SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
Quarter Ended May 2, 1998 Commission File Number 0-15898
DESIGNS, INC.
----------------------------
(Exact name of registrant as
specified in its charter)
Delaware 04-2623104
- ------------------------------- ---------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
66 B Street, Needham, MA 02194
- --------------------------------------- ---------
(Address of principal executive offices) (Zip Code)
(781) 444-7222
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(Registrant's telephone
number, including area code)
Indicate by "X" whether the registrant: (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities 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
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Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding as of May 2, 1998
----- -----------------------------
Common 15,739,369
DESIGNS, INC.
CONSOLIDATED BALANCE SHEETS
May 2, 1998, May 3, 1997 and January 31, 1998
(In thousands, except per share data)
(Unaudited)
May 2, May 3, January 31,
1998 1997 1998
ASSETS ------------------------------------
Current assets:
Cash and cash equivalents $ 3,758 $ 119 $ 1,473
Accounts receivable 214 467 115
Inventories 56,926 104,112 54,972
Income taxes refundable and deferred 2,760 2,179 13,857
Prepaid expenses 1,342 6,359 1,015
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Total current assets 65,000 113,236 71,432
Property and equipment, net of accumulated
depreciation and amortization 32,724 40,851 35,307
Other assets:
Deferred income taxes 6,362 2,700 6,362
Intangible assets, net 2,885 3,053 2,945
Other assets 456 303 353
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Total assets $107,427 $160,143 $116,399
====================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 12,592 $ 25,390 $ 8,821
Accrued expenses and other
current liabilities 6,543 7,779 6,129
Accrued rent 2,992 2,593 2,751
Reserve for severance and store closings 491 - 1,799
Notes payable 1,000 10,600 9,828
------------------------------------
Total current liabilities 23,618 46,362 29,328
Minority interest 4,465 5,807 4,691
Stockholders' equity:
Preferred Stock, $0.01 par value,
1,000,000 shares authorized,
none issued
Common Stock, $0.01 par value,
50,000,000 shares authorized,
16,020,000, 15,903,000 and
16,012,000 shares issued at
May 2, 1998, May 3, 1997 and
January 31, 1998 , respectively 160 159 160
Additional paid-in capital 53,668 53,371 53,652
Retained earnings 27,343 56,271 30,395
Treasury stock at cost, 281,000 shares (1,827) (1,827) (1,827)
------------------------------------
Total stockholders' equity 79,344 107,974 82,380
------------------------------------
Total liabilities and stockholders' equity $107,427 $160,143 $116,399
====================================
The accompanying notes are an integral part of the
consolidated financial statements.
DESIGNS, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share data)
(Unaudited)
Three Months Ended Twelve Months Ended
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May 2, May 3, May 2, May 3,
1998 1997 1998 1997
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Sales $43,400 $55,470 $253,656 $285,727
Cost of goods sold including occupancy 34,024 41,984 219,408 202,169
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Gross profit 9,376 13,486 34,248 83,558
Expenses:
Selling, general and administrative 11,946 16,055 61,548 65,931
Restructuring charge - - 7,646 -
Depreciation and amortization 2,491 2,786 10,939 10,705
-------------------------------------------
Total expenses 14,437 18,841 80,133 76,636
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Operating income (loss) (5,061) (5,355) (45,885) 6,922
Interest expense 191 151 891 304
Interest income 20 55 110 903
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Income (loss) before minority
interest and income taxes (5,232) (5,451) (46,666) 7,521
Less minority interest (226) (16) (533) 624
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Income (loss) before income taxes (5,006) (5,435) (46,133) 6,897
Provision (benefit) for income taxes (1,954) (2,251) (17,202) 2,672
-------------------------------------------
Net income (loss) $(3,052) $(3,184) $(28,931) $ 4,225
===========================================
Earnings per share-Basic and Diluted $ (0.19) $ (0.20) $ (1.85) $ 0.27
The accompanying notes are an integral part of the
consolidated financial statements.
DESIGNS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Three months ended
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May 2, May 3,
1998 1997
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Cash flows from operating activities:
Net loss $(3,052) $(3,184)
Adjustments to reconcile to net cash
provided by (used for) operating activities:
Depreciation and amortization 2,491 2,786
Minority interest (226) (16)
Loss on sale of investments - 102
Loss from disposal of property and equipment 130 3
Changes in operating assets and liabilities:
Accounts receivable (100) 91
Inventories (1,954) (24,154)
Prepaid expenses (327) (1,942)
Reserve for severance and store closings (1,308) -
Income taxes payable 11,097 (1,353)
Accounts payable 3,771 13,196
Accrued expenses and other current liabilities 544 733
Accrued rent 241 195
-----------------------
Net cash provided by (used for) operating activities 11,307 (13,543)
-----------------------
Cash flows from investing activities:
Additions to property and equipment (151) (4,161)
Incurrence of pre-opening costs - (104)
Proceeds from disposal of property and equipment 87 1
Sale and maturity of investments - 5,785
(Increase) reduction in other assets (146) 51
Distributions to joint venture partner - (900)
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Net cash (used for) provided by investing activities (210) 672
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Cash flows from financing activities:
Net (payments) borrowings under credit facility (8,828) 9,600
Issuance of common stock under option program (1) 16 -
-----------------------
Net cash (used for) provided by financing activities (8,812) 9,600
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Net increase (decrease) in cash and cash equivalents 2,285 (3,271)
Cash and cash equivalents:
Beginning of the year 1,473 3,390
-----------------------
End of the quarter $3,758 $ 119
=======================
(1) Net of related tax effect.
The accompanying notes are an integral part of the
consolidated financial statements.
DESIGNS, INC.
Notes to Consolidated Financial Statements
1. Basis of Presentation
In the opinion of management of the Company, the accompanying unaudited
consolidated financial statements contain all adjustments (consisting only of
normal recurring adjustments) necessary for a fair presentation of the interim
financial statements. These financial statements do not include all disclosures
associated with annual financial statements and, accordingly, should be read in
conjunction with the notes contained in the Company's audited consolidated
financial statements for the year ended January 31, 1998. The Company's
business has historically been seasonal in nature and the results of the
interim periods presented are not necessarily indicative of the results to be
expected for the full year.
2. Minority Interest
On January 28, 1995, Designs JV Corp., a wholly-owned subsidiary of the Company,
and a subsidiary of Levi's Only Stores, Inc., a wholly-owned subsidiary of Levi
Strauss & Co., entered into a partnership agreement (the "Partnership
Agreement") to sell Levi's(R) brand jeans and jeans-related products in Original
Levi's Stores(TM) and Levi's(R) Outlet stores. The joint venture established
under the Partnership Agreement is known as The Designs/OLS Partnership (the
"OLS Partnership"). The operating results of the OLS Partnership are
consolidated with the financial statements of the Company for the three and
twelve months ended May 2, 1998. Minority interest at May 2, 1998 represents
LDJV Inc.'s 30% interest in the OLS Partnership. During the first quarter of
fiscal 1998, the OLS Partnership made no distributions of "excess cash" to its
partners and distributed a total of $3.0 million in "excess cash" to its
partners during the first quarter of fiscal 1997 in accordance with the terms
of the Partnership Agreement.
3. Boston Trading Ltd., Inc. Acquisition
On May 2, 1995, the Company acquired certain assets of Boston Trading Ltd., Inc.
In accordance with the terms of the Asset Purchase Agreement dated April 21,
1995, the Company paid $5.4 million in cash, financed by operations, and
delivered a non-negotiable promissory note in the principal amount of $1 million
(the "Purchase Note") payable in two equal annual installments through May 2,
1997. In the first quarter of fiscal 1996, the Company asserted rights of
indemnification under the Asset Purchase Agreement. In accordance with that
Agreement, the Company, when exercising its indemnification rights, has the
right, among other courses of action, to offset against the payment of principal
and interest due and payable under the Purchase Note. Accordingly, the Company
did not make either of the $500,000 payments of principal due on the Purchase
Note on May 2, 1996 and May 2, 1997. The Company paid interest on the
original principal amount of the Purchase Note through May 2, 1996 and
continued to pay interest thereafter through November 2, 1997 on $500,000 of
principal. In January 1998, Atlantic Harbor, Inc. (formerly known as
"Boston Trading Ltd., Inc.") filed a lawsuit against the Company for refusing
to pay the outstanding principal amount of the Purchase Note. In March 1998,
the Company filed a counterclaim against Atlantic Harbor, Inc. alleging
that the Company was damaged in excess of $1 million because of the breach
of certain representations and warranties made by Atlantic Harbor, Inc. and
its stockholders concerning the existence and condition of certain foreign
trademark registrations and license agreements. The Company also has
commenced a lawsuit involving substantially the same matters against the
stockholders of Atlantic Harbor, Inc. Barring unforeseen circumstances,
management of the Company does not believe that the result of this litigation
will have a material adverse impact on the Company's business or financial
condition.
4. Credit Facility
On December 10, 1997, the Company and BankBoston, N.A. entered into a Credit
Agreement, which was amended on January 31, 1998 (as amended, the "Credit
Agreement"). The credit facility established under the Credit Agreement, which
was replaced subsequent to May 2, 1998 by a new $50 million credit facility
which is more fully discussed in Note 8, consisted of a revolving line of credit
permitting the Company to borrow up to $25 million. Under the facility, the
Company could have caused BankBoston, N.A. to issue documentary and standby
letters of credit up to $2 million. Availability of the unused revolving
line of credit was subject to borrowing base requirements and compliance with
certain earnings, net worth and inventory turnover covenants and a cash flow
ratio covenant which was to become effective beginning the fourth quarter of
fiscal 1998. The Company's borrowings under the credit facility were secured by
a security interest in all of the Company's Levi Strauss & Co. brand
inventory, accounts receivable and certain intangible assets of the
Company, excluding all assets of the OLS Partnership and the Company's Boston
Traders(R) trademark and its other related trademarks. At the option of the
Company, borrowings under this facility bore interest at BankBoston, N.A.'s
prime rate or at LIBOR-based fixed rates (depending upon the Company's
quarterly ratio of cash flow to fixed charges). Under the Credit Agreement,
the Company agreed not to pay cash dividends on its Common Stock if such payment
would cause the Company to be in default of certain financial ratios. To date,
the Company has not paid any cash dividends.
At May 2, 1998, the Company had no outstanding borrowings under this facility
and had two outstanding standby letters of credit totaling approximately
$245,000. In addition, the Company was in compliance with all debt covenants at
the end of the first quarter of fiscal 1998.
5. Joint Venture Credit Agreement
During the third quarter of fiscal 1996, the Company entered into a one year
Credit Agreement (the "OLS Credit Agreement") with the OLS Partnership and
Levi's Only Stores, Inc. under which the Company and Levi's Only Stores, Inc.
are committed to make advances to the OLS Partnership in the amount of $3.5
million and $1.5 million, respectively. During the third quarter of fiscal 1997,
the term of the OLS Credit Agreement was extended through September 30, 1998,
unless earlier terminated pursuant to the provisions of the OLS Credit
Agreement. This credit facility bears interest at BankBoston, N.A.'s prime rate.
The OLS Credit Agreement also provides that there may not be credit advances
outstanding on the last day of the fiscal year. No advances were outstanding
under this facility during the first quarter of fiscal 1998.
6. Net Income Per Share
The Company adopted Statement of Financial Accounting Standards No. 128,
"Earnings per Share" ("SFAS 128") and all historical net income per share data
has been restated to conform to the provisions of this statement. The following
table reconciles the numerator and the denominators of the basic and diluted
earnings per share (EPS) computation as shown on the Consolidated Statements of
Income.
(In thousands except per share data)
Three Months Ended Twelve Months Ended
---------------------------------------------
May 2, May 3, May 2, May 3,
1998 1997 1998 1997
---------------------------------------------
Basic EPS Computation
Numerator:
Net income (loss) $(3,052) $(3,184) $(28,931) $4,225
Denominator:
Weighted average
common shares outstanding 15,733 15,606 15,679 15,720
---------------------------------------------
Basic EPS $(0.19) $(0.20) $ (1.85) $0.27
=============================================
Diluted EPS Computation
Numerator:
Net income (loss) $(3,052) $(3,184) $(28,931) $4,225
Denominator:
Weighted average
common shares outstanding 15,733 15,606 15,679 15,720
Stock options, excluding
anti-dilutive options -- -- -- 71
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Total shares 15,733 15,606 15,679 15,791
---------------------------------------------
Diluted EPS $(0.19) $(0.20) $ (1.85) $0.27
=============================================
Options to purchase 1,938,350 shares of the Company's Common Stock for the
three and twelve months ended May 2, 1998 and 2,286,148 shares and 2,209,200
shares for the three and twelve months ended May 3, 1997, respectively, were
outstanding during the respective periods but were not included in the
computation of diluted EPS because the exercise prices of the options were
greater than the average market price per share of Common Stock for the periods
reported. For the three months ended May 3, 1997 and for the twelve months
ended May 2, 1998, 56 shares and 19 shares, respectively, were excluded from
the computation of diluted earnings per share as the inclusion of these shares
would have been anti-dilutive.
7. Recently Issued Accounting Standards
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosure about Segments of an
Enterprise and Related Information" ("SFAS 131"). SFAS 131 specifies new
guidelines for determining a company's operating segments and related
requirements for disclosure. SFAS 131 becomes effective for fiscal years
beginning after December 15, 1997. The Company is required to adopt this
standard for the fiscal year ending January 30, 1999. The Company has not yet
determined the impact of this standard.
8. Subsequent Event
On June 4, 1998 the Company entered into a Loan and Security Agreement with a
subsidiary of BankBoston, N.A., BankBoston Retail Finance Inc., as agent for
the lender(s) named therein (the "1998 Credit Agreement"). The 1998 Credit
Agreement establishes a new credit facility which replaces the Company's then
existing $25 million credit facility described in Note 4. The new credit
facility, which terminates on May 10, 2001, consists of a revolving line of
credit permitting the Company to borrow up to $50 million. Under this
facility, the Company has the ability to cause the lender(s) to issue
documentary and standby letters of credit up to $5 million. The Company's
obligations under the 1998 Credit Agreement are secured by a lien on all of
the Company's assets, except the assets of the OLS Partnership. The ability of
the Company to borrow under the 1998 Credit Agreement is subject to a
number of conditions including the accuracy of certain representations and
compliance with tangible net worth and fixed charge coverage ratio covenants.
The availability of the unused revolving line of credit is limited to specified
percentages of the value of the Company's eligible inventory determined under
the 1998 Credit Agreement, ranging from 60% to 65%. At the option of the
Company, borrowings under this facility bear interest at BankBoston, N.A.'s
prime rate or at the LIBOR-based fixed rate. The 1998 Credit Agreement contains
certain covenants and events of default customary for credit facilities of this
nature, including restrictions on payment of dividends by the Company. The
Company is subject to a prepayment penalty if the 1998 Credit Agreement is
terminated prior to June 4, 2000.
The Company expects to borrow funds under this revolving credit facility from
time to time during the remainder of the fiscal year to fund inventory purchases
for the fall and holiday seasons; however, the Company expects that the average
borrowing levels in fiscal 1998 will be reduced from fiscal 1997.
Part I. Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
RESULTS OF OPERATIONS
Sales for the first quarter of fiscal 1998 were $43.4 million as compared to
sales of $55.5 million in the first quarter of fiscal 1997. Comparable store
sales decreased 18 percent for the first quarter of fiscal 1998 as compared to
the same period in the prior year. Comparable stores are retail locations that
have been open at least 13 months. Of the 122 stores the Company operated as of
May 2, 1998, 110 were comparable stores. Approximately $3.2 million, or 26
percent of the $12.1 million year-to-date sales decline, is the result of the
closure of 31 stores in fiscal 1997 and 2 stores in the first quarter of fiscal
1998. The remainder of the decrease was primarily due to lower sales of men's
and women's Levi's(R) brand jeans and tops. Sales for the rolling twelve months
ended May 2, 1998 were $253.7 million compared to $285.7 million for the rolling
twelve months ended May 3, 1997. As reported by certain national and trade
publications, the Levi's(R) brand has experienced a decline in U.S. market
share which has affected the Company's sales of Levi's(R) brand merchandise.
In the first quarter of fiscal 1998, approximately 62% of the Company's
revenue was generated by sales in Levi's(R) Outlet by Designs stores.
The Company anticipates that decreases in comparable store sales will
continue through most of fiscal 1998.
Gross margin rate (including the costs of occupancy) for the first quarter of
fiscal 1998 equaled 21.6 percent of sales as compared with 24.3 percent for the
same period in the prior year. This decrease was due to negative leverage in
occupancy costs of 2.9 percentage points due to lower sales, partially offset by
a 0.2 percentage point improvement in merchandise margin. This improvement in
merchandise margin is the result of decreased permanent markdowns in all store
formats, based on lower inventories and the elimination of poor performing
Boston Traders(R) brand product from the merchandise mix. Additionally, margin
was positively impacted by decreased promotional markdowns and fewer promotional
events as well as an increase in initial margins on certain Levi's(R) Outlet
merchandise. Gross margin rate for the rolling twelve months ended May 2, 1998
was 13.5 percent compared to 29.2 percent for the rolling twelve months ended
May 3, 1997. This decrease was primarily due to merchandise markdowns and
reserves recorded for fabric commitment cancellations in the second quarter of
fiscal 1997 related to the Company's shift in strategy away from its private
label product line, adjustments for inventory shrinkage against physical
inventory results recorded in the fourth quarter of fiscal 1997 and reserves
recorded against pending resolutions of vendor discussions regarding proofs
of delivery of certain goods.
Selling, general and administrative expenses decreased as a percentage of sales
to 27.5 percent, or $11.9 million, for the first quarter of fiscal 1998 from
28.9 percent of sales, or $16.1 million, in the first quarter of the prior year.
Store payroll expense, the largest component of selling, general and
administrative expenses, equaled 13.1 percent of sales for the first quarter of
fiscal 1998, compared with 13.3 percent in the first quarter of the prior year.
The $4.2 million decrease in selling, general and administrative expenses is
primarily due to the expense reduction actions taken in fiscal 1997, ongoing
expense reduction programs implemented by the Company, and reduced payroll
expense as a result of the sales shortfall. Selling, general and administrative
expenses for the rolling twelve month period decreased to $61.5 million as
compared to $65.9 million for the same rolling twelve month period ended the
first quarter of the prior fiscal year due to decreased payroll expense as a
result of lower sales and cost saving initiatives.
In the second quarter of fiscal 1997, the Company recorded a $20 million, or
$(0.75) per share, non-recurring pre-tax charge related to the Company's shift
in strategy away from the vertically integrated Boston Traders(R) private label
concept to a strategy with greater emphasis on name brands. Approximately $13.9
million of this charge related to merchandise markdowns and fabric reserves is
accounted for in cost of goods sold for the rolling twelve months ended May 2,
1998. The remaining approximately $6.1 million related to lease terminations,
asset impairment charges, severance and other costs is included in the
restructuring charge for the same period. In addition, in the fourth quarter of
fiscal 1997, the Company recorded an additional non-recurring pre-tax charge of
$1.6 million, or $(0.06) per share, related to the Company's January 1998
reduction in force. This charge is also included in the restructuring charge
for the rolling twelve months ended May 2, 1998.
Depreciation and amortization expense of $2.5 million for the first quarter of
fiscal 1998 decreased by 11 percent compared with depreciation and amortization
expense of $2.8 million for the same period in fiscal 1997. This decrease is
principally due to a reduction of the Company's fixed asset balances as a
result of the write off in fiscal 1997 of 33 stores closed by the Company. For
the rolling twelve month period ended May 2, 1998, depreciation and
amortization increased by 2 percent, primarily due to the timing of new
store openings in the prior year.
Interest expense was $191,000 and $151,000 in the first quarter of fiscal 1998
and fiscal 1997, respectively. On a rolling twelve month basis, interest expense
increased to $891,000 as compared to $304,000 for the same rolling twelve month
period ended the first quarter of the prior fiscal year. These increases are
attributable to higher average borrowing levels under the Company's revolving
credit facility for the three and twelve month periods ended May 2, 1998 as
compared with the same periods in the prior year. The Company anticipates,
barring unforeseen circumstances, that interest expense will decrease in fiscal
1998 as a result of reduced borrowing levels as compared to fiscal 1997.
Interest income for the first quarter of fiscal 1998 was $20,000 compared to
$55,000 in the first quarter of fiscal year 1997. For the rolling twelve month
period, interest income of $110,000 decreased by 88 percent from $903,000 in the
prior comparable rolling twelve month period. The decrease in interest income is
attributable to limited investment activity as compared to the prior year.
The Company anticipates that interest income will be minimal through fiscal
1998.
Net loss for the first quarter of fiscal year 1998 equaled ($3.1) million or
($0.19) per share, as compared with a net loss of ($3.2) million, or ($.20) per
share in the first quarter of fiscal 1997. Net loss, on a rolling twelve month
basis ended May 2, 1998, was ($28.9) million or ($1.85) per share, as compared
with net income of $4.2 million, or $0.27 per share in the prior comparable
period. The net loss for the twelve months ended May 2, 1998 includes the
impact of non-recurring charges, as discussed above, of ($21.6) million or
($0.81) per share.
The Company continues to test a multi-branded store concept. The eleven stores
included in this test operate under the Boston Trading Co.(R) name ("BTC").
Some of the brands featured include Levi's(R), silverTab(TM), Buffalo Jeans(R),
Polo(R) Jeans, Tommy(R) Jeans (by Tommy Hilfiger), DKNY(R), CK Calvin Klein(R)
Lucky Brand(R) Jeans, Enyce(R), FUBU(R), Mecca(R), Mossimo(R), Phat Farm(R) and
other brands targeted to a young customer. In the first quarter of fiscal 1998
the Company generated $1.7 million in sales of other name brand products
compared to $25,000 in the first quarter of fiscal 1997. The Company intends to
continue its test of these and other brands in the BTC format through fiscal
1998 and may convert certain of its Designs stores to this format or incorporate
certain of these new brands into the Designs stores based on the results of this
test.
In an effort to maximize the potential of the remaining eleven Boston Traders(R)
Outlet locations, the Company is planning to operate four of these locations as
Buffalo Jeans(R) Factory Stores. It is anticipated that the Buffalo Jeans(R)
Factory Stores will sell in season as well as closeouts from this fast growing,
upscale Canadian manufacturer of fashion apparel. Over time, based on the
performance of the four test stores, other Boston Traders(R) Outlet stores
could be converted to this format.
SEASONALITY
The Company's business is seasonal, reflecting increased consumer buying in the
"Fall" and "Holiday" seasons. Historically, the second half of each fiscal year
provides a greater portion of the Company's annual sales and operating income.
In recent years, the Company's percentage of outlet store business has
increased in relation to total sales. Accordingly, the Company's third and
fourth quarters, although continuing to provide a greater proportion of total
sales, have become less significant to its total sales as had previously been
the case. This is due to a difference in seasonality of the Company's outlet
business as compared with the mall-based specialty stores.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary cash needs are for operating expenses, including cash
outlays associated with inventory purchases and capital expenditures for new and
remodeled stores. The Company expects that cash flow from operations, short-term
revolving borrowings, federal income tax refunds and trade credit will enable it
to finance its current working capital and store remodeling requirements.
During the first quarter of fiscal 1998, the Company received a federal income
tax refund totaling $12.9 million because of losses incurred by the Company
during fiscal 1997, which were carried back against federal income tax payments
in prior years. The Company used a portion of the cash received to reduce the
outstanding borrowings under its credit facility.
WORKING CAPITAL AND CASH FLOWS
To date, the Company has financed its working capital requirements and expansion
program with cash flow from operations, borrowings under the Company's credit
facility and proceeds from Common Stock offerings. Cash provided by (used for)
operations for the first quarter of fiscal 1998 was $11.3 million as compared to
($13.5) million for the same period in the prior year. This $24.8 million
improvement is the result of lower inventory purchases, the Company's receipt of
the federal income tax refund as well as expense control initiatives. In
addition, the Company has available approximately $6.0 million of net operating
losses and credits available to offset future federal and state tax liabilities.
The Company's cash position at May 2, 1998 was approximately $3.8 million,
compared to $119,000 at May 3, 1997. At May 2, 1998, the Company had no
borrowings outstanding under its revolving credit facility as compared to
borrowings outstanding of $9.6 million at May 3, 1997. The Company expects to
borrow funds under its new $50 million revolving credit facility from time to
time during the remainder of the fiscal year to fund inventory purchases for
the fall and holiday seasons, however, the Company expects that the average
borrowing levels in fiscal 1998 will be reduced from fiscal 1997.
The Company's working capital at May 2, 1998 was approximately $41.4 million,
compared to $66.9 million at May 3, 1997. This decrease in working capital was
primarily attributable to the significant decrease in inventory. At May 2,
1998, total inventory equaled $56.9 million, compared to $104.1 million at
May 3, 1997. The decrease of 45 percent in the Company's inventory level was
primarily due to reduced purchases of Levi Strauss & Co. brand products during
the third and fourth quarters of fiscal 1997 and the first quarter of fiscal
1998 and the liquidation of Boston Traders(R) brand merchandise. At the end of
the first quarter of fiscal 1998, Levi's(R), Dockers(R) and other name brands
represented 98.1 percent of inventory. The remaining 1.9 percent of inventory,
or $1.1 million net of markdown reserves, was Boston Traders(R) products. The
Company continues to evaluate and, within the discretion of management, act
upon opportunities to purchase substantial quantities of Levi's(R) brand
products for its Levi's(R) Outlet stores.
The Company's trade payables to Levi Strauss & Co., its principal vendor,
generally are due 30 days after the date of invoice. At May 2, 1998, the
accounts payable balance was $12.6 million as compared with a balance of $25.4
million at May 3, 1997. This 51 percent decrease is primarily related to the
corresponding decrease in inventory at the end of the first quarter of fiscal
1998 compared to the same period in the prior year. During the first quarter of
fiscal 1998 the Company was current with all outstanding merchandise payables
to vendors. The Company expects that purchases of branded merchandise will be
in accordance with customary industry credit terms.
On December 10, 1997, the Company and BankBoston, N.A. entered into a Credit
Agreement, which was amended on January 31, 1998 (as amended, the "Credit
Agreement"). The credit facility established under the Credit Agreement, which
was replaced subsequent to May 2, 1998 by a new $50 million credit facility
which is more fully discussed in Note 8 in the Notes to Consolidated Financial
Statements, consisted of a revolving line of credit permitting the Company to
borrow up to $25 million. Under the facility, the Company could have caused
BankBoston, N.A. to issue documentary and standby letters of credit up to $2
million. Availability of the unused revolving line of credit was
subject to borrowing base requirements and compliance with certain earnings, net
worth and inventory turnover covenants and a cash flow ratio covenant which was
to become effective beginning the fourth quarter of fiscal 1998. The Company's
borrowings under the credit facility were secured by a security interest in all
of the Company's Levi Strauss & Co. brand inventory, accounts receivable and
certain intangible assets of the Company, excluding all assets of the OLS
Partnership and the Company's Boston Traders(R) trademark and its other related
trademarks. At the option of the Company, borrowings under this facility bore
interest at BankBoston, N.A.'s prime rate or at LIBOR-based fixed rates
(depending upon the Company's quarterly ratio of cash flow to fixed charges).
Under the Credit Agreement, the Company agreed not to pay cash dividends on its
Common Stock if such payment would cause the Company to be in default of certain
financial ratios. To date, the Company has not paid any cash dividends.
At May 2, 1998, the Company had no outstanding borrowings under this facility
and had two outstanding standby letters of credit totaling approximately
$245,000. In addition, the Company was in compliance with all debt covenants at
the end of the first quarter of fiscal 1998.
On January 28, 1995, Designs JV Corp., a wholly-owned subsidiary of the Company,
and a subsidiary of Levi's Only Stores, Inc., a wholly-owned subsidiary of Levi
Strauss & Co., entered into a partnership agreement (the "Partnership
Agreement") to sell Levi's(R) brand jeans and jeans-related products. The joint
venture that was established by the Partnership Agreement is known as The
Designs/OLS Partnership (the "OLS Partnership"). The term of the joint venture
is ten years; however, the Partnership Agreement contains certain exit rights
that enable either partner to buy or sell its interest in the joint venture
after five years. The Company does not anticipate that the OLS Partnership will
open any additional stores in fiscal 1998. At the end of the first quarter of
fiscal 1998 there were eleven Original Levi's Stores(TM) and eleven Levi's(R)
Outlet stores.
During the first quarter of fiscal 1998, the OLS Partnership made no
distributions in "excess cash" to its partners in accordance with the terms of
the Partnership Agreement. It is the intention of the partners in the joint
venture that additional working capital for the joint venture will come from its
operations, capital contributions, loans from the partners and borrowings from
third parties.
During the third quarter of fiscal 1996, the Company entered into a one year
Credit Agreement (the "OLS Credit Agreement") with the OLS Partnership and
Levi's Only Stores, Inc. under which the Company and Levi's Only Stores, Inc.
are committed to make advances to the OLS Partnership in amounts up to $3.5
million and $1.5 million, respectively. During the third quarter of fiscal 1997,
the term of the OLS Credit Agreement was extended through September 30, 1998,
unless terminated earlier pursuant to other provisions of the OLS Credit
Agreement. This credit facility bears interest at BankBoston, N.A.'s prime rate.
The OLS Credit Agreement also provides that there may not be credit advances
outstanding on the last day of the fiscal year. There were no borrowings under
this facility through May 2, 1998.
CAPITAL EXPENDITURES
Total cash outlays for the first quarter of fiscal 1998 were $143,000, which
represents the cost of store and corporate capital expenditures. Total cash
outlays for the first quarter of fiscal 1997 were $4.1 million. During the first
quarter of fiscal 1997, the Company opened five new Boston Trading Co.(R) stores
and remodeled one Levi's(R) Outlet by Designs store. As of the end of the first
quarter of 1998, the Company had closed one Designs store because its lease had
expired in addition to the remaining 2 stores closed as part of the previously
announced store closing program.
Most of the Company's computer and process control systems were designed to use
only two digits to represent years. As a result, they may not recognize "00" as
representing the Year 2000, but rather the year 1900, which could result in
errors or system failures. The Company is in the process of converting
technology and its information systems to be Year 2000 compliant. The Company
expects to spend approximately $500,000 in conversion and upgrade costs,
primarily in fiscal 1998 to accomplish this. Barring unforeseen circumstances,
the Company anticipates that the conversion will be complete by the end of
calendar year 1999. Of course, the Company's business may be negatively
affected by vendors, government agencies and any other entity with which it has
dealings whose systems may not be Year 2000 compliant.
On May 2, 1995, the Company acquired certain assets of Boston Trading Ltd., Inc.
in accordance with the terms of an Asset Purchase Agreement dated April 21,
1995. The Company paid $5.4 million in cash, financed by operations, and
delivered a non-negotiable promissory note in the principal amount of $1.0
million (the "Purchase Note"). The principal amount of the Purchase Note was
payable in two equal installments through May 1997. In the first quarter of
fiscal 1996, the Company asserted certain indemnification rights under the
Asset Purchase Agreement. In accordance with the Asset Purchase Agreement, the
Company, when exercising its indemnification rights, has the right, among other
courses of action, to offset against the payment of principal and interest due
and payable under the Purchase Note. Accordingly, the Company did not make
either of the $500,000 payments of principal on the Purchase Note that were due
on May 2, 1996 and May 2, 1997. The Company paid interest on the original
principal amount of the Purchase Note through May 2, 1996 and continued to pay
interest thereafter through November 2, 1997 on $500,000 of principal.
In November 1996, the Company and Levi Strauss & Co. entered into a trademark
license agreement (the "Outlet License Agreement") which provides the terms upon
which the Company is permitted to use the Levi Strauss & Co. batwing trademark
in connection with the operations of the Company's Levi's(R) Outlet by Designs
stores. The Outlet License Agreement authorizes the Company, subject to certain
terms and conditions, to operate the Levi's(R) Outlet by Designs stores using
the Levi's(R) batwing trademark in 25 states in the eastern portion of the
United States. Subject to certain default provisions, the term of the Outlet
License Agreement will expire on July 31, 2001, and the license for any
particular store is the period co-terminous with the lease term for such store
(including extension options in effect in November 1996). The leases (including
extension options in effect in November 1996) relating to approximately
two-thirds of the Levi's(R) Outlet by Designs stores open at May 2, 1998 expire
in or prior to fiscal 2009 and all, except for five such leases, expire in or
prior to fiscal 2011.
The Company continually evaluates discretionary investments in new projects that
may complement its existing business. Further, as leases expire, the Company may
lose the right to use the Levi's(R) trademark in connection with certain
Levi's(R) Outlets by Designs stores. The Company continues to evaluate the
performance of its existing stores and to consider ways to enhance its outlet
business. As a result of this process, certain store locations could be closed
or relocated within a shopping center in the future.
The foregoing discussion of the Company's results of operations, liquidity,
capital resources and capital expenditures includes certain forward-looking
information. Such forward-looking information requires management to make
certain estimates and assumptions regarding the Company's expected strategic
direction and the related effect of such plans on the financial results of the
Company. Accordingly, actual results and the Company's implementation of its
plans and operations may differ materially from forward-looking statements made
by the Company. The Company encourages readers of this information to refer to
Exhibit 99 of the Company's Annual Report on Form 10-K, previously filed with
the United States Securities and Exchange Commission on May 1, 1998, which
identifies certain risks and uncertainties that may have an impact on future
earnings and the direction of the Company.
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk
Not applicable.
Part II. Other Information
ITEM 1. Legal Proceedings
In January 1998 Atlantic Harbor, Inc. (formerly known as "Boston Trading
Ltd., Inc.") filed a lawsuit against the Company for refusing to pay the
outstanding principal amount of the Purchase Note. In March 1998 the Company
filed a counterclaim against Atlantic Harbor, Inc. alleging that the Company
was damaged in excess of $1 million because of the breach of certain
representations and warranties made by Atlantic Harbor, Inc. and its
stockholders concerning the existence and condition of certain foreign
trademark registrations and license agreements. The Company also has commenced
a lawsuit involving substantially the same matters against the stockholders of
Atlantic Harbor, Inc. Barring unforeseen circumstances, management of the
Company does not believe that the result of this litigation will have a
material adverse effect on the Company's business or financial condition.
The Company is a party to other litigation and claims arising in the normal
course of its business. Barring unforeseen circumstances, management does not
expect the results of these actions to have a material adverse effect on the
Company's business or financial condition.
ITEM 2. Changes in Securities and Use of Proceeds
None.
ITEM 3. Default Upon Senior Securities
None.
ITEM 4. Submission of Matters to a Vote of Security Holders
None.
ITEM 6. Exhibits and Reports on Form 8-K
A. Reports on Form 8-K:
The Company reported under Item 5 of Form 8-K, dated April 1, 1998,
that effective January 31, 1998, the Company and BankBoston N.A. entered into a
First Amendment to the Credit Agreement. In addition, the Company reported that
on March 31, 1998, the Company received a federal income tax refund in the
amount of approximately $12.7 million related to losses incurred during fiscal
1997 which were carried back against federal income taxes paid by the Company in
prior years.
B. Exhibits:
3.1 Restated Certificate of Incorporation of the Company, as
amended (included as Exhibit 3.1 to Amendment No. 3 of the
Company's Registration Statement on Form S-1 (No. 33-13402),
and incorporated herein by reference). *
3.2 Certificate of Amendment to Restated Certificate of Incorporation,
as amended, dated June 22, 1993 (included as Exhibit 3.2
to the Company's Quarterly Report on Form 10-Q dated June 17,
1996, and incorporated herein by reference). *
3.3 Certificate of Designations, Preferences and Rights of a
Series of Preferred Stock of the Company establishing
Series A Junior Participating Cumulative Preferred Stock
dated May 1, 1995 (included as Exhibit 3.2 to the Company's
Annual Report on Form 10-K dated May 1, 1996, and incorporated
herein by reference). *
3.4 By-Laws of the Company, as amended (included as Exhibit 3.1
to the Company's Quarterly Report on Form 10-Q dated December
12, 1995, and incorporated herein by reference). *
4.1 Shareholder Rights Agreement dated as of May 1, 1995 between
the Company and its transfer agent (included as Exhibit
4.1 to the Company's Current Report on Form 8-K dated
May 1, 1995, and incorporated herein by reference). *
4.2 First Amendment dated as of October 6, 1997 to the Shareholder
Rights Agreement dated as of May 1, 1995 between the Company
its transfer agent (included as Exhibit 4.1 to the Company's
Current Report on Form 8-K dated October 9, 1997, and
incorporated herein by reference). *
10.1 1987 Incentive Stock Option Plan, as amended (included as
Exhibit 10.1 to the Company's Annual Report on Form 10-K dated
April 29, 1993, and incorporated herein by reference). *
10.2 1987 Non-Qualified Stock Option Plan, as amended (included as
Exhibit 10.2 to the Company's Annual Report on Form 10-K dated
April 29, 1993, and incorporated herein by reference). *
10.3 1992 Stock Incentive Plan, as amended.
10.4 Senior Executive Incentive Plan effective beginning with
the fiscal year ended February 1, 1997 (included as Exhibit
10.4 to the Company's Quarterly Report on Form 10-Q dated
September 17, 1996, and incorporated herein by reference). *
10.5 Trademark License Agreement between the Company and Levi
Strauss & Co. dated as of November 15, 1996 (included as Exhibit
10.5 to the Company's Annual Report on Form 10-K dated
May 1, 1997, and incorporated herein by reference). *
10.6 Credit Agreement between the Company and BankBoston, N.A.
dated as of December 10, 1997 (included as Exhibit 10.1 to the
Company's Current Report on Form 8-K dated January 5, 1998,
and incorporated herein by reference). *
10.7 First Amendment to Credit Agreement dated as of
January 31, 1998, between the Company and BankBoston, N.A.
(included as Exhibit 10.1 to the Company's Current Report
on Form 8-K dated April 1, 1998, and incorporated herein
by reference). *
10.8 Amended and Restated Loan and Security Agreement dated
June 4, 1998, between the Company and BankBoston Retail
Finance Inc. and the lender(s) named therein (included as
Exhibit 10.1 to the Company's Current Report on Form 8-K
dated June 15, 1998, and incorporated herein by reference). *
10.9 Revolving Credit Note dated June 4, 1998 in favor of
BankBoston Retail Finance Inc. (included as Exhibit 10.2 to
the Company's Current Report on Form 8-K dated June 15, 1998,
and incorporated herein by reference). *
10.10 Fee Letter dated June 4, 1998, between the Company and
BankBoston Retail Finance Inc. (included as Exhibit 10.3 to
the Company's Current Report on Form 8-K dated June 15, 1998,
and incorporated herein by reference). *
10.11 Participation Agreement among Designs JV Corp. (the "Designs
Partner"), the Company, LDJV Inc. (the "LOS Partner"), Levi's
Only Stores, Inc. ("LOS"), Levi Strauss & Co. ("LS&CO") and
Levi Strauss Associates Inc. ("LSAI") dated January 28, 1995
(included as Exhibit 10.1 to the Company's Current Report on
Form 8-K dated April 24, 1995, and incorporated herein by
reference). *
10.12 Partnership Agreement of The Designs/OLS Partnership
(the "OLS Partnership") between the LOS Partner and the
Designs Partner dated January 28, 1995 (included as Exhibit
10.2 to the Company's Current Report on Form 8-K dated April 24,
1995, and incorporated herein by reference). *
10.13 Glossary executed by the Designs Partner, the Company,
the LOS Partner, LOS, LS&CO, LSAI and the OLS Partnership
dated January 28, 1995 (included as Exhibit 10.3 to the
Company's Current Report on Form 8-K dated April 24, 1995,
and incorporated herein by reference). *
10.14 Sublicense Agreement between LOS and the LOS Partner dated
January 28, 1995 (included as Exhibit 10.4 to the Company's
Current Report on Form 8-K dated April 24, 1995, and
incorporated herein by reference). *
10.15 Sublicense Agreement between the LOS Partner and the OLS
Partnership dated January 28, 1995 (included as Exhibit 10.5
to the Company's Current Report on Form 8-K dated April 24,
1995, and incorporated herein by reference). *
10.16 License Agreement between the Company and the OLS Partnership
dated January 28, 1995 (included as Exhibit 10.6 to the
Company's Current Report on Form 8-K dated April 24, 1995,
and incorporated herein by reference). *
10.17 Administrative Services Agreement between the Company and
the OLS Partnership dated January 28, 1995 (included as
Exhibit 10.7 to the Company's Current Report on Form 8-K dated
April 24, 1995, and incorporated herein by reference). *
10.18 Credit Agreement among the Company, LOS and the OLS Partnership
dated as of October 1, 1996 (included as Exhibit 10.15 to
the Company's Quarterly Report on Form 10-Q dated December 17,
1996, and incorporated herein by reference). *
10.19 First Amendment to Credit Agreement among the Company, LOS
and the OLS Partnership dated as of October 29, 1997
(included as Exhibit 10.16 to the Company's Quarterly Report
on Form 10-Q dated December 16, 1997, and incorporated herein
by reference). *
10.20 Asset Purchase Agreement between LOS and the Company relating
to the sale of stores located in Minneapolis, Minnesota
dated January 28, 1995 (included as Exhibit 10.9 to the Company's
Current Report on Form 8-K dated April 24, 1995, and incorporated
herein by reference). *
10.21 Asset Purchase Agreement among Boston Trading Ltd., Inc.,
Designs Acquisition Corp., the Company and others dated
April 21, 1995 (included as 10.16 to the Company's Quarterly
Report on Form 10-Q dated September 12, 1995, and incorporated
herein by reference). *
10.22 Non-Negotiable Promissory Note between the Company and Atlantic
Harbor, Inc., formerly known as Boston Trading Ltd., Inc.,
dated May 2, 1995 (included as 10.17 to the Company's Quarterly
Report on Form 10-Q dated September 12, 1995, and incorporated
herein by reference). *
10.23 Employment Agreement dated as of October 16, 1995 between the
Company and Joel H. Reichman (included as Exhibit 10.1 to the
Company's Current Report on Form 8-K dated ecember 6, 1995,
and incorporated herein by reference). *
10.24 Employment Agreement dated as of October 16, 1995 between the
Company and Scott N. Semel (included as Exhibit 10.2 to the
Company's Current Report on Form 8-K dated December 6, 1995,
and incorporated herein by reference). *
10.25 Employment Agreement dated as of May 9, 1997 between the
Company and Carolyn R. Faulkner (included as Exhibit 10.23 to the
Company's Quarterly Report on Form 10-Q dated June 17, 1997,
and incorporated herein by reference). *
10.26 Employment Agreement dated as of October 16, 1995 between the
Company and Mark S. Lisnow (included as Exhibit 10.3 to the
Company's CurrenT Report on Form 8-K dated December 6, 1995,
and incorporated herein by reference). *
10.27 Separation Agreement dated as of February 9, 1998 between the
Company and Mark S. Lisnow (included as Exhibit 10.26 to the
Company's Annual Report on Form 10-K dated May 1, 1998,
and incorporated herein by reference). *
11 Statement re: computation of per share earnings.
27 Financial Data Schedules.
99 Report of the Company dated May 1, 1998 concerning certain
cautionary statements of the Company to be taken into account
in conjunction with consideration and review of the Company's
publicly-disseminated documents (including oral statements made
by others on behalf of the Company) that include forward
looking information (included as Exhibit 99 to the Company`s
Annual Report on Form 10-K dated May 1,1998 and incorporated
herein by reference). *
* Previously filed with the Securities and Exchange Commission.
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.
DESIGNS, INC.
June 16, 1998 By:/S/ JOEL H. REICHMAN
--------------------
Joel H. Reichman
President and Chief Executive
Officer