatility calculation that had previously included all historical closing prices since the Company’s initial public offering in 1999. The Company believes that the historical closing prices throughout 2006 and forward represent a more accurate volatility of the Company’s stock and is generally consistent with the implied market volatility of its publicly traded options and in-line with its industry peer group. Therefore, the Company determined its current volatility calculation using historical closing prices starting January 1, 2006. For presentation purposes, the Company’s Black-Scholes model represents a blend of assumptions including the Company’s 2006 updated volatility for those options that are priced when vesting provisions lapse.
Stock Options and Warrants
Options which were issued under the 1999 Option Plan were granted with an exercise price equal to the closing price of Class A Common Stock on the most recent prior date for which a closing price is available, without regard forafter-hours trading. Options granted under the New Stock Plan are granted with an exercise price equal to the closing price of the Class A Common Stock on the date of grant. Stock options have an exercise term not to exceed 10 years. The Compensation Committee determines the vesting period for the Company’s stock options. Generally, employee stock options vest ratably on each of either the first three or four anniversaries of the grant date. Non-employee director options are subject to various vesting schedules ranging from one to three years from the grant date. The vesting of certain option awards to non-employees is generally contingent upon the satisfaction of various milestones. Employee option awards usually do not provide for accelerated vesting upon retirement, death, or disability unless otherwise provided in the applicable award agreement. Severance of a participant covered by the Martha Stewart Living Omnimedia, Inc. 2008 Executive Severance Plan
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also triggers accelerated vesting of that participant’s equity awards unless otherwise provided in the applicable award agreement.
Compensation expense is recognized in the production, distribution and editorial, the selling and promotion, and the general and administrative expense lines of the Company’s consolidated statements of operations. For the years ended December 31, 2008, 2007, and 2006, the Company recorded non-cash equity compensation expense of $8.5 million, $19.1 million, and $13.8 million, respectively. In 2006 and 2005, the Company capitalized $0.2 million and $1.3 million, respectively, of non-cash equity compensation which was issued in connection with the execution of certain licensing agreements. Accordingly, the value of the shares is amortized to non-cash equity compensation expense as revenues are recognized. As of December 31, 2008, capitalized non-cash equity compensation was $0.4 million.
As of December 31, 2008, there was $5.4 million of total unrecognized compensation cost related to nonvested stock options to be recognized over a weighted average period of approximately 2.5 years.
The intrinsic values of options exercised during the years ended December 31, 2008 and 2007 were not significant. The total cash received from the exercise of stock options for the years ended December 31, 2008 and 2007 was $0.1 million and $0.3 million respectively, and is classified as financing cash flows.
During 2008, the Company issued options for 2,700,000, 50,000 and 887,234 shares of Class A Common Stock under the 1999 Option Plan, the Non-Employee Director Plan, and the New Stock Plan, respectively. The fair value of non-employee contingent awards where vesting restrictions lapsed in 2008 was estimated on the date when vesting provisions lapsed, using the Black-Scholes option-pricing model on the basis of the following weighted average assumptions:
| 2008 | 2007 | 2006 | ||||
| Risk-free interest rates | 3.3% - 3.7% | 3.5% - 5.1% | 4.5% - 5.2% | |||
| Dividend yields | Zero | Zero | Zero | |||
| Expected volatility | 45.5% - 47.8% | 32.9% - 41.5% | 35.5% - 65.7% | |||
| Expected option life | 7.1 - 7.5 years | 4.6 - 8.4 years | 2.5 - 9.5 years | |||
| Average fair market value per option granted | $2.00 - $2.55 | $2.89 - $13.32 | $7.29 - $14.59 |
Note: This table represents a blend of assumptions including the Company’s 2006 updated volatility for those options that are priced when vesting provisions lapse.
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Changes in outstanding options under the 1999 Option Plan and the Non-Employee Director Plan during the years ended December 31, 2008 and 2007 were as follows:
| Number of shares | Weighted | |||||||
| subject to | average | |||||||
| options | exercise price | |||||||
| Outstanding as of December 31, 2006 | 1,723,350 | $ | 18.70 | |||||
| Granted | 52,500 | 18.09 | ||||||
| Exercised | (40,650 | ) | 6.87 | |||||
| Cancelled | (12,000 | ) | 12.05 | |||||
| Outstanding as of December 31, 2007 | 1,723,200 | $ | 19.01 | |||||
| Granted | 2,750,000 | 7.05 | ||||||
| Exercised | (6,425 | ) | 6.78 | |||||
| Cancelled | (935,384 | ) | 7.71 | |||||
| Outstanding as of December 31, 2008 | 3,531,391 | $ | 12.71 | |||||
| Options exercisable at December 31, 2008 | 1,636,391 | $ | 19.26 | |||||
| Equity available for grant at December 31, 2008 after deducting restricted stock outstanding | – | |||||||
Changes in outstanding options under the New Stock Plan during the year ended December 31, 2008 are as follows:
| Number of shares | Weighted | |||||||
| subject to | average | |||||||
| options | exercise price | |||||||
| Outstanding as of December 31, 2007 | – | – | ||||||
| Granted | 865,000 | 8.56 | ||||||
| Exercised | 0 | 0 | ||||||
| Cancelled | (7,500) | 9.09 | ||||||
| Outstanding as of December 31, 2008 | 857,500 | $8.55 | ||||||
| Options exercisable at December 31, 2008 | – | – | ||||||
| Equity available for grant at December 31, 2008 after deducting restricted stock outstanding | 8,548,459 | |||||||
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The following table summarizes information about the shares subject to stock options outstanding under the Company’s option plans as of December 31, 2008:
| Shares Subject to | Shares Subject to | |||||||||||||||||||
| Options Outstanding | Options Exercisable | |||||||||||||||||||
| Weighted | ||||||||||||||||||||
| Average | ||||||||||||||||||||
| Remaining | Weighted | Weighted | ||||||||||||||||||
| Contractual | Average | Average | ||||||||||||||||||
| Range of Exercise Price | Life in | Number | Exercise | Number | Exercise | |||||||||||||||
| Per Share | Years | Outstanding | Price | Exercisable | Price | |||||||||||||||
| $0.60 | 0 | 0 | $ | 0 | 0 | $ | 0 | |||||||||||||
| $6.78-$10.61 | 2.5 | 2,959,667 | 7.59 | 207,167 | 8.44 | |||||||||||||||
| $14.90-$15.75 | 2.1 | 13,725 | 15.37 | 13,725 | 15.37 | |||||||||||||||
| $15.90 | 3.1 | 150,000 | 15.9 | 150,000 | 15.90 | |||||||||||||||
| $16.45-$18.90 | 4.7 | 683,699 | 18.46 | 683,699 | 18.46 | |||||||||||||||
| $19.92-$26.25 | 5.9 | 231,300 | 20.92 | 231,300 | 20.92 | |||||||||||||||
| $26.56-$33.75 | 4.0 | 350,500 | 27.71 | 350,500 | 27.71 | |||||||||||||||
| $0.60-$33.75 | 3.2 | 4,388,891 | $ | 11.90 | 1,636,391 | $ | 19.26 | |||||||||||||
Restricted Stock
Restricted stock represents shares of common stock that are subject to restrictions on transfer and risk of forfeiture until the fulfillment of specified conditions. Restricted stock is generally expensed ratably over the restriction period, typically ranging from three to four years. Restricted stock expense for the three months ended December 31, 2008 and 2007 was $1.7 million and $3.3 million, respectively. Restricted stock expense for the years ended December 31, 2008 and 2007 was $6.8 million and $11.9 million, respectively.
Included in restricted stock expense for the year ended December 31, 2008 is $0.1 million which represents amortization of 200,000 shares that are subject to market condition vesting terms. These shares were granted to Mr. Koppelman pursuant to his September 2008 employment agreement.
A summary of the Company’s 1999 Option Plan nonvested restricted stock shares as of December 31, 2008 and changes during the year ended December 31, 2008 is as follows:
| Weighted | ||||||||
| Average Grant | ||||||||
| (in thousands, except share data) | Shares | Date Value | ||||||
| Nonvested at December 31, 2007 | 961,364 | $ 17,404 | ||||||
| Granted | 583,932 | 4,122 | ||||||
| Vested(1) | (725,181) | (11,390 | ) | |||||
| Forfeitures | (215,434) | (2,724 | ) | |||||
| Nonvested at December 31, 2008 | 604,681 | $7,412 | ||||||
| (1) | Included in the gross shares vested during the period ended December 31, 2008 are 263,255 shares of Class A common stock which were surrendered by recipients in order to fulfill their tax withholding obligations. |
The fair value of nonvested shares is determined based on the closing price of the Company’s Class A Common Stock on the day preceding grant date. The weighted-average grant date fair values of nonvested shares granted during the periods ended December 31, 2008 and 2007 were $4.1 million and $11.0 million, respectively. As of December 31, 2008, there was $4.2 million of total unrecognized
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compensation cost related to nonvested restricted stock arrangements to be recognized over a weighted-average period of approximately 1 year.
A summary of the Company’s New Stock Plan nonvested restricted stock shares as of December 31, 2008 and changes during the year ended December 31, 2008 is as follows:
| Weighted | ||||||||
| Average Grant | ||||||||
| (in thousands, except share data) | Shares | Date Value | ||||||
| Nonvested at December 31, 2007 | — | $ | — | |||||
| Granted | 604,750 | 4,978 | ||||||
| Vested(1) | (20,000) | (56 | ) | |||||
| Forfeitures | (1,500) | (11 | ) | |||||
| Nonvested at December 31, 2008 | 583,250 | $ | 4,911 | |||||
| (1) | Included in the gross shares vested during the period ended December 31, 2008 are 8,458 shares of Class A common stock which were surrendered by recipients in order to fulfill their tax withholding obligations. |
The fair value of nonvested shares is determined based on the closing price of the Company’s Class A Common Stock on the grant date. The weighted-average grant date fair values of nonvested shares granted during the twelve-months ended December 31, 2008 were $5.0 million. As of December 31, 2008, there was $4.4 million of total unrecognized compensation cost related to nonvested restricted stock arrangements to be recognized over a weighted-average period of approximately 2.5 years.
Non-Employee Equity Compensation
In consideration of the execution in September 2004 of a consulting agreement under which Mark Burnett agreed to act as an advisor and consultant to the Company with respect to various television matters, the Company issued to Mr. Burnett a warrant to purchase 2,500,000 shares of the Company’s Class A Common Stock at an exercise price of $12.59 per share. Under the initial agreement, the shares covered by the warrant would have vested and become exercisable in three tranches, subject to the achievement of various milestones with respect to certain television programs. The first two tranches representing a total of 1,666,666 shares vested in 2005 and the warrant with respect to such shares was exercised in 2006. However, under the terms of this warrant, the third tranche (i.e., 833,333 shares) did not vest. No shares remain eligible for issuance under this warrant.
On August 11, 2006, in connection with Mr. Burnett’s continued services as executive producer of the syndicated daytime television show,The Martha Stewart Show, the Company issued an additional warrant to Mr. Burnett to purchase up to 833,333 shares of Class A Common Stock at an exercise price of $12.59 per share, subject to vesting pursuant to certain performance criteria. During the first quarter of 2007, the portion of the warrant related to the clearance of season 3 ofThe Martha Stewart Showvested and was subsequently exercised. Mr. Burnett exercised this portion of the warrant on a cashless basis, pursuant to which he acquired 154,112 shares and forfeited 262,555 shares based on the closing price of the Company’s Class A Common Stock of $19.98 the day prior to exercise. The remaining half of this warrant vested in July 2007 when the applicable milestones relating to the production ofThe Martha Stewart Show were achieved. For the year ended December 31, 2007, the Company recognized an approximate $6.0 million increase to non-cash equity compensation related to this warrant.
Both of Mr. Burnett’s warrants were issued pursuant to the exemption from registration provided by Section 4(2) of the Securities Act of 1933, as amended. The warrants issued to Mr. Burnett are not covered by the Company’s existing equity plans. In connection with the 2006 warrant, the Company
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also entered into a registration rights agreement with Mr. Burnett. Mr. Burnett has exercised his right to obligate the Company to effect a shelf registration under the Securities Act of 1933, as amended, covering the resale of the shares of common stock issuable upon the exercise of either warrant. The Company registered the shares covered under the warrant agreement, in addition to certain other shares, pursuant to a registration statement onForm S-3 filed with the Securities and Exchange Commission.
In March 2006, the Company entered into an agreement with an agency which provided the Company with marketing communications and consulting services. In September 2006, the Company entered into a new agreement with this agency which superseded in its entirety the March agreement. Pursuant to the new agreement, the Company granted the agency an option to purchase 60,000 shares of the Company’s Class A Common Stock under the Company’s 1999 Option Plan with an exercise price equal to $18.31 per share. Of the shares subject to the option, 30,000 vested immediately. During the first quarter of 2007, the performance criteria were achieved, and the remaining 30,000 shares subject to the option vested. For the year ended December 31, 2007, the Company recorded non-cash equity compensation expense of $0.3 million related to the shares which vested upon receipt of specified deliverables. The shares which vested in 2007 were valued using the Black-Scholes option pricing model using the following assumptions: risk free interest rate — 5.06%; dividend yield — zero; expected volatility — 35.53%; contractual life — 5 years; average fair market value per option granted — $9.76.
In January 2005, the Company entered into a consulting agreement with Charles Koppelman who was then the Vice Chairman and Director of the Company. In October 2005, the Company entered into a two-year consulting agreement with CAK Entertainment, Inc., an entity for which Mr. Koppelman serves as Chairman and Chief Executive Officer. Each of these agreements contained non-cash equity compensation terms which are further discussed in Note 11, “Related Party Transactions.”
| 10. | INCOME TAXES |
The Company follows SFAS No. 109, “Accounting for Income Taxes” (“SFAS 109”). Under the asset and liability method of SFAS 109, deferred assets and liabilities are recognized for the future costs and benefits attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. The Company periodically reviews the requirements for a valuation allowance and makes adjustments to such allowances when changes in circumstances result in changes in management’s judgment about the future realization of deferred tax assets. SFAS 109 places more emphasis on historical information, such as the Company’s cumulative operating results and its current year results than it places on estimates of future taxable income. Therefore the Company has established a valuation allowance of $68.0 million against certain deferred tax assets for 2008. In addition, the Company has recorded a net deferred tax liability of $1.8 million which is attributable to differences between the financial statement carrying amounts of current and prior year acquisitions of certain indefinite-lived intangible assets and their respective tax bases. The Company intends to maintain a valuation allowance until evidence would support the conclusion that it is more likely than not that the deferred tax asset could be realized.
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The (provision)/benefit for income taxes consists of the following for the years ended December 31, 2008, 2007, and 2006:
| (in thousands) | 2008 | 2007 | 2006 | |||||||||
| Current Income Tax (Expense)/Benefit | ||||||||||||
| Federal | $ | 175 | $ | 64 | $ | (399) | ||||||
| State and local | (80) | (165) | (77) | |||||||||
| Foreign | (555) | (527) | (362) | |||||||||
| Total current income tax (expense)/benefit | (460) | (628) | (838) | |||||||||
| �� | ||||||||||||
| Deferred Income Tax Expense | ||||||||||||
| Federal | (1,582) | — | — | |||||||||
| State and local | (272) | — | — | |||||||||
| Total deferred income tax expense | (1,854) | — | — | |||||||||
| Income tax provision from continuing operations | $ | (2,314) | $ | (628) | $ | (838) | ||||||
A reconciliation of the federal income tax (provision)/benefit from continuing operations at the statutory rate to the effective rate for the years ended December 31, 2008, 2007, and 2006 is as follows:
| (in thousands) | 2008 | 2007 | 2006 | |||||||||
| Computed tax at the federal statutory rate of 35% | $ | 4,673 | $ | (3,821) | $ | 5,655 | ||||||
| State income taxes, net of federal benefit | (51) | (107) | (50) | |||||||||
| Non-deductible compensation | (1,756) | (1,347) | (5,486) | |||||||||
| Non-deductible expense | (170) | (264) | (226) | |||||||||
| Non-deductible litigation reserve | — | — | (5,981) | |||||||||
| Non-taxable foreign income | — | — | 225 | |||||||||
| Tax on foreign income | (555) | (527) | (362) | |||||||||
| Valuation allowance | (4,629) | 5,438 | 5,418 | |||||||||
| Other | 174 | — | (31) | |||||||||
| Provision for income taxes | $ | (2,314) | $ | (628) | $ | (838) | ||||||
| Effective tax rate | 17.3 | % | 5.8 | % | 5.4 | % | ||||||
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Significant components of the Company’s deferred tax assets and liabilities as of December 31, 2008 and 2007 were as follows:
| (in thousands) | 2008 | 2007 | ||||||
| Deferred Tax Assets | ||||||||
| Provision for doubtful accounts | $ | 949 | $ | 918 | ||||
| Accrued rent | 1,131 | 1,170 | ||||||
| Reserve for newsstand returns | 308 | 926 | ||||||
| Accrued compensation | 7,067 | 7,531 | ||||||
| Deferred royalty revenue | 5,094 | 4,101 | ||||||
| NOL/credit carryforwards | 44,349 | 45,736 | ||||||
| Depreciation | 4,113 | 4,409 | ||||||
| Amortization of intangible assets | 3,149 | — | ||||||
| Other | 1,804 | 766 | ||||||
| Total deferred tax assets | 67,964 | 65,557 | ||||||
| Deferred Tax Liabilities | ||||||||
| Prepaid expenses | 39 | (199) | ||||||
| Amortization of intangible assets | (1,854) | (2,081) | ||||||
| Total deferred tax liabilities | (1,815) | (2,280) | ||||||
| Valuation allowance | (68,003) | (63,277) | ||||||
| Net Deferred Tax Asset/(Liability) | $ | (1,854) | $ | — | ||||
At December 31, 2008, the Company had aggregate federal net operating loss carryforwards of $88.0 million (before-tax), which will be available to reduce future taxable income through 2025, with the majority expiring in years 2024 and 2025. To the extent that the Company achieves positive net income in the future, the net operating loss carryforwards may be able to be utilized and the Company’s valuation allowance will be adjusted accordingly. The Company has federal and state tax credit carryforwards of $2.7 million which begin to expire in 2014.
As of January 1, 2007, the Company adopted the provisions of FASB Interpretation No. 48,Accounting for Uncertainty in Income Taxes — an interpretation of SFAS 109(“FIN 48”), which establishes guidance on the accounting for uncertain tax positions. FIN 48 provides for a recognition threshold and measurement attribute as part of a two-step tax position evaluation process prescribed in FIN 48. The cumulative effect of $0.8 million for adopting FIN 48 was recorded in retained earnings as an adjustment to accumulated deficit in the opening balance as of January 1, 2007.
As of December 31, 2008 and 2007, the Company had a FIN 48 liability balance of $0.23 million and $1.3 million, respectively. Of this amount, $0.15 million represented unrecognized tax benefits, which if recognized at some point in the future would favorably impact the effective tax rate, and $0.08 million is interest. The Company continues to treat interest and penalties due to a taxing authority on unrecognized tax positions as interest and penalty expense. As of December 31, 2008 and December 31, 2007, the Company recorded $0.3 and $0.08 million of accrued interest and penalties in
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the statement of financial position. Following is a reconciliation of the Company’s total gross unrecognized tax benefits for the years ended December 31, 2008 and 2007.
| (in thousands) | 2008 | 2007 | ||||||
| Gross balance at January 1 | $ | 1,038 | $ | 1,478 | ||||
| Additions based on tax positions related to the current year | — | — | ||||||
| Additions for tax positions of prior years | — | 168 | ||||||
| Reductions for tax positions of prior years | (128) | — | ||||||
| Settlements | (759) | (608) | ||||||
| Reductions due to lapse of applicable statute of limitations | — | — | ||||||
| Gross balance at December 31 | 151 | 1,038 | ||||||
| Interest and penalties | 75 | 246 | ||||||
| Balance including interest and penalties at December 31 | $ | 226 | $ | 1,284 | ||||
The Company settled various Federal, International and state income tax audits and matters consistent with the amounts previously reserved for under FIN 48. The Company is no longer subject to U.S. federal income tax examinations by tax authorities for the years before 2005 and state examinations for the years before 2003. The Company anticipates that as a result of audit settlements and statute closures over the next twelve months, the liability and interest will be reduced through cash payments of approximately $0.05 million.
| 11. | RELATED PARTY TRANSACTIONS |
On June 13, 2008, the Company entered into an intangible asset license agreement (the “Intangible Asset License Agreement”) with MS Real Estate Management Company (“MSRE”), an entity owned by Martha Stewart. The Intangible Asset License Agreement replaced the Location Rental Agreement dated as of September 17, 2004, which expired on September 17, 2007, but which was extended by letter agreement dated as of September 12, 2007 pending negotiation of the Intangible Asset License Agreement. The Intangible Asset License Agreement is retroactive to September 18, 2007 and has a five-year term.
Pursuant to the Intangible Asset License Agreement, the Company pays an annual fee of $2 million to MSRE over the5-year term for the perpetual, exclusive right to use Ms. Stewart’s lifestyle intangible asset in connection with Company products and services and during the term of the agreement to access various real properties owned by Ms. Stewart. MSRE will be responsible, at its expense, to maintain, landscape and garden the properties in a manner consistent with past practices; provided, however that the Company will be responsible for approved business expenses associated with security and telecommunications systems and security personnel related to the properties, and will reimburse MSRE for up to $100,000 of approved and documented household expenses.
The Company also provides to, and receives from, certain personnel services associated with MSRE. For the year ended December 31, 2008, the Company reimbursed MSRE $0.3 million, and MSRE reimbursed the Company $0.1 million. As of December 31, 2007, the Company was owed $0.1 million by MSRE. During 2006, MSRE reimbursed the Company $0.4 million.
In 2001, the Company entered into a split dollar life insurance arrangement with Martha Stewart and a partnership controlled by her (the “Partnership”) pursuant to which the Company agreed to pay a significant portion of the premiums on a whole-life insurance policy insuring Ms. Stewart and owned by and benefiting the Partnership. The Company will be repaid the cumulative premium payments it has made upon the earlier of Ms. Stewart’s death or the voluntary termination of the arrangement by
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Ms. Stewart out of the policies’ existing surrender value at the time of repayment. In 2002, the arrangement was amended such that the Company would not be obligated to make further premium payments unless legislation permits such payments. As of December 31, 2008 and 2007, the aggregate amount paid by the Company under this arrangement was $2.2 million, and was included in other non-current assets.
The Company has investments in several companies from which the Company derives revenues. For the period ended December 31, 2008, total revenues and expenses from these parties were $6.2 million and $0.3 million, respectively. Receivables from and payables to these parties as of December 31, 2008 were $0.6 million and $0.2 million, respectively.
The Company previously had a consulting agreement with CAK Entertainment, Inc. (“CAK Entertainment”), an entity for which Mr. Charles Koppelman serves as Chairman and Chief Executive Officer. Mr. Koppelman had been Chairman of the Board and a Director of the Company since the execution of the agreement.
In July 2008, the Board of Directors of the Company appointed Mr. Koppelman as Executive Chairman and the principal executive officer of the Company. An employment agreement was executed with Mr. Koppelman in September 2008. In accordance with the employment agreement, the consulting agreement with CAK Entertainment was terminated. The balance of cash fees due to CAK Entertainment were paid and the outstanding equity awards made under the consulting contract became fully vested, which resulted in a cash charge of $1.0 million and a non-cash charge of $0.5 million in the third quarter of 2008.
As part of his services as Chairman of the Board, Mr. Koppelman receives an annual retainer of $0.1 million. In June 2007 and 2006, Mr. Koppelman was granted, in each year, 25,000 shares of the Company’s Class A Common Stock for continuing to serve as Chairman of the Board.
Related party compensation expense includes salary, bonus, and non-cash equity compensation as determined under SFAS 123R. The Company employed Martha Stewart’ssister-in-law in 2008, 2007, and 2006 for aggregate compensation of $0.2 million in 2008, $0.3 million in 2007 and $0.3 million in 2006. The Company employed Ms. Stewart’sbrother-in-law in 2006 for aggregate compensation of $0.1 million. The Company employed Ms. Stewart’s daughter in 2008, 2007 and 2006 for aggregate compensation of $0.2 million, $0.3 million and $0.3 million, respectively. The Company employed Ms. Stewart’s sister for aggregate compensation of $0.1 million in 2008. The Company employed the daughter of Charles Koppelman, Chairman of the Board of the Company, in 2008, 2007 and 2006 for aggregate annual compensation of $0.1 million in each year.
| 12. | COMMITMENTS AND CONTINGENCIES |
Operating Leases
The Company leases office facilities, filming locations, and equipment for terms extending through 2018 under operating lease agreements. Total rent expense charged to operations for all such leases was approximately $12.5 million, $11.5 million, and $12.7 million for the years ended December 31, 2008, 2007, and 2006, respectively. The lease agreements may be subject in some cases to renewal options, early termination options or escalation clauses.
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The following is a schedule of future minimum payments under operating leases at December 31, 2008, including amounts related to the discontinued operations of The Wedding List business (see Note 16):
| Operating | ||||
| (in thousands) | Leases | |||
| 2009 | $ | 15,045 | ||
| 2010 | 9,158 | |||
| 2011 | 6,243 | |||
| 2012 | 6,487 | |||
| 2013 | 7,125 | |||
| Thereafter | 31,192 | |||
| Total minimum lease payments | $ | 75,250 | ||
Legal Matters
In April 2008, a complaint was filed against the Company and 23 other defendants in the United States District Court for the Eastern District of Texas, captionedDatatern, Inc. v. Bank of America Corp. et al.(No. 5-08CV-70). The complaint alleges that each defendant is directly or indirectly infringing a United States patent (No. 5,937,402) putatively owned by plaintiff, through alleged use on websites of object oriented source code to employ objects that are populated from a relational database, and seeks injunctive relief and money damages. The Company recently executed a settlement agreement and expects the court to dismiss the action against us in the very near future.
Beginning in August 2002, a number of complaints asserting claims under the federal securities laws against the Company were filed in the U.S. District Court for the Southern District of New York. On February 3, 2003, those actions were consolidated under the caption In re Martha Stewart Living Omnimedia, Inc. Securities Litigation, 02-CV-6273 (JES) (the “Class Action”). The Class Action also named Martha Stewart and seven of the Company’s other present or former officers as defendants. In February 2007, the parties entered into a Stipulation and Agreement of Settlement (the “Settlement Agreement”). The Court approved the Settlement Agreement on May 29, 2007. The Settlement Agreement settled the Class Action for $30 million (inclusive of plaintiffs’ attorneys’ fees and costs), plus interest (the “Settlement Amount”), with the Company paying $25 million plus interest charges, and Ms. Stewart paying $5 million. In connection with the settlement, the Company received approximately $12 million from its insurance carriers. In January 2008, the Court issued an order approving the distribution of the class settlement fund.
The Company is party to other legal proceedings in the ordinary course of business, including product liability claims for which the Company is indemnified by the Company’s licensees. None of these proceedings is deemed material.
Other
The Company has outstanding letters of credit for $2.7 million as of December 31, 2008 as security for certain leases.
The Company entered into a loan agreement with Bank of America in the amount of $30.0 million related to the acquisition of certain assets of Emeril Lagasse. The loan was originally secured by cash collateral of $28.5 million. In the third quarter of 2008, the cash collateral was replaced by collateral consisting of substantially all of the assets of the Emeril business that were acquired by the Company. See Note 7.
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| 13. | ACQUISITION OF BUSINESS |
On April 2, 2008, the Company acquired all of the assets related to the business of Chef Emeril Lagasse other than his restaurant business and Foundation for consideration of approximately $45.0 million in cash and 674,852 in shares of the Company’s Class A Common Stock which equaled a value of $5.0 million at closing. The shares issued in connection with this acquisition were not covered by the Company’s existing equity plans. The acquisition agreement also includes a potential additional payment of up to $20 million, in 2013, based upon the achievement of certain operating metrics in 2011 and 2012, a portion of which may be payable, at the Company’s election, in shares of the Company’s Class A Common Stock.
The Company acquired the assets related to chef Emeril Lagasse to further the Company’s diversification strategy and help grow the Company’s operating results. Consistent with SFAS No. 141, “Business Combinations,” this acquisition was accounted for under purchase accounting. While the primary assets purchased in the transaction were certain trade names valued at $45.2 million, as well as a television content library valued at $5.2 million, $0.9 million of the value, representing the excess purchase price over the fair market value of the assets acquired, was apportioned to goodwill. To the extent that the certain operating metrics are achieved in 2011 and 2012, the potential additional payment will be allocated to the acquisition and will be recognized as goodwill.
Of the intangible assets acquired, only the television content library is subject to amortization over a six-year period, which will be expensed based upon future estimated cash flows. For the year ended December 31, 2008, $2.3 million was charged to amortization expense and accumulated amortization related to this asset.
The results of operations for the acquisition have been included in the Company’s consolidated financial statements of operations since April 2, 2008, and are recorded in the Merchandising and Broadcasting segments in accordance with the nature of the underlying contracts. The following unaudited pro forma financial information presents a summary of the results of operations assuming the acquisition occurred at the beginning of each period presented:
| Years ended | ||||||||
| December 31, | ||||||||
| (unaudited, in thousands, except per share amounts) | 2008 | 2007 | ||||||
| Net revenues | $ | 287,528 | $ | 340,599 | ||||
| Net (loss)/income | (13,050 | ) | 13,336 | |||||
| Net (loss)/income per share-basic and diluted | $ | (0.24 | ) | $ | 0.25 | |||
Pro forma adjustments have been made to reflect amortization using asset values recognized after applying purchase accounting adjustments, to record incremental compensation costs and to record amortization of deferred financing costs and interest expense related to the long-term debt incurred to fund a part of the acquisition. No tax adjustment was necessary due to the benefit of the Company’s net operating loss carryforwards. The pro forma earnings/(loss) per share amounts are based on the pro forma number of shares outstanding as of the end of each period presented which include the shares issued by the Company as a portion of the total consideration for the acquisition.
The pro forma condensed consolidated financial information is presented for information purposes only. The pro forma condensed consolidated financial information should not be construed to be indicative of the combined results of operations that might have been achieved had the acquisition been consummated at the beginning of each period presented, nor is it necessarily indicative of the future results of the combined company.
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| 14. | SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED) (in thousands except per share data) |
| First | Second | Third | Fourth | |||||||||||||||||
| Year ended December 31, 2008 | Quarter | Quarter | Quarter | Quarter | Total | |||||||||||||||
| Revenues | $ | 67,834 | $ | 77,110 | $ | 66,512 | $ | 72,854 | $ | 284,310 | ||||||||||
| Operating (loss)/income | (4,535 | ) | 1,723 | (3,532 | ) | (4,513 | ) | (10,857 | ) | |||||||||||
Net (loss)/income | $ | (4,234 | ) | $ | 328 | $ | (3,747 | ) | $ | (8,012 | ) | $ | (15,665 | ) | ||||||
(Loss)/earnings per share – basic and diluted | $ | (0.08 | ) | $ | 0.01 | $ | (0.07 | ) | $ | (0.15 | ) | $ | (0.29 | ) | ||||||
Weighted average common shares outstanding | ||||||||||||||||||||
| Basic | 52,722 | 53,476 | 53,590 | 53,668 | 53,360 | |||||||||||||||
| Diluted | 52,722 | 55,588 | 53,590 | 53,668 | 53,360 | |||||||||||||||
| First | Second | Third | Fourth | |||||||||||||||||
| Year ended December 31, 2007 | Quarter | Quarter | Quarter | Quarter | Total | |||||||||||||||
| Revenues | $ | 66,705 | $ | 73,446 | $ | 69,256 | $ | 118,483 | $ | 327,890 | ||||||||||
| Operating income/(loss) | (12,551 | ) | (7,790 | ) | (4,911 | ) | 32,966 | 7,714 | ||||||||||||
Net (loss)/income | $ | (11,869 | ) | $ | (6,737 | ) | $ | (4,414 | ) | $ | 33,309 | $ | 10,289 | |||||||
(Loss)/earnings per share – basic and diluted | $ | (0.23 | ) | $ | (0.13 | ) | $ | (0.08 | ) | $ | 0.63 | $ | 0.20 | |||||||
Weighted average common shares outstanding | ||||||||||||||||||||
| Basic | 52,349 | 52,386 | 52,479 | 52,551 | 52,449 | |||||||||||||||
| Diluted | 52,349 | 52,386 | 52,479 | 52,650 | 52,696 | |||||||||||||||
Fourth Quarter 2008 Items:
Results include the $35 million reduction of the Company’s contractual minimum guarantee with Kmart as well as a $9.3 million non-cash goodwill impairment charge recorded in the Publishing segment.
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| 15. | BUSINESS SEGMENTS |
The Company’s business segments are discussed in Note 1. The accounting policies for the Company’s business segments are the same as those described in Note 2. Segment information for the years ended December 31, 2008, 2007, and 2006 is as follows:
| (in thousands) | Publishing | Merchandising | Internet | Broadcasting | Corporate | Consolidated | ||||||||||||||||||
2008 | ||||||||||||||||||||||||
| Revenues | $ | 163,540 | $ | 57,866 | $ | 15,576 | $ | 47,328 | $ | – | $ | 284,310 | ||||||||||||
| Non-cash equity compensation | 2,855 | 1,038 | 230 | 807 | 3,596 | 8,526 | ||||||||||||||||||
| Depreciation and amortization | 379 | 90 | 1,737 | 2,578 | 3,189 | 7,973 | ||||||||||||||||||
| Impairment charge | 9,349 | – | – | – | – | 9,349 | ||||||||||||||||||
| Operating income/(loss) | 6,424 | 32,858 | (4,796) | 2,780 | (48,123) | (10,857) | ||||||||||||||||||
| Total assets | 79,512 | 83,307 | 15,730 | 25,608 | 57,128 | 261,285 | ||||||||||||||||||
| Capital expenditures | 144 | 37 | 319 | 191 | 2,163 | 2,854 | ||||||||||||||||||
2007 | ||||||||||||||||||||||||
| Revenues | $ | 183,727 | $ | 84,711 | $ | 19,189 | $ | 40,263 | $ | – | $ | 327,890 | ||||||||||||
| Non-cash equity compensation | 4,297 | 1,555 | 501 | 6,866 | 5,899 | 19,118 | ||||||||||||||||||
| Depreciation and amortization | 1,188 | 375 | 1,242 | 2,201 | 2,556 | 7,562 | ||||||||||||||||||
| Operating income/(loss) | 11,538 | 57,229 | (6,137) | (7,519) | (47,397) | 7,714 | ||||||||||||||||||
| Total assets | 92,931 | 61,784 | 9,937 | 19,960 | 70,655 | 255,267 | ||||||||||||||||||
| Capital expenditures | 266 | 64 | 1,344 | 183 | 3,175 | 5,032 | ||||||||||||||||||
2006 | ||||||||||||||||||||||||
| Revenues | $ | 156,559 | $ | 69,504 | $ | 15,775 | $ | 46,503 | $ | – | $ | 288,341 | ||||||||||||
| Non-cash equity compensation | 2,715 | 967 | 208 | 3,006 | 6,915 | 13,811 | ||||||||||||||||||
| Depreciation and amortization | 600 | 1,021 | 117 | 3,026 | 3,834 | 8,598 | ||||||||||||||||||
| Operating income/(loss) | 6,026 | 46,529 | (531) | (1,616) | (53,241) | (2,833) | ||||||||||||||||||
| Total assets | 82,824 | 37,734 | 8,001 | 17,106 | 82,382 | 228,047 | ||||||||||||||||||
| Capital expenditures | 770 | 70 | 3,054 | 439 | 4,009 | 8,342 | ||||||||||||||||||
| 16. | DISCONTINUED OPERATIONS |
In June 2002, the Company decided to exit The Wedding List, a wedding registry and gift business that was reported within the Internet business segment. In the second quarter of 2006, a review of the accrual of future lease commitments, net of anticipated sublease rental income, resulted in a charge of $0.4 million. The anticipated sublease income was determined by estimating future cash flows based upon current market conditions. Cash flows from discontinued operations are included in changes in operating assets and liabilities on the consolidated statements of cash flows. The loss from operations, which is generated primarily from facility related expenses, was as follows:
| (in thousands) | 2008 | 2007 | 2006 | |||||||||
| Net loss from discontinued operations | $ | — | $ | — | $ | (745) | ||||||
In the third quarter of 2006, the Company signed a sublease. As a result, the Company does not expect to report further loss from discontinued operations of The Wedding List. The additional reserve taken in the second quarter of 2006 is sufficient to cover any future charges.
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The summarized balance sheet of the discontinued operations as of December 31, 2008 and 2007 were as follows:
| (in thousands) | 2008 | 2007 | ||||||
| Total assets | $ | — | $ | — | ||||
| Accounts payable and accrued expenses | (99) | (884) | ||||||
| Net liabilities of discontinued operations | $ | (99) | $ | (884) | ||||
| 17. | OTHER INFORMATION |
The Company’s financial instruments consist of cash and cash equivalents, short-term investments, accounts receivable, accounts payable and accrued expenses. The carrying amount of these accounts approximates fair value.
The Company’s revenues from foreign sources were $13.4 million, $12.3 million and $15.6 million in 2008, 2007 and 2006, respectively.
The Company’s revenues from Kmart Corporation — which predominately is included in the Merchandising segment — relative to the Company’s total revenues were approximately 10% for 2008 and 21% for each of the years ended December 31, 2007 and 2006.
Advertising expense, including subscription acquisition costs, was $17.3 million, $21.1 million, and $21.5 million for the years ended December 31, 2008, 2007, and 2006, respectively.
Production, distribution and editorial expenses; selling and promotion expenses; and general and administrative expenses are all presented exclusive of depreciation and amortization and impairment charges, which are shown separately within “Operating Costs and Expenses.”
Interest paid in 2008 was $0.9 million related to the Company’s loan with Bank of America. Interest paid in 2007 was $0.4 million related to the settlement of the 2000 IRS audit. Interest paid in 2006 was $0.4 million related to a legal settlement.
Income taxes paid were $1.1 million, $1.1 million, and $0.4 million for the years ended December 31, 2008, 2007, and 2006 respectively.
| 18. | SUBSEQUENT EVENTS |
On January 5, 2009, the Middleby Corporation completed its acquisition of TurboChef in a cash and stock transaction. Under the terms of the merger agreement, holders of TurboChef’s common shares received a combination of $3.67 in cash and 0.0486 Middleby shares of common stock per TurboChef share. The Company exchanged its 381,049 shares of TurboChef for $1.9 million which represents $1.4 million in cash and 18,518 shares of Middleby worth $0.5 million on January 5, 2009. The original warrant converted into a warrant to acquire 24,607 shares of Middleby Common Stock at a price per share of $88.38.
On March 2, 2009, the Company made equity awards to certain employees pursuant to the New Stock Plan. The awards consisted, in the aggregate, of 2,707,250 options priced at $1.96 per share (the closing price on the date of issuance), which options vest over a four-year period, and 317,875 performance-based restricted stock units, each of which represents the right to a share of the Company’s Class A Common Stock if the Company achieves earnings targets over a performance period.
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MARTHA STEWART LIVING OMNIMEDIA, INC.
SCHEDULE II – VALUATION AND QUALIFYING ACCOUNTS
(in thousands)
| Additions/ | ||||||||||||||||||||
| Additions | (Deductions) | Deductions | ||||||||||||||||||
| Balance, | Charged to | Charged to | Charged to | |||||||||||||||||
| Beginning of | Costs and | Balance Sheet | Costs and | Balance, | ||||||||||||||||
| Description | Year | Expenses | Accounts | Expenses | End of Year | |||||||||||||||
Allowance for doubtful accounts: | ||||||||||||||||||||
| Year ended December 31, | ||||||||||||||||||||
| 2008 | $ | 1,247 | $ | 399 | $ | — | $ | 144 | $ | 1,502 | ||||||||||
| 2007 | 1,207 | 332 | — | 292 | 1,247 | |||||||||||||||
| 2006 | 1,221 | 316 | — | 330 | 1,207 | |||||||||||||||
Reserve for audience underdelivery: | ||||||||||||||||||||
| Year ended December 31, | ||||||||||||||||||||
| 2008 | $ | 3,542 | $ | 1,563 | $ | — | $ | 3,236 | $ | 1,869 | ||||||||||
| 2007 | 2,554 | 2,706 | — | 1,718 | 3,542 | |||||||||||||||
| 2006 | 1,085 | 2,951 | — | 1,482 | 2,554 | |||||||||||||||
Reserve for valuation allowance on the deferred tax asset: | ||||||||||||||||||||
| Year ended December 31, | ||||||||||||||||||||
| 2008 | $ | 63,277 | $ | 4,629 | $ | 97 | $ | — | $ | 68,003 | ||||||||||
| 2007 | 62,141 | — | 6,575 | 5,439 | 63,277 | |||||||||||||||
| 2006 | 71,576 | — | (4,017 | ) | 5,418 | 62,141 | ||||||||||||||
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