UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2008
OR
o TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _______________ to ________________.
Commission File No.: 000-23434
HIRSCH INTERNATIONAL CORP.
(Exact name of registrant as specified in its charter)
Delaware | 11-2230715 |
(State or other jurisdiction of | (I.R.S. Employer |
incorporation or organization) | Identification No.) |
50 Engineers Road, Hauppauge, New York 11788
(Address of principal executive offices)
Registrant’s telephone number, including area code: (631) 436-7100
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 whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filero | Non-accelerated filero |
Smaller reporting companyx
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes o No x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of November 12, 2008.
Class of Common Equity | Number of Shares |
| |
Class A Common Stock, par value $.01 | 9,083,402 |
Class B Common Stock, par value $.01 | 400,018 |
HIRSCH INTERNATIONAL CORP. and SUBSIDIARIES
FORM 10-Q
INDEX
Part I. Financial Information | Page |
| |
| |
Item 1. Financial Statements | |
| |
Consolidated Balance Sheets as of September 30, 2008 and December 31, 2007 | 3-4 |
| |
Consolidated Statements of Operations for the Three and Nine Months Ended
September 30, 2008 and September 30, 2007 | 5 |
| |
Consolidated Statements of Cash Flows for the Nine Months Ended
September 30, 2008 and September 30, 2007 | 6 |
| |
Notes to Consolidated Financial Statements | 7-11 |
| |
Item 2. Management’s Discussion and Analysis of Financial | |
Condition and Results of Operations | 11-13 |
| |
Item 3. Quantitative and Qualitative Disclosures about Market Risk | 13 |
| |
Item 4. Controls and Procedures | 14 |
| |
| |
Part II. Other Information | |
| |
Item 1. Legal Proceedings | 14 |
| |
Item 1A. Risk Factors | 14 |
| |
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds | 14 |
| |
Item 3. Defaults Upon Senior Securities | 15 |
| |
Item 4. Submission of Matters to a Vote of Security Holders | 15 |
| |
Item 5. Other Information | 15 |
| |
Item 6. Exhibits | 15-16 |
| |
Signatures | 17 |
PART I - FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
HIRSCH INTERNATIONAL CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
| September 30, 2008 | | December 31, 2007 |
| (unaudited) | | | |
ASSETS CURRENT ASSETS: | | | | | |
| | | | | |
Cash and cash equivalents | $ | 4,171 | | $ | 14,422 |
| | | | | |
Restricted cash (Note 1) | | 644 | | | 2,284 |
| | | | | |
Accounts receivable, net of an allowance for possible losses
of $473 and $503, respectively, and a sales return reserve
of $50 for both periods | | 6,171 | | | 5,798 |
| | | | | |
Inventories, net (Note 3) | | 10,420 | | | 5,725 |
| | | | | |
Other current assets | | 1,013 | | | 518 |
| | | | | |
Total current assets | | 22,419 | | | 28,747 |
| | | | | |
PROPERTY, PLANT AND EQUIPMENT, net | | 1,776 | | | 512 |
| | | | | |
GOODWILL (Note 4) | | 364 | | | - |
| | | | | |
OTHER INTANGIBLE ASSETS, net (Note 4) | | 436 | | | - |
| | | | | |
Other Assets | | 35 | | | 41 |
| | | | | |
Total Assets | $ | 25,030 | | $ | 29,300 |
| | | | | |
See notes to consolidated financial statements.
HIRSCH INTERNATIONAL CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
| September 30, 2008 | | December 31, 2007 |
LIABILITIES AND STOCKHOLDERS' EQUITY | (unaudited) | | | |
| | | | | |
CURRENT LIABILITIES: | | | | | |
| | | | | |
Accounts payable and accrued expenses (Note 5) | $ | 7,510 | | $ | 8,842 |
Capitalized termination obligation | | 30 | | | 120 |
Customer deposits | | 1,222 | | | 621 |
Other current liabilities | | 13 | | | 111 |
Total liabilities | | 8,775 | | | 9,694 |
| | | | | |
Other Long Term Liabilities- less current maturities | | 23 | | | – |
| | | | | |
Total liabilities | | 8,798 | | | 9,694 |
| | | | | |
COMMITMENTS AND CONTINGENCIES | | | | | |
| | | | | |
STOCKHOLDERS' EQUITY | | | | | |
Preferred stock, $.01 par value; authorized: 1,000,000
shares; issued: none | | – | | | – |
Class A common stock, $.01 par value; authorized:
20,000,000 shares, issued: 10,226,000 and 10,216,000
shares, respectively | | 102 | | | 102 |
Class B common stock, $.01 par value; authorized:
3,000,000 shares, outstanding: 400,000 for both periods | | 4 | | | 4 |
Additional paid-in capital | | 43,304 | | | 43,031 |
Accumulated deficit | | (25,181) | | | (21,534) |
| | 18,229 | | | 21,603 |
| | | | | |
Less: Treasury Class A Common stock at cost - 1,143,000 shares | | 1,997 | | | 1,997 |
Total stockholders' equity | | 16,232 | | | 19,606 |
| | | | | |
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY | $ | 25,030 | | $ | 29,300 |
| | | | | |
See notes to consolidated financial statements.
HIRSCH INTERNATIONAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(Unaudited)
| Three Months Ended | | Nine Months Ended |
| September 30,
2008 | | September 30,
2007 | | September 30,
2008 | | September 30,
2007 |
NET SALES | $ | 10,554 | | $ | 11,909 | | $ | 32,434 | | $ | 38,143 |
| | | | | | | | | | | |
COST OF SALES | | 7,348 | | | 7,382 | | | 21,888 | | | 23,709 |
| | | | | | | | | | | |
GROSS PROFIT | | 3,206 | | | 4,527 | | | 10,546 | | | 14,434 |
| | | | | | | | | | | |
OPERATING EXPENSES | | 5,200 | | | 4,731 | | | 14,323 | | | 13,095 |
| | | | | | | | | | | |
OPERATING (LOSS) INCOME | | (1,994) | | | (204) | | | (3,777) | | | 1,339 |
| | | | | | | | | | | |
OTHER (INCOME) EXPENSES | | | | | | | | | | | |
Interest expense | | 23 | | | 4 | | | 23 | | | 10 |
Interest and other income | | (20) | | | (98) | | | (164) | | | (214) |
Total other (income) expense | | 3 | | | (94) | | | (141) | | | (204) |
| | | | | | | | | | | |
(LOSS) INCOME BEFORE INCOME
TAX PROVISION | | (1,997) | | | (110) | | | (3,636) | | | 1,543 |
| | | | | | | | | | | |
INCOME TAX PROVISION | | 2 | | | 9 | | | 11 | | | 84 |
| | | | | | | | | | | |
NET (LOSS) INCOME | $ | (1,999) | | $ | (119) | | $ | (3,647) | | $ | 1,459 |
| | | | | | | | | | | |
(LOSS) EARNINGS PER SHARE | | | | | | | | | | | |
Basic | $ | (0.21) | | $ | (0.01) | | $ | (0.38) | | $ | 0.16 |
Diluted | $ | (0.21) | | $ | (0.01) | | $ | (0.38) | | $ | 0.15 |
| | | | | | | | | | | |
WEIGHTED AVERAGE NUMBER OF
SHARES IN THE CALCULATION
OF EARNINGS (LOSS) PER SHARE | | | | | | | | | | | |
Basic | | 9,483 | | | 9,413 | | | 9,480 | | | 9,078 |
Diluted | | 9,483 | | | 9,413 | | | 9,480 | | | 9,449 |
See notes to consolidated financial statements.
HIRSCH INTERNATIONAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(Unaudited)
| Nine Months Ended |
| September 30,
2008 | | September 30,
2007 |
| | | | | |
CASH FLOWS FROM OPERATING ACTIVITIES: | | | | | |
Net (loss) income | $ | (3,647) | | $ | 1,459 |
Adjustments to reconcile net (loss) income to net cash
used in operating activities: | | | | | |
Depreciation and amortization | | 227 | | | 160 |
Provision for reserves | | 28 | | | (26) |
Stock option expense (Note 2) | | 264 | | | 565 |
Gain on settlement | | – | | | (450) |
| | | | | |
Changes in assets and liabilities, net of effects of acquisition: | | | | | |
Restricted Cash (Note 1) | | 1,645 | | | (2,220) |
Accounts receivable | | 7 | | | 345 |
Inventories | | (3,694) | | | (610) |
Other assets | | 385 | | | (111) |
Accounts payable and accrued expenses | | (3,846) | | | (1,363) |
| | | | | |
Net cash used in operating activities | | (8,631) | | | (2,251) |
| | | | | |
CASH FLOWS FROM INVESTING ACTIVITIES: | | | | | |
Capital expenditures | | (1,065) | | | (205) |
Investment in Graphic Arts Acquisition Co | | (10) | | | – |
Net cash used in investing activities | | (1,075) | | | (205) |
| | | | | |
CASH FLOWS FROM FINANCING ACTIVITIES: | | | | | |
Repayments of long term debt | | (4) | | | (90) |
Payments of debt assumed at acquisition | | (550) | | | – |
Collection of officers loan receivable | | – | | | 495 |
Exercise of stock options | | 9 | | | 265 |
Net cash (used in) provided by financing activities | | (545) | | | 670 |
| | | | | |
Decrease in cash and cash equivalents | | (10,251) | | | (1,786) |
Cash and cash equivalents, beginning of period | | 14,422 | | | 14,498 |
Cash and cash equivalents, end of period | $ | 4,171 | | $ | 12,712 |
| | | | | |
Supplemental disclosure of cash flow information: | | | | | |
Interest paid | $ | 98 | | $ | 10 |
Income taxes paid | $ | 11 | | $ | 84 |
| | | | | |
Non-cash Investing Activities: | | | | | |
Accrued acquisition costs associated with purchase of Graphic Arts, Inc. | $ | 200 | | $ | 0 |
See notes to consolidated financial statements.
Hirsch International Corp. and Subsidiaries
Notes to Consolidated Financial Statements
Three and Nine Months Ended September 30, 2008 and September 30, 2007
1. Summary of Significant Accounting Policies
a) Business Organization and Basis of Presentation
In the opinion of management, the accompanying unaudited consolidated financial statements contain all the adjustments, consisting of normal accruals, necessary to present fairly the results of operations for each of the three and nine months ended September 30, 2008 and September 30, 2007, the financial position at September 30, 2008 and December 31, 2007 and cash flows for the nine months ended September 30, 2008 and September 30, 2007. Such adjustments consisted only of normal recurring items. On August 4, 2008, the Company acquired 80% of the outstanding equity interest in U.S. Graphic Arts, Inc. 100% of the current period net loss for U.S Graphic Arts, Inc. has been included in this presentation due to the accumulated loss. The consolidated financial statements and notes thereto should be read in conjunction with the Company's Annual Report on Form 10-K for the calendar year ended December 31, 2007 as filed with the Securities and Exchange Commission.
Our accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnote disclosures required by accounting principles generally accepted in the United States for complete financial statements.
The preparation of the financial statements in conformity with accounting principles generally accepted in the United States requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
The Company operates as one segment.
The interim financial results are not necessarily indicative of the results to be expected for the full year. Certain amounts from prior periods have been reclassified to conform to the current period’s presentation.
b) New Accounting Standards
In September 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 157, "Fair Value Measurements" (“SFAS 157”) which establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. SFAS 157 defines fair value as the price that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants at the measurement date. SFAS 157 is effective for financial assets and liabilities that are measured at fair value on a recurring basis for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company adopted SFAS No. 157 as of January 1, 2008 and it did not have a material impact on our results of operation or our financial position. The Company will adopt the provisions of SFAS No. 157 for non financial assets and liabilities beginning January 1, 2009. The Company is in the process of determining whether the adoption of SFAS No 157 will have a material impact on our results of operations of financial position.
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities –Including an amendment to FASB Statement No. 115” (“SFAS 159”). This statement permits all entities to elect to measure certain financial instruments and other items at fair value with changes in fair value to such items reported in earnings. SFAS 159 is effective
as of the beginning of the first fiscal year that begins after November 15, 2007. The Company did not elect to adopt the provisions of SFAS No. 159 as of January 1, 2008.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS 141R”), which requires an acquirer to do the following: expense acquisition related costs as incurred; record contingent consideration at fair value at the acquisition date with subsequent changes in fair value to be recognized in the income statement; and recognize any adjustments to the purchase price allocation as a period cost in the income statement. SFAS 141R applies prospectively to business combinations for which the acquisition date is on or after the first annual reporting period beginning on or after December 15, 2008. Earlier application is prohibited. The adoption of SFAS 141R will affect the accounting for future acquisitions, if any.
In December, 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements—an amendment of ARB No. 51” (“SFAS 160”). This statement establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. SFAS 160 is effective prospectively, except for certain retrospective disclosure requirements, for fiscal years beginning after December 15, 2008. The Company is still determining whether the adoption of SFAS 160 will have a material impact on our results of operations or our financial position.
c) Cash and Cash Equivalents
Effective September 30, 2008, the Company reduced its standby letter of credit from ¥232,000,000 (approximately $2.4 million) to ¥62,031,300 (approximately $644,000) to cover the remaining shipments under the standby letter of credit. The Company will now open individual letters of credit for future purchases.
2. Share-Based Compensation
The Company recognized $102,000 and $264,000 of non-cash compensation expense for the three and nine months ended September 30, 2008 and $218,000 and $565,000 for the three and nine months ended September 30, 2007 (included in Operating Expenses in the unaudited Consolidated Statement of Operations) attributable to stock options granted or vested. The Company used the Black-Scholes valuation model and straight-line amortization of compensation expense over the requisite service period of the grant.
A reconciliation of shares used in calculating basic and diluted earnings (loss) per common share for the three and nine months ended September 30, 2008 and September 30, 2007 follows:
| Three months ended | Nine months ended | | Three months ended | Nine months ended |
| September 30, 2008 | | September 30, 2007 |
Basic | 9,483,420 | 9,480,087 | | 9,413,510 | 9,078,127 |
| | | | | |
Number of shares issued if employee stock options were exercised | - | - | | - | 370,666 |
| | | | | |
Diluted | 9,483,420 | 9,480,087 | | 9,413,510 | 9,448,793 |
34,368 and 148,135 options were excluded from the computation of diluted earnings per share for the three and nine months ended September 30, 2008, respectively, because they were
anti-dilutive. There were 10,000 options exercised during the nine months ended September 30, 2008.
346,916 options were excluded from the computation of diluted earnings per share because they were ant-dilutive for the three months ended September 30, 2007. No options were excluded from the computation of diluted earnings per share for the nine months ended September 30, 2007 because there were no exercisable options with exercise prices exceeding the average fair market value of the Company’s common stock.
3. Inventories
| (Numbers in thousands) |
| September 30, 2008 | | December 31, 2007 |
| | | | | |
New Machines and Software | $ | 8,544 | | $ | 4,823 |
Used Machines | | 115 | | | 45 |
Parts and supplies | | 3,249 | | | 2,270 |
| | 11,908 | | | 7,138 |
Less: Reserve for slow moving inventory | | (1,488) | | | (1,413) |
| | | | | |
Inventories, net | $ | 10,420 | | $ | 5,725 |
| | | | | |
4. Acquisition
On August 4, 2008, the Company acquired 80% of the outstanding equity interest in U. S. Graphic Arts, Inc. (“U.S. Graphics”) pursuant to a Share Purchase and Sale Agreement, dated as of August 4, 2008 (the “Purchase Agreement”), among the Company, U. S. Graphics, Scott O. Fresener, Patricia Fresener, Scott M. Fresener, Mishelle Fresener (collectively, the “Seller”) and Fresener Holdings, LLC. In connection with and as a condition to this acquisition, Graphic Arts Acquisition Corporation, a wholly-owned subsidiary of the Company, purchased certain outstanding indebtedness of U.S. Graphics and agreed, under certain circumstances, to make further advances to U. S. Graphics.
In addition to the standard and customary representations, warranties, covenants and indemnities contained in the Purchase Agreement, the Company has the right, from and after August 4, 2011, to purchase the remaining 20% equity interest in US Graphics for a purchase price based on the greater of (x) the net income before taxes of US Graphics multiplied by 4.5 or (y) the net book value of U.S. Graphics. The Sellers, from August 4, 2009 through August 4, 2013, have the right to cause the Company to purchase their remaining 20% equity interest in US Graphics for a purchase price determined in the same manner as the price for the Company’s exercise of its option. The Company reviews the value of this option quarterly and as of September 30, 2008 the option had no value. All of the current period net loss for U.S Graphic Arts, Inc. has been included in this presentation due to the accumulated net loss. Also, the Sellers have agreed not to compete with U.S. Graphics through August 4, 2010.
U.S. Graphics is primarily engaged in developing and manufacturing printers for the decorative apparel industry. The assets of U.S Graphics include inventory of printers and ink, equipment, intellectual property and other intangibles.
The following sets forth the components of the purchase price:
Total cash consideration | | $ 10 |
Direct acquisition costs | | $ 200 |
Total purchase price | | $ 210 |
The following table provides the preliminary allocation of the purchase price based upon the fair value of the assets acquired and liabilities assumed at August 4, 2008:
Assets: | | |
Accounts receivable | | $ 317 |
Inventory | | 1,317 |
Other current assets | | 619 |
Property & equipment | | 437 |
Goodwill | | 364 |
Identifiable intangible assets | | 448 |
| | $ 3,502 |
| | |
Liabilities: | | |
Accounts payable | | $ 1,158 |
Accrued liabilities | | 2,134 |
| | $ 3,292 |
| | |
Total Purchase Price | | $ 210 |
The value allocated to goodwill and identifiable intangible assets in the acquisition of U.S. Graphic Arts are not deductible for income tax purposes.
The unaudited consolidated financial statements presented in this Report include the results of operations for U.S. Graphic Arts for the period from August 4, 2008 to September 30, 2008.
The Company is in the process of obtaining an independent third-party valuation of the identifiable intangible assets. The excess of the total purchase price over the fair value of the net assets acquired, including the value of the identifiable intangible assets, has been allocated to goodwill. These fair values are based on current information and are subject to change.
The intangible assets subject to amortization have been assigned useful lives as follows:
Customer list | | 3 years |
Trademark | | 17 years |
The following table summarizes, on an unaudited pro forma basis, the combined results of operations of the Company and U.S. Graphic Arts as though the acquisition transaction had occurred as of January 1, 2007 The pro forma amounts give effect to appropriate adjustments for amortization of intangible assets, additional compensation related to an employment agreement, interest expense and income taxes. The pro forma amounts presented are not necessarily indicative of either the actual consolidated operating results had the acquisition transaction occurred as of January 1, 2007.
| | Three months ended
September 30, | | Nine months ended
September 30, | |
| | 2008 | | 2007 | | 2008 | | 2007 | |
Revenues | | $ | 10,700 | | $ | 16,624 | | $ | 37,697 | | $ | 52,354 | |
| | | | | | | | | |
Net (loss) income | | $ | (3) | | $ | (356) | | | (3,072) | | $ | 832 | |
| | | | | | | | | |
(Loss) Earnings per share of common stock | | | | | | | | | |
Basic | | $ | 0.00 | | $ | (0.04) | | $ | (0.32) | | $ | 0.09 | |
| | | | | | | | | |
Diluted | | $ | 0.00 | | $ | (0.04) | | $ | (0.32) | | $ | 0.09 | |
| | | | | | | | | | | | | | | | |
5. Warranty Reserve
The warranty reserve included in Accounts Payable and Accrued Expenses was $693,000 at September 30, 2008 and $613,000 at December 31, 2007. The Company recorded approximately $87,000 and $101,000 for the three and nine months ended September 30, 2008 and $119,000 and $155,000 in warranty expense for the three and nine months ended September 30, 2007.
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis contains forward-looking statements which involve risks and uncertainties. When used herein, the words "anticipate", "believe", "estimate" and "expect" and similar expressions as they relate to the Company or its management are intended to identify such forward-looking statements. The Company's actual results, performance or achievements could differ materially from the results expressed in or implied by these forward-looking statements. Factors that could cause or contribute to such differences include, without limitation, the risks and uncertainties discussed under the caption “Risk Factors” in the Company’s Form 10K for the year ending December 31, 2007 and in the Company’s other filings made with the Securities and Exchange Commissions from time to time. The discussion and analysis should be read in conjunction with, and is qualified in its entirety by, the Company's Consolidated Financial Statements, including the Notes thereto. Historical results are not necessarily indicative of trends in operating results for any future period.
Three and nine months ended September 30, 2008 as compared to September 30, 2007.
Net sales. Net sales for the three months ended September 30, 2008 were $10.6 million, a decrease of $1.3 million, or 10.9%, compared to $11.9 million for the three months ended September 30, 2007, and for the nine months ended September 30, 2008 were $32.4 million, a decrease of $5.7 million, or 15.0%, compared to $38.1 million for the nine months ended September 30, 2007. The decrease in sales for the three and nine months ended September 30, 2008 is primarily attributable to a decrease in new embroidery of machines of $3.3 million and $8.2 million respectively, due to the general slowdown in demand for capital goods. The decrease in new embroidery machines is offset by an increase in sales of MHM Screen Printing, Kornit Digital Printers, SEIT Lasers, all other products and sales of US Graphics of $1.9 million for the three months ended September 30, 2008 and $2.5 million for the nine months ended September 30, 2008.
Cost of sales. For the three months ended September 30, 2008, cost of sales decreased $0.1 million to $7.3 million from $7.4 million for the three months ended September 30, 2007 and decreased $1.8 million to $21.9 million from $23.7 million for the nine months ended September 30, 2007. The decrease for the three and nine month periods ended September 30, 2008 is the result of lower sales volume combined with higher costs in the new machine categories. The Company's gross margin decreased to 30.4% for the three months ended September 30, 2008 as compared to 38% for the three months ended September 30, 2007, and decreased to 32.5% for the nine months ended September 30, 2008 from 37.8% for the nine months ended September 30, 2007. For the three month period ended September 30, 2008 compared to the three month period ended September 30, 2007, the Company experienced a decrease in sales for the new embroidery machine category which lowered gross margin by $1.6 million offset by increases in MHM Screen Printing , Kornit digital, U.S. Graphics and all other products of $0.1 million. For the nine month period ended September 30, 2008 compared to the nine month period ended September 30, 2007, the Company experienced a decrease in the new embroidery machine category which decreased gross margin by $4.4 million offset by increases in gross margin in the used machine, parts, service, U.S. Graphics and other categories of $0.5 million. The fluctuation of the dollar against the yen, which is the currency the Company’s embroidery machines are purchased in, has affected and is likely to continue to affect the Company’s machine sales pricing competitiveness and gross margins. Yen fluctuations amounted to an increase in gross profit of $55,000 for the three months ended September 30, 2008, versus an increase in gross profit of $87,000 for the three months ended
September 30, 2007, and an increase in gross profit of $55,000 for the nine months ended September 30, 2008 versus an increase in gross profit of $15,000 for the nine months ended September 30, 2007.
Operating Expenses. For the three months ended September 30, 2008 operating expenses were $5.2 million, an increase of $0.5 million, or 10.6% as compared to $ 4.7 million for the three months ended September 30, 2007, and for the nine months ended September 30, 2008, operating expenses were $14.3 million, an increase of $1.2 million, or 9.2%, as compared to $13.1 million for the nine months ended September 30, 2007. The increase in operating expenses for the three and nine months ended September 30, 2008 is additional expenses of U.S. Graphic’s of $0.8 million, a non recurring charge of $0.2 million for severance associated with a reduction in operating personnel offset by the reduction in operating expenses for the three and nine months ended September 30, 2007. Included in the September 30, 2007 nine month results is the recognition of $450,000 in income associated with the settlement agreement with Sheridan Square.
Interest Expense. Interest expense for the three months ended September 30, 2008 increased to $23,000 from $4,000 for the three months ended September 30, 2007 and for the nine months ended September 30, 2007, increased to $23,000 from $10,000 for the nine months ended September 30, 2007. For the three months and nine months ended September 30, 2008, interest expense was related to the U.S Graphic’s line of credit. For the three months ended September 30, 2007, interest expense was related to the financing of insurance premiums.
Other Income. Other income for the three months ended September 30, 2008 decreased by $78,000 to $20,000 from $98,000 for the three months ended September 30, 2007 primarily attributable to a decrease in interest income for the quarter due to lower cash balances. For the nine months ended September 30, 2008, other income decreased $47,000 to $167,000 from $214,000 for the nine months ended September 30, 2007, primarily due to decreases in interest income related to the lower cash balances.
Income tax expense. Income tax expense for the three months ended September 30, 2008 was $2,000 versus $9,000 for the three months ended September 30, 2007 and for the nine months ended September 30, 2008 was $11,000 versus $84,000 for the nine months ended September 30, 2007. For the three and nine months ended September 30, 2008 the amounts represent minimum AMT tax estimates for the current year. For the three and nine months ended September 30, 2007, these amounts represent taxes due on year end income for various state and local income taxes, for which the Net Operating Loss carry-forwards from prior years do not apply.
Net (Loss) Income. Net loss for the three months ended September 30, 2008 was $2.0 million an increase of $1.9 million as compared to net loss of $0.1 million for the three months ended September 30, 2007 and for the nine months ended September 30, 2008 was $3.6 million, a decrease of $5.1 million as compared to net income of $1.5 million for the nine months ended September 30, 2007. The decrease in both periods is primarily from an increase in operating loss due to the decrease in sales and the acquisition of Graphic Arts.
Liquidity and Capital Resources
Operating Activities and Cash Flows
The Company's working capital was $13.6 million at September 30, 2008, decreasing $5.5 million, or 28.8%, from $19.1 million at December 31, 2007.
During the nine months ended September 30, 2008, the Company's cash and cash equivalents decreased to $4.2 million from $14.4 million at December 31, 2007. Net cash of $8.6 million was used by the Company’s operating activities primarily to increase inventory by $3.7 and pay down of accounts payable by $3.8. Cash of $0.6 million was used in funding the assumed liabilities in the U.S Graphic’s acquisitions. Cash of $1.1 million was used in investing activities for capital expenditures primarily for a new computer system.
During the nine months ended September 30, 2007, the Company's cash and cash equivalents (excluding restricted cash) decreased to $12.7 million from $14.5 million at December 31, 2006. $2.3 million net cash was used during the first nine months of 2007 by the Company's operating activities, of which $2.2 million was the restricting of cash for a standby letter of credit; $1.4 million was used to pay down accounts payable and accrued expenses which was offset by income from operations of $1.3 million. Income from operations also included the $450,000 Sheridan Square settlement. Cash of $0.2 million was used for capital expenditures and $0.7 million was provided by financing activities, primarily from the exercise of stock options and the collection of officer’s loans receivable.
The Company purchases inventory in Yen and maintains bank accounts denominated in Yen in order to facilitate payments. The Company purchases yen in anticipation of current invoice maturities in order to mitigate the impact of currency fluctuations. As of September 30, 2008 the Company did not own any foreign currency futures contracts.
Revolving Credit Facility and Borrowings
The Company does not currently have a credit facility as it believes it has sufficient cash to fund current working capital needs. The Company, at this time, does not intend to enter into a new credit facility.
On April 4, 2007, the Company opened a standby letter of credit denominated in Japanese yen in the amount of ¥232,000,000 (or approximately $1,880,000). The standby letter of credit was opened with Wachovia Bank, National Association and the beneficiary is Tajima America Corp. The standby letter of credit is used to support purchases on open terms with Tajima and is collateralized by restricted cash denominated in Japanese yen of ¥232,000,000. Effective September 30, 2008, the Company reduced the standby letter of credit to ¥62,031,000 (or approximately $0.6 million as of September 30, 2008). The Company will open individual letters of credit for future purchases.
Critical Accounting Policies and Estimates
There have been no material changes in our critical accounting policies and estimates from those disclosed in Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2007, other than the changes for the acquisition of U.S Graphics on August 4, 2008 (see Note 4 to the Financial Statements).
Future Capital Requirements
The Company believes that its existing cash and funds generated from operations will be sufficient to meet its working capital and capital expenditure requirements in the foreseeable future.
Backlog and Inventory
The ability of the Company to fill orders quickly is an important part of its customer service strategy. The embroidery machines held in inventory by the Company are generally shipped within a week from the date the customer's orders are received, and as a result, backlog is not meaningful as an indicator of future sales.
Inflation
The Company does not believe that inflation has had, or will have in the foreseeable future, a material impact upon the Company's operating results.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and the Chief Financial Officer, the Company carried out an evaluation of the effectiveness of the design and operation of the disclosure controls and procedures, as defined in Rules 13a-15e and 15d-15e of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based upon that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective, as of the end of the period covered by this Report, in ensuring that material information relating to the Company required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rule and forms, including ensuring that such material information is accumulated and communicated to the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
There have been no individual changes in the Company’s internal controls over financial reporting that occurred during the quarter ended September 30, 2008 that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting, However, there has been an initiative commenced this quarter relating to the acquisition integration, that when considered in the aggregate, currently represents a material change in our internal controls over financial reporting.
The acquisition of U.S. Graphics which was completed during the quarter, utilizes a separate information and financial accounting system that have been included in our consolidated financial statement.
The acquisition, and integration of the new system implementations involve necessary and appropriate change management controls that are considered in our annual assessment of the design and operating effectiveneness of our internal control over financial reporting. We expect our assessment of the changes in internal control to be completed in 2009.
PART II-OTHER INFORMATION
Item 1. Legal Proceedings
We are, from time to time, a party to various legal actions arising in the normal course of business. However, management believes that as a result of legal defenses and insurance arrangements with parties believed to be financially capable, there are no proceedings, threatened or pending against us that, if determined adversely, would have a material adverse effect on our business or financial position.
Item 1A. Risk Factors
Our operating results are impacted by the health of the United States economy. Our business and financial performance may be adversely affected by current and future economic conditions that cause a decline in business and spending of our customers, including a reduction in the availability of credit for our customers, rising interest rates, financial market volatility and recession. With the exception of material changes noted above, there have been no other material changes in our risk factors from those discussed in Part 1, Item 1A of our 2007 Form 10K. For a full description of these risk factors, please refer to Item 1A (Risk Factors) in the Company’s Report on Form 10-K for the year ended December 31, 2007.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
The Company’s Annual Meeting of stockholders was held on October 3, 2008. At the close of business on the record date for the meeting (which was August 5, 2008), there were 9,083,402 shares of Class A Common Stock outstanding and entitled to vote, and 400,018 shares of Class B Common Stock outstanding and entitled to vote at the meeting.
Proposal number 1 involved the election of directors. The Company’s Class A stockholders elected the below two individuals to be directors of the Company. In connection with such election, there were no broker non-votes.
Name | Votes For | Votes Withheld |
Marvin Broitman | 6,735,041 | 1,453,261 |
Mary Ann Domuracki | 6,761,381 | 1,426,921 |
The Company’s Class B stockholder elected the below three individuals to be directors of the Company. In connection with such election, there were no broker non-votes.
Name | Votes For | Votes Withheld |
Henry Arnberg | 400,018 | 0 |
Christopher J. Davino | 400,018 | 0 |
Paul Gallagher | 400,018 | 0 |
Proposal number 2 involved the ratification of the appointment of BDO Siedman, LLP as the Company’s independent registered public accounting firm for the fiscal year ending December 31, 2008. There were no broker non-votes in connection with such proposal. The Company’s Class A and B stockholders, voting together as a class, voted as follows:
Votes For | Votes Against | Abstentions |
8,130,934 | 428,985 | 28,400 |
Item 5. Other Information
None.
Item 6. Exhibits
(a) | Exhibits |
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*3.1 | Restated Certificate of Incorporation of the Registrant. |
| |
**3.2 | Amended and Restated By-laws of the Registrant. |
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***4.1 | Specimen of Class A Common Stock Certificate. |
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***4.2 | Specimen of Class B Common Stock Certificate. |
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31.1 | Certification of Chief Executive Officer pursuant to Rule 13a – 14(a) or Rule 15d – 14(a). |
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31.2 | Certification of Chief Financial Officer to Section Rule 13a – 14(a) or Rule 15d – 14(a). |
32.1 | Certification of Chief Executive Officer pursuant to Section 906 of Sarbanes-Oxley Act of 2002. |
| |
32.2 | Certification of Chief Financial Officer pursuant to Section 906 of Sarbanes-Oxley Act of 2002. |
*Incorporated by reference from the Registrant's Form 10-Q filed for the quarter ended July 31, 1997.
**Incorporated by reference from the Registrant's Form 10-Q filed for the quarter ended October 31, 1997.
***Incorporated by reference from the Registrant's Registration Statement on Form S-1, Registration Number 33-72618
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| HIRSCH INTERNATIONAL CORP. |
| Registrant |
| | |
| By: | /s/ Paul Gallagher |
| | Paul Gallagher, |
| | President, Chief Executive Officer and Chief Operating Officer |
| | |
| | |
| By: | /s/ Beverly Eichel |
| | Beverly Eichel |
| | Executive Vice President, Finance and Chief Financial Officer and Secretary |
Dated: November 14, 2008
