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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JANUARY 31, 2001
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE TRANSITION PERIOD FROM _________ TO _________
Commission file number 0-26374
PLAY BY PLAY TOYS & NOVELTIES, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Texas 74-2623760
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
4400 Tejasco
San Antonio, Texas 78218-0267
(Address of principal executive offices and zip code)
(210) 829-4666
(Registrant's telephone number, including area code)
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 [ ].
The aggregate number of the Registrant's shares outstanding on March 9, 2001
was 7,395,000 shares of Common Stock, no par value.
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PLAY BY PLAY TOYS & NOVELTIES, INC. AND SUBSIDIARIES
TABLE OF CONTENTS
PAGE
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements:
Consolidated Balance Sheets as of January 31, 2001 (unaudited)
and July 31, 2000 3
Consolidated Statements of Operations (unaudited) for the
Three Months and Six Months Ended January 31, 2001 and 2000 4
Consolidated Statements of Cash Flows (unaudited) for the
Six Months Ended January 31, 2001 and 2000 5
Notes to Consolidated Financial Statements (unaudited) 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
Item 3. Quantitative and Qualitative Disclosures About Market Risk 24
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 26
Item 3. Default Upon Senior Securities 26
Item 4. Submission of Matters to a Vote of Security Holders 27
Item 6. Exhibits and reports on Form 8-K 28
SIGNATURES 32
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
ASSETS
JANUARY 31, JULY 31,
------------- -------------
2001 2000
------------- -------------
(UNAUDITED)
Current assets:
Cash and cash equivalents ......................................... $ 4,815,884 $ 4,898,838
Accounts and notes receivable, less allowance for
doubtful accounts of $7,494,849 and $7,649,799 ............... 17,219,283 32,243,309
Inventories, net .................................................. 45,617,994 56,223,075
Prepaid royalties ................................................. 5,158,687 11,148,077
Other prepaid expenses ............................................ 2,097,804 2,512,308
------------- -------------
Total current assets ......................................... 74,909,652 107,025,607
Property and equipment, net ............................................ 21,305,296 25,272,499
Assets Held for Sale, net .............................................. 1,100,000 --
Goodwill, less accumulated amortization
of $1,965,628 and $1,700,187 ..................................... 15,665,038 15,930,479
Other assets ........................................................... 1,478,929 2,001,363
------------- -------------
Total assets ................................................. $ 114,458,915 $ 150,229,948
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Book overdraft .................................................... $ 704,083 $ 1,036,523
Notes payable to banks ............................................ 17,081,170 29,556,028
Long-term debt classified as current .............................. 1,577,657 1,840,114
Current maturities of convertible subordinated debentures ......... 14,554,485 14,850,000
Current maturities of long-term debt .............................. 532,610 644,217
Current obligations under capital leases .......................... 605,309 1,173,571
Accounts payable, trade ........................................... 23,419,241 27,612,837
Accrued royalties payable ......................................... 13,308,648 15,200,973
Other accrued liabilities ......................................... 3,271,963 3,402,027
Income taxes payable .............................................. 2,645,677 2,906,103
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Total current liabilities .................................... 77,700,843 98,222,393
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LONG-TERM LIABILITIES:
Obligations under capital leases, net of current maturities ....... 768,430 734,571
------------- -------------
Total liabilities ............................................ 78,469,273 98,956,964
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Commitments and contingencies
SHAREHOLDERS' EQUITY:
Preferred stock - no par value; 10,000,000 shares
authorized; no shares issued ................................. -- --
Common stock - no par value; 20,000,000 shares
authorized; 7,395,000 shares issued .......................... 1,000 1,000
Additional paid-in capital ........................................ 71,323,487 71,486,820
Deferred compensation ............................................. -- (198,333)
Accumulated other comprehensive losses ............................ (6,479,019) (4,279,982)
Accumulated deficit ............................................... (28,855,826) (15,736,521)
------------- -------------
Total shareholders' equity ................................... 35,989,642 51,272,984
------------- -------------
Total liabilities and shareholders' equity ................... $ 114,458,915 $ 150,229,948
============= =============
The accompanying notes are an integral part of the
consolidated financial statements.
3
PLAY BY PLAY TOYS & NOVELTIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
THREE MONTHS ENDED, SIX MONTHS ENDED,
JANUARY 31, JANUARY 31,
-------------------------------- --------------------------------
2001 2000 2001 2000
------------ ------------ ------------ ------------
Net sales ..................................... $ 21,477,267 $ 27,742,551 $ 63,054,342 $ 75,892,375
Cost of sales ................................. 18,764,175 17,924,787 47,713,514 51,507,986
------------ ------------ ------------ ------------
GROSS PROFIT ............................. 2,713,092 9,817,764 15,340,828 24,384,389
Selling, general and administrative
expenses .................................... 13,098,809 11,680,999 24,608,858 23,313,053
------------ ------------ ------------ ------------
OPERATING INCOME (LOSS) .................. (10,385,717) (1,863,235) (9,268,030) 1,071,336
Interest expense .............................. (1,504,525) (1,532,437) (3,188,614) (3,097,092)
Interest income ............................... 61,900 12,276 106,733 38,463
Other income .................................. (233,086) 75,899 (25,420) 50,173
------------ ------------ ------------ ------------
LOSS BEFORE INCOME TAX ................... (12,061,428) (3,307,497) (12,375,331) (1,937,120)
Income tax benefit (provision) ................ (46,346) 216,372 (743,974) --
------------ ------------ ------------ ------------
NET LOSS ................................. $(12,107,774) $ (3,091,125) $(13,119,305) $ (1,937,120)
============ ============ ============ ============
LOSS PER SHARE:
Basic ....................................... $ (1.64) $ (0.42) $ (1.77) $ (0.26)
------------ ------------ ------------ ------------
Diluted ..................................... $ (1.64) $ (0.42) $ (1.77) $ (0.26)
------------ ------------ ------------ ------------
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic ....................................... 7,395,000 7,395,000 7,395,000 7,395,000
------------ ------------ ------------ ------------
Diluted ..................................... 7,395,000 7,395,000 7,395,000 7,395,000
------------ ------------ ------------ ------------
The accompanying notes are an integral part of the
consolidated financial statements.
4
PLAY BY PLAY TOYS & NOVELTIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
SIX MONTHS ENDED JANUARY 31,
--------------------------------
2001 2000
------------ ------------
Cash flows from operating activities:
Net loss ................................................. $(13,119,305) $ (1,937,120)
Adjustments to reconcile net loss to
net cash provided by operating activities:
Depreciation and amortization ......................... 3,736,469 1,531,741
Provision for doubtful accounts receivable ............ 374,982 697,323
Provision for inventory reserve ....................... (96,447) --
Provision for royalty license reserves ................ 2,371,369 --
Amortization of deferred compensation ................. 35,000 70,000
Loss on sale of property and equipment ................ 46,546 2,874
Change in operating assets and liabilities:
Accounts and notes receivable ....................... 14,649,044 11,444,276
Inventories ......................................... 10,701,528 8,790,329
Prepaids and other assets ........................... 5,438,170 (3,117,029)
Accounts payable and accrued liabilities ............ (7,112,834) (8,584,533)
Income taxes payable ................................ (260,426) 1,018,129
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Net cash provided by operating activities ........ 16,764,096 9,915,990
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment, net .................. (536,032) (1,253,322)
Proceeds from sale of property and equipment ............. 18,936 106,201
------------ ------------
Net cash used in investing activities ............ (517,096) (1,147,121)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net repayments under Revolving Credit Agreements ......... (12,474,858) (5,171,897)
Repayment of long-term debt .............................. (669,579) (788,442)
Repayment of capital lease obligations ................... (654,040) (807,972)
Increase (decrease) in book overdraft .................... (332,440) (654,802)
------------ ------------
Net cash used in financing activities ............ (14,130,917) (7,423,113)
------------ ------------
EFFECT OF FOREIGN CURRENCY EXCHANGE RATES .................. (2,199,037) (1,129,130)
------------ ------------
Increase (decrease) in cash and cash equivalents . (82,954) 216,626
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD ........... 4,898,838 2,345,634
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD ................. $ 4,815,884 $ 2,562,260
============ ============
Non-cash financing and investing-activity:
Capital leases incurred .................................. $ 119,637 $ 335,446
============ ============
The accompanying notes are an integral part of the
consolidated financial statements.
5
PLAY BY PLAY TOYS & NOVELTIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying unaudited consolidated financial statements and related
disclosures have been prepared in accordance with generally accepted accounting
principles applicable to interim financial information and with the instructions
to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include
all of the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management, all
adjustments considered necessary for a fair presentation of the financial
position and interim results of PlayoByoPlay Toys & Novelties, Inc. and
Subsidiaries (the "Company") as of and for the periods presented have been
included. Certain amounts in the financial statements for the prior period have
been reclassified to conform to the current year presentation. Because the
Company's business is seasonal, results for interim periods are not necessarily
indicative of those that may be expected for a full year.
The financial information included herein should be read in conjunction
with the Company's consolidated financial statements and related notes in its
Annual Report on Form 10-K for the fiscal year ended July 31, 2000, which is on
file with the United States Securities and Exchange Commission.
2. NEW ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities."
The Company has adopted SFAS No. 133, as amended by SFAS No. 137, on August 1,
2000. SFAS No. 133 requires that all derivative instruments be recorded on the
balance sheet at fair value. Changes in the fair value of derivatives are
recorded each period in current earnings or other comprehensive income,
depending on whether a derivative is designated as part of a hedge transaction
and, if it is, depending on the type of hedge transaction. For fair-value hedge
transactions in which the Company is hedging changes in an asset's, liability's,
or firm commitment's fair value, changes in the fair value of the derivative
instrument will generally be offset in the income statement by changes in the
hedged item's fair value. For cash-flow hedge transactions in which the Company
is hedging the variability of cash flows related to a variable-rate asset,
liability, or a forecasted transaction, changes in the fair value of the
derivative instrument will be reported in other comprehensive income. The gains
and losses on the derivative instrument that are reported in other comprehensive
income will be reclassified as earnings in the periods in which earnings are
impacted by the variability of the cash flows of the hedged item. The
ineffective portion of all hedges will be recognized in current-period earnings.
In December 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial
Statements." In SAB No. 101, the SEC staff expresses its views regarding the
appropriate recognition of revenue with regard to a variety of circumstances,
some of which are of particular relevance to the Company. The Company will be
required to adopt SAB No. 101 for the quarter beginning May 1, 2001. The Company
is currently evaluating SAB No. 101, however, the Company believes that it will
not have a material impact on the financial statements.
In March 2000, the FASB issued FASB Interpretation No. 44 ("FIN No. 44")
"Accounting for Certain Transactions Involving Stock Compensation," an
interpretation of APB Opinion No. 25 ("APB No. 25") "Accounting for Stock Issued
to Employees." FIN No. 44 clarifies the application of APB No. 25 for only
certain issues. It does not address any issues related to the application of the
fair value method in SFAS No. 123 "Accounting for Stock-Based Compensation."
Among other issues, FIN No. 44 clarifies (a) the definition of employee for
purposes of applying ABP No. 25, (b) the criteria for determining whether a plan
qualifies as a noncompensatory plan, (c) the accounting consequence of various
modifications to the terms of a previously fixed stock option or award, and (d)
the accounting for an exchange of stock compensation awards in a business
combination. FIN No. 44 is effective July 1, 2000, but certain conclusions in
the interpretation cover specific events that occur after either December 15,
1998, or January 12, 2000. The Company believes that FIN No. 44 does not have a
material impact on the financial statements.
6
3. INVENTORIES
Inventories are comprised of the following:
JANUARY 31, 2001 JULY 31, 2000
------------------ ---------------
Purchased for resale ............... $45,076,588 $55,686,257
Operating supplies ................. 541,406 536,818
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Total .................... $45,617,994 $56,223,075
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4. CONTINGENCIES
In December 1997, a legal action was instituted against the Company by an
individual alleging claims for unfair competition (misappropriation), breach of
contract, breach of implied in fact contract, and quasi contract in connection
with alleged infringement resulting from the sale of Tornado Taz(TM). The
plaintiff seeks to recover the Company's profits on the sale of the toy in
question which could be as much as two million dollars or more, or alternatively
the plaintiff may seek to recover royalties as a measure of damages. The Company
responded by denying the essential allegations of the complaint and by filing
counterclaims and by filing a motion for summary judgement. The plaintiff filed
motions for summary judgement for dismissal of the claims and counterclaims. On
January 21, 1999, a judge in the United States District Court Southern District
of New York granted both the defendant's and plaintiff's motions for summary
judgement dismissing the claims and counterclaims. On February 19, 1999, the
plaintiff filed a notice of appeal with respect to the court's granting the
Company's motion for summary judgement. The Company filed a similar notice on
February 25, 1999 regarding the granting of the plaintiff's motion for summary
judgement. The Court of Appeals reversed the grant of summary judgement against
the plaintiff and affirmed the grant of summary judgement against the Company,
thus dismissing all of the Company's counterclaims against the plaintiff,
thereby remanding the matter back to the United States District Court Southern
District of New York for trial. To date, no trial date has been set by the
United States District Court. In September 2000, the District Judge allowed the
Company to file another motion for summary judgement with the court requesting
dismissal of plaintiff's claims against the defendant, which has not been ruled
upon by the court.
5. SUBSEQUENT EVENT
On March 1, 2001, the Company received a Nasdaq Staff Determination
indicating the Company no longer complies with the continued listing
requirements of The Nasdaq Stock Market, and that its securities are therefore,
subject to being delisted from the Nasdaq National Market. Specifically, the
Company does not meet the continued listing requirements of NASD Marketplace
Rule 4450(a)(5), as the Company's stock has failed to maintain a minimum bid
price of $1.00 per share for the required 30 consecutive days. Furthermore, the
Nasdaq is also concerned that the Company's common stock has failed to maintain
a minimum market value of public float of $5 million for the required 30
consecutive days as required by NASD Marketplace Rule 4450(a)(2). The Company
has exercised its right to appeal the Staff Determination and has requested a
hearing before a Nasdaq Listing Qualifications Panel. Once requested, a hearing
is automatically granted with an automatic stay which precludes further
delisting actions by the Nasdaq Staff pending a review and final determination
by the Nasdaq Panel. The Company has received notice that the hearing will be
held on April 5, 2001. The Company intends to pursue all remedies necessary in
support of maintaining its listing qualifications. There can be no assurance
that the Panel will grant the Company's request for continued listing. If the
Company's common stock is delisted from the Nasdaq National Market, then
existing shareholders' ability to sell their shares may be adversely affected,
and the Company's ability to obtain equity financing may be reduced.
7
In February 2001, the Company received a letter of intent to purchase the
Company's vending business, and substantially all related assets, for the sale
price of $1.25 million, consisting of cash and a seller's note. The Company
anticipates closing the transaction in April 2001.
6. FORWARD CONTRACTS
During the quarter ended January 31, 2001, the Company's European
subsidiary did not enter into any new foreign exchange hedging contracts
relative to certain payments arising out of its foreign operations and
denominated in a currency other than its functional currency. The Company does
not enter into these contracts for speculative purposes. One option contract
with a notional value of approximately $1.5 million expired in November 2000
without being exercised. At January 31, 2001, the Company had one forward
exchange contract outstanding, which will settle in August 2001. The notional
value of the outstanding contract at issuance was approximately $3.0 million. At
January 31, 2001, there was an unrealized gain of $70,026, net of tax of
$37,706, under the contract, which has been recorded in other comprehensive
loss. There were no realized hedging gains or losses from settlement of
contracts in the second quarter of fiscal 2001.
7. LICENSES
On November 10, 2000, the Company entered into amendments with Warner
Bros. Consumer Products ("Warner Bros.") relative to three significant
entertainment character licensing agreements originally scheduled to expire on
December 31, 2000. One of the entertainment character licensing agreements, as
amended, provides the Company with licensing rights for Looney Tunes characters
and other properties for amusement and retail distribution within Europe, Middle
East and Africa ("EMEA"), another agreement provides the Company with worldwide
licensing rights for Baby Looney Tunes characters for mass market retail
distribution ("BLT"), and the third agreement provides the Company with
licensing rights for Looney Tunes and other properties for retail distribution
in Latin America ("LA"). The amendments extend the licensing terms of the EMEA
and BLT agreements for up to two additional years, and until September 2001 for
the LA agreement and the retail distribution portion of the EMEA agreement, and
specifically provide for the payment of the remaining balance of the guaranteed
minimum royalties due to the licensor over the extended two-year period.
The aforementioned amendments were conditioned upon the Company obtaining
renewals and extensions of the existing surety bonds from Amwest Surety
Insurance Company securing payment of substantially all of the guaranteed
minimum royalties due under the EMEA and BLT agreements over the amended
licensing agreement periods by November 22, 2000. The Company secured renewals
and extensions of the surety bonds by the specified deadline as required by the
licensor.
In connection with one of the aforementioned amendments, the Company
agreed to modify the terms of an existing warrant agreement with the licensor to
purchase up to 100,000 shares of the Company's common stock. The amendment
extended the exercise period of the warrant for two additional years and reduced
the purchase price per share from $15.4375 to $6.00, effective immediately upon
execution of the amendment, and provides for an additional adjustment to the
purchase price per share equal to the new Convertible Subordinated Debenture
conversion price effective upon the Company's extension or refinancing of its
Convertible Subordinated Debentures.
In January 2001, the Company received notices of termination on several
significant entertainment character licensing agreements from Warner Bros. due
to the non-payment of past due royalties totaling approximately $3.2 million. On
February 5, 2001, the Company secured an agreement with Warner Bros. that
preserves the Company's licensing rights under these agreements, and provides
for the rescheduling of the payment of royalty obligations on terms more
favorable to the Company over the two-year period ended December 31, 2002. The
Company has royalty commitments to Warner Bros. totaling approximately $21.4
million. Of this amount, $15.6 million represents minimum guaranteed royalties
payable on the above three agreements with Warner Bros. that are payable in
quarterly installments totaling approximately $1.5 million beginning March 1,
2001 with a final balloon payment of approximately $6.5 million due and payable
8
on September 30, 2002 pursuant to the recent amendments and payment extensions
secured from the licensor. The remaining royalty commitments are generally
payable to the licensor on a monthly or quarterly basis as the royalties are
earned from sales of licensed merchandise, or at specified dates in the form of
advances against minimum guaranteed royalty commitments if the sales are not
sufficient during the period to earn out the minimum guaranteed royalties.
The Company has estimated that projected future revenues over the
remaining term of the LA license agreement as recently amended will be
insufficient to allow the Company to earn-out the guaranteed minimum royalties
advanced or required to be paid to the licensor over the remaining terms of the
agreement. Accordingly, the Company recorded a provision totaling $2.4 million
in the second quarter of fiscal 2001 for the estimated guaranteed minimum
royalty shortfall associated with this license and is reflected in cost of sales
in the accompanying consolidated statement of operations.
8. LONG-TERM DEBT
On November 10, 2000, the Company's Credit Facility was amended ("Credit
Facility") to permanently increase the advance rate percentage applicable to
inventory from 50% to 55%, and to waive the Company's non-compliance with the
net worth financial covenants under the Credit Facility at July 31, 2000 and to
modify these same financial covenants for future periods. In addition, the
Credit Facility was further amended to increase the fees that would be payable
in the event the Credit Facility is terminated prior to maturity, and also
requires the Company to reduce the term loan balance with the senior lender by
sixty percent (60%) of the net proceeds from the sale of the Company's vending
business assets. The term loan had a balance outstanding of $1.9 million at
January 31, 2001. The Company's vending assets represent 1.1% of the total
assets of the Company. The adjustment to the advance rate percentage increases
the Company's borrowing availability relative to advances on eligible inventory
by 5% during the peak season (June 1 to November 30), or approximately $1.1
million, based on current inventory levels. Prior to the amendment, the
Company's advance rate applicable to inventory was 50% during the peak season
and 55% during the non-peak season (December 1 to May 31).
The Company had entered into a Convertible Loan Agreement ("Convertible
Loan Agreement") dated July 3, 1997, pursuant to which the Company issued $15
million of Convertible Subordinated Debentures ("Debentures") to Renaissance US
Growth & Income Trust PLC ($2.5 million), Renaissance Capital Growth & Income
Fund III, Inc. ($2.5 million) and Banc One Capital Partners II, LLC ($10
million). In March 1999, the Company defaulted under certain financial covenants
of the Convertible Loan Agreement, and in July 1999 the Company defaulted in the
payment of interest due on the Debentures as required by its senior lenders. On
October 22, 1999, the Company and the holders of the Debentures entered into a
First Amendment to the Convertible Loan Agreement (the "First Amendment") which
waived existing defaults under the Convertible Loan Agreement, provided consent
to the Company's new senior credit facility, and modified the financial
covenants in the Convertible Loan Agreement to conform to the financial
covenants in the new senior credit facility. In addition, the First Amendment
increased the interest rate from 8.5% to 10.5% per annum, changed the
Debentures' final maturity date from June 30, 2004 to December 31, 2000, and
adjusted the conversion price from $16 per share to $6 per share of common
stock. In connection with the First Amendment, the Company granted the holders
of the Debentures a first lien on its 51% interest in its Los Angeles warehouse
and a second lien on substantially all its other domestic assets, with the
exception of the Company's Chicago warehouse facility. The First Amendment also
included limitations on the issuance of stock options to employees, and entitled
the holders to two advisory board positions. The First Amendment also provides
for permanent board seats proportionate to their ownership interests on an as
converted basis, as well as limitations on the total number of board seats,
which could have resulted in a change in control of the board if the Debentures
were not paid in full by final maturity. The First Amendment also provides for a
second reset of the conversion price based on the average closing price of the
Company's stock for the month of December 2000, or $0.54865 per share, if the
Debentures were not converted or paid in full by final maturity.
Conversion of the debt under the Debentures into shares of the Company's
common stock at the second reset price would result in the issuance to the
holders of the Debentures of approximately 26.5 million shares of
9
the Company's common stock and would give the Debenture holders majority
ownership (78.2%) of the Company's outstanding common stock based on the number
of shares outstanding as of March 9, 2001. In addition, if the Debenture holders
exercised their right to request board seats proportionate to their ownership
based on an assumed or actual conversion, then the Debenture holders would be
entitled to up to 7 board seats based on a maximum of 9 available board
positions, which would result in a change in majority control of the Company's
board. Certain change of control events including, but not limited to, the
acquisition by a person or a group of beneficial ownership directly or
indirectly of 50% or more of the voting power of the total outstanding voting
stock of the Company, or a change in the composition of the Company's board
which would result in the failure of the current board to maintain majority
control, would result in an event of default under the Company's Credit
Facility. Such default, if not cured, would give the senior lender the right to
accelerate demand for payment of the entire amount of the debt outstanding under
the Credit Facility.
Monthly principal payment requirements on the Company's Debentures
commenced on June 30, 2000, at a rate of 1% of the outstanding principal
balance. The Company defaulted in the payment of monthly principal and interest
due under the Debentures beginning in October 2000, and defaulted in the payment
of principal and interest totaling $15.1 at final maturity on December 31, 2000,
and such defaults continue subject to the accrual of additional interest, until
resolved. As a result of the default in the payment of principal and interest on
the Debentures, the Company is also in default of certain cross-default
covenants of its Credit Facility. In addition, the Company is also in default of
financial net worth covenants of its Credit Facility. Because of the defaults
under the Credit Facility, the senior lender thereunder currently has the right
to accelerate demand for payment of the entire amount of principal, plus accrued
and unpaid interest, under the Credit Facility. In the event of the acceleration
of the Debentures and/or Credit Facility, the Company has insufficient funds to
pay amounts that would then be due and payable. As of January 31, 2001,
approximately $19.0 million in borrowings were outstanding under the Credit
Facility. As a result of the forgoing, the Company has classified all debt as
current until such time as the Company restructures or refinances the Debentures
and receives appropriate waivers from the Debenture holders and the senior
lender. The Company is in discussions with the senior lender relative to
restructuring the financial covenants and obtaining additional borrowings under
the Credit Facility. The senior lender has allowed the Company to continue to
borrow under the Credit Facility, under the terms of the Credit Facility, and
has not exercised any rights or remedies available under the Credit Facility as
a result of the defaults.
On February 26, 2001, the Company reached an agreement in the form of a
non-binding term sheet with the holders of its Debentures to restructure and
extend the final maturity of the Debentures until December 31, 2002. As part of
the restructuring, the holders of the Debentures will not exercise their present
right to accelerate demand for payment of the entire amount of debt outstanding
under the Debentures, and will relinquish all conversion rights now associated
with the Debentures, including without limitation, rights to control board
seats. In exchange, the holders of the Debentures will receive warrants to
purchase up to 1.5 million shares of the Company's common stock based on the
average closing price of the Company's common stock for the 30-day period
preceding the closing date of the restructuring. Shareholder approval prior to
the issuance of the warrants may be required pursuant to NASD Rule
4350(i)(1)(D). In addition, the holders of the Debentures will receive a
subordinate pledge of 65% of the stock of certain subsidiaries of the Company
and a second subordinate lien on the Company's Chicago warehouse facility,
subject to the consent and approval of the Company's senior lender. The Company
must continue to meet periodic principal and interest payment requirements and
must comply with certain newly established "EBITDA" financial covenants. The
agreement is subject to the payment at closing by the Company of past due
principal and interest due under the Debentures totaling approximately $1.6
million. Other terms of the restructuring include the waiver of existing events
of default outstanding under the Debentures and promissory notes. The holders of
the Debentures have agreed to a standstill until March 30, 2001 in order to
allow the parties time to prepare and complete final documentation. The holders
of the Debentures may not take legal action against the Company to collect on
the debt during the two-year extension period unless the Company fails to make
periodic payments or violates the financial covenants. However, there can be no
assurance that the Company will be able to satisfactorily restructure the
Debentures and resolve the
10
defaults outstanding under the Credit Facility or, that if obtained, that the
terms will be as favorable to the Company as those contained in the current
credit arrangements. If the Company fails to restructure and extend the
Debentures and resolve the defaults outstanding under the Credit Facility, all
amounts would be due and payable and the Company has insufficient funds to
satisfy such obligations.
Play By Play Europe previously had credit facilities with three separate
banks in Europe that merged into a single entity resulting in a greater
concentration of Company's credit arrangements within the surviving bank
("Bank"). To reduce the increased concentration of the Bank's credit risk, the
Bank advised the Company that it was progressively reducing its credit
commitment to the Company from 1.1 billion pesetas (approximately $6.0 million)
at March 31, 2000, to 575 million pesetas (approximately $3.2 million) by
November 30, 2000, concurrent with the maturity date of the credit arrangements
with the Bank. The Company has secured credit arrangements with the Bank that
provide for an aggregate credit commitment of 550 million pesetas (approximately
$3.1 million at March 5, 2001) that mature in November 2001. In addition, the
Company has secured credit arrangements with nine other banks that provide for
aggregate credit commitments of 2.7 billion pesetas (approximately $15.0 million
at March 5, 2001). The credit arrangements with the banks consist principally of
letter of credit, discounting and revolving loan facilities.
9. COMPREHENSIVE LOSS
The Company's comprehensive loss is comprised of net loss and foreign
currency translation adjustments. The components of comprehensive loss are as
follows:
THREE MONTHS ENDED JANUARY 31, SIX MONTHS ENDED JANUARY 31,
--------------------------------- ---------------------------------
2001 2000 2001 2000
------------ ------------ ------------ ------------
Net loss ............................. $(12,107,774) $ (3,091,125) $(13,119,305) $ (1,937,120)
Unrealized gain (loss) on
forward contracts .................. 160,202 -- 70,026 --
Foreign currency
translation adjustment ............. (2,423,586) (478,891) (2,199,037) (1,129,130)
------------ ------------ ------------ ------------
Comprehensive loss ................... $(14,371,158) $ (3,570,016) $(15,248,316) $ (3,066,250)
============ ============ ============ ============
10. LOSS PER SHARE
Basic loss per common share was computed by dividing net loss by the
weighted average number of common shares outstanding during the period. Diluted
earnings per share differs from basic loss per share due to the assumed
exercises and conversions of dilutive options, warrants and convertible debt
that were outstanding during the period.
11
The calculations of basic and diluted loss per share for the three and six
month periods ended January 31, 2001 and 2000 are as follows:
THREE MONTHS ENDED JANUARY 31,
-----------------------------------------------------------------------------------
2001 2000
---------------------------------------- ----------------------------------------
Common Per Common Per
Loss Shares Share Loss Shares Share
---------------------------------------- ----------------------------------------
BASIC EPS:
As reported ........................... $(12,107,774) 7,395,000 $(1.64) $ (3,091,125) 7,395,000 $(0.42)
EFFECT OF DILUTIVE SECURITIES:
Options ............................... -- -- -- --
Warrants .............................. -- -- -- --
Convertible Subordinated Debentures ... -- -- -- --
---------------------------------------- ----------------------------------------
DILUTED EPS: .......................... $(12,107,774) 7,395,000 $(1.64) $ (3,091,125) 7,395,000 $(0.42)
======================================== ========================================
SIX MONTHS ENDED JANUARY 31,
-----------------------------------------------------------------------------------
2001 2000
---------------------------------------- ----------------------------------------
Common Per Common Per
Loss Shares Share Loss Shares Share
---------------------------------------- ----------------------------------------
BASIC EPS:
As reported ........................... $(13,119,305) 7,395,000 $(1.77) $ (1,937,120) 7,395,000 $(0.26)
EFFECT OF DILUTIVE SECURITIES:
Options ............................... -- -- -- --
Warrants .............................. -- -- -- --
Convertible Subordinated Debentures ... -- -- -- --
---------------------------------------- ----------------------------------------
DILUTED EPS: .......................... $(13,119,305) 7,395,000 $(1.77) $ (1,937,120) 7,395,000 $(0.26)
======================================== ========================================
During the three months ended January 31, 2001 and 2000, and the six
months ended January 31, 2001 and 2000, the Company had various amounts of
common stock options and warrants outstanding which were not included in the
diluted earnings per share calculation because the options and warrants would
have been anti-dilutive. In addition, the assumed conversion of the Debentures
into the Company's common stock at January 31, 2001 was not included in the
diluted earnings per share calculation because it would have been anti-dilutive.
11. DISCLOSURE ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION
In fiscal 1999, the Company adopted SFAS No. 131, "Disclosure About
Segments of an Enterprise and Related Information", which establishes reporting
standards for the way public companies report information about operating
business segments in annual and interim reports. While the Company is organized
and managed internally by sales and operating divisions, revenues are segmented
between retail and amusement distribution channels.
The Company evaluates performance based on several factors, of which the
primary financial measures are segment revenues and gross profit. Identifiable
assets are not broken out by business segment as both retail and amusement
business segments share common operating and administrative facilities and
assets are not identifiable to either business segment. As such, segment assets
are not relevant for management of the Company's business segments.
12
Information about revenue segments is presented below.
REVENUE SEGMENTS
AMUSEMENT RETAIL OTHER TOTAL
----------- ----------- ----------- -----------
THREE MONTHS ENDED
JANUARY 31, 2001
Net sales ...................... $15,382,725 $ 4,732,133 $ 1,362,409 $21,477,267
Cost of sales .................. 14,470,165 3,570,361 723,649 18,764,175
----------- ----------- ----------- -----------
Gross profit ................... 912,560 1,161,772 638,760 2,713,092
THREE MONTHS ENDED
JANUARY 31, 2000
Net sales ...................... $18,876,835 $ 7,442,315 $ 1,423,401 $27,742,551
Cost of sales .................. 11,769,825 5,506,901 648,061 17,924,787
----------- ----------- ----------- -----------
Gross profit ................... 7,107,010 1,935,414 775,340 9,817,764
SIX MONTHS ENDED
JANUARY 31, 2001
Net sales ...................... $47,436,535 $12,813,464 $ 2,804,343 $63,054,342
Cost of sales .................. 36,520,529 9,715,498 1,477,487 47,713,514
----------- ----------- ----------- -----------
Gross profit ................... 10,916,006 3,097,966 1,326,856 15,340,828
SIX MONTHS ENDED
JANUARY 31, 2000
Net sales ...................... $49,979,555 $23,301,633 $ 2,611,187 $75,892,375
Cost of sales .................. 33,420,586 16,860,821 1,226,579 51,507,986
----------- ----------- ----------- -----------
Gross profit ................... 16,558,969 6,440,812 1,384,608 24,384,389
The following are net sales by geographic areas for the three and six months
ended January 31:
THREE MONTHS ENDED JANUARY 31, SIX MONTHS ENDED JANUARY 31,
--------------------------------- ---------------------------------
2001 2000 2001 2000
----------- ----------- ----------- -----------
Domestic ....................... $11,426,172 $16,852,697 $37,780,158 $48,703,639
International .................. 6,196,080 7,574,960 17,401,624 17,567,411
Latin America .................. 3,855,015 3,314,894 7,872,560 9,621,325
----------- ----------- ----------- -----------
$21,477,267 $27,742,551 $63,054,342 $75,892,375
Indentifiable Assets:
JANUARY 31, JULY 31,
2001 2000
------------ ------------
Domestic .................... $ 66,709,989 $ 99,496,109
Foreign ..................... 47,748,926 50,733,839
------------ ------------
$114,458,915 $150,229,948
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
EXCEPT FOR THE HISTORICAL INFORMATION CONTAINED HEREIN, THE MATTERS
DISCUSSED IN THIS MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS ARE FORWARD LOOKING STATEMENTS THAT INVOLVE RISKS AND
UNCERTAINTIES THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY, INCLUDING,
WITHOUT LIMITATION, THE COMPANY's LIQUIDITY AND CAPITAL RESOURCES, CHANGES IN
CONSUMER PREFERENCES, PRICE CHANGES BY COMPETITORS, RELATIONSHIPS WITH LICENSORS
AND CUSTOMERS, REALIZATION OF ROYALTY ADVANCES, NEW PRODUCT INTRODUCTIONS,
CAPABILITY OF MANAGING GROWTH, ABILITY TO SOURCE PRODUCTS, CONCENTRATION OF
CREDIT RISK, INTERNATIONAL TRADE RELATIONS AND MANAGEMENT OF QUARTER TO QUARTER
RESULTS, AND OTHER RISKS DETAILED FROM TIME TO TIME IN THE COMPANY'S SEC
REPORTS, INCLUDING THE COMPANY'S ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR
ENDED JULY 31, 2000 (SEE "RISK FACTORS" IN SUCH FORM 10-K). UPDATED INFORMATION
WILL BE PERIODICALLY PROVIDED BY THE COMPANY AS REQUIRED BY THE SECURITIES
EXCHANGE ACT OF 1934.
GENERAL
The Company's principal business is to design, develop, market and
distribute stuffed toys and novelty items based on licensed entertainment
characters and trademarks. The Company also designs, develops, markets and
distributes electronic toys and non-licensed stuffed toys and novelties. While
the Company is organized and managed internally by sales and operating
divisions, revenues are segmented and reported in two reportable business
segments, retail and amusement. The Company's retail sales operations involve
the sale of products to customers in retail markets for resale to their
customers, and the amusement sales operations involve the sale of products to
customers in amusement markets for use principally as redemption prizes. The
Company's toy operations accounted for 93.7% and 94.9% of net sales for second
quarter of fiscal 2001 and fiscal 2000, respectively, and 95.6% and 96.6% of net
sales for the first half of fiscal 2001 and fiscal 2000, respectively.
Most of the Company's international toy sales are made in European
countries by PlayoByOPlay Europe, S.A. located in Valencia, Spain and by
PlayOByOPlay U.K. Ltd. Located in Doncaster, England. To date, the cost of most
direct shipment sales from third-party manufacturers to international customers
has been borne by PlayOByOPlay Europe and have been denominated in United States
dollars. Accordingly, the Company is exposed to foreign currency risk from the
shipment date until receipt of payment. Substantially all other sales by such
subsidiaries are transacted in Spanish pesetas or British pounds, their
functional currencies, and therefore any gain or loss on currency translation is
reported as a component of Shareholders' Equity on the Company's consolidated
financial statements. In addition, the Company faces similar risk on inventory
purchases from third-party manufacturers by the Company's European subsidiaries.
These transactions are also denominated in United States dollars so foreign
currency risk exists from the time that the subsidiaries are notified of the
shipment until payment is made.
Some of the Company's license agreements require royalty payments in
Canadian dollars. Likewise, some of PlayOByOPlay Europe's license agreements
require payments in United States dollars. As a result, the Company experiences
currency risk to the extent that exchange rates fluctuate from the date the
royalty liability or minimum guarantee is incurred until the date the royalty is
actually paid to the licensor. Additionally, the Company is exposed to foreign
currency risk for intercompany receivable and payable transactions through the
settlement date.
Net sales in Spain and the United Kingdom reported in U.S. Dollars were
$4.7 million and $1.5 million, respectively, for the second quarter of fiscal
2001 and $11.8 million and $5.6 million, respectively, for the first half of
fiscal 2001. Total cost of sales for Spain and the United Kingdom reported in
U.S. Dollars were $3.2 million and $1.1 million, respectively, for the second
quarter of fiscal 2001 and $8.1 million and $3.9 million, respectively, for the
first half of fiscal 2001. As a result of the weakening of the Spanish Peseta
and British Pound versus the U.S. Dollar, European sales as reported in U.S.
Dollars were negatively impacted by the foreign exchange rates, while European
cost of sales as reported in U.S. Dollars were positively impacted by the
foreign exchange rates. European sales would have increased by approximately
$1.0 million and $3.0 million for the second quarter of fiscal 2001 and the
first half of fiscal 2001, respectively, and European cost of sales would have
14
increased by approximately $690,000 and $2.1 million for the second quarter of
fiscal 2001 and the first half of fiscal 2001, respectively, if the exchange
rates had remained constant with the prior year's exchange rates.
The second quarter and six months ended January 31, 2001 have proven
challenging for the Company. Liquidity issues and declining sales continued to
impact the Company. The Company's liquidity situation remains tight and
available borrowings under the Company's revolving credit facilities are
limited. The Company is aggressively reducing inventory levels to improve cash
flows and reduce the Company's warehouse capacity requirements. These inventory
reductions have impacted the Company's overall margins and results of operations
due to reduced pricing necessary to stimulate sales. The liquidity situation may
impact the Company's ability to source merchandise with certain vendors which
may restrict terms and tighten credit policies toward the Company.
The Company reached a non-binding agreement with the holders of its
Convertible Subordinated Debentures ("Debentures") on February 26, 2001 to
restructure and extend the final maturity of the Debentures until December 31,
2002. The Company faces significant cash flow challenges to meet the debt
service requirements under the restructured Debentures. Similarly, the Company
recently renegotiated more favorable payment terms of royalty obligations
payable under several licensing agreements with Warner Bros. Consumer Products
in an attempt to improve its liquidity and to cure royalty payment defaults
under these agreements. The Company is exploring other opportunities to improve
its liquidity including the sale of its vending business, sale or sale/leaseback
transactions involving the Company's owned real estate and the sale or closure
of other non-core business units.
The Company's overall sales have declined from the same period a year ago,
most notably in the Company's retail operations and also within its amusement
operations. The Company has been aggressively restructuring its retail sales
operations, refocusing product lines away from licensed plush and licensed
feature plush into other less troubled categories, such as dolls, electronics
and boys' toys. With respect to the Company's amusement sales operations,
international amusement sales have increased over the comparable period a year
ago; however, domestic amusement sales have declined from the prior year,
resulting in an overall decline in amusement sales on a consolidated basis. The
decline in domestic amusement sales is most notable within sales to crane,
arcade, fundraising and premiums customers. While liquidity issues have impacted
the Company's sales activities due to such things as fulfillment delays and
reduced orders from customers concerned about the Company's financial situation,
amusement industry issues such as slowing attendance at arcades and family fun
centers, a maturing crane and arcade industry, increased competition, the
absence of "hit" licensed properties in the current season and softening demand
for Looney Tunes merchandise have impacted the Company's amusement sales.
The Company has experienced increased competition from industry
competitors for entertainment character licensing opportunities in part due to
the Company's liquidity situation. The Company faces significant liquidity
demands to service the guaranteed royalty commitments on three particular
licensing agreements with Warner Bros. Consumer Products over the next two
calendar years. As indicated previously, the Company has negotiated more
favorable extended payment terms of these guaranteed royalties; however, the
negative impact on the Company's liquidity is compounded by the fact that sales
of merchandise under these license agreements have not performed to levels
required to enable the Company to generate the cash flows necessary to service
the guaranteed royalty commitments.
Management's goal is to return the Company to profitability. The current
liquidity situation requires the Company to take actions to improve liquidity
and cash flows that will impact near term profitability. The Company is on an
aggressive cost reduction and restructuring plan. This is evident by significant
personnel cuts, facility downsizings and closures, and the elimination of
non-producing or non-core business units. During the first six months of the
current fiscal year, the Company eliminated a significant number of positions on
a worldwide basis, closed its Miami, Florida, and Woodinville, Washington
distribution centers and consolidated its New York City office and showroom into
a single facility. In the past several months, the Company has aggressively
reduced temporary third party storage arrangements further reducing the
Company's operating costs.
15
The Company also commenced plans to significantly reduce distribution capacity
at its San Antonio, Texas and Los Angeles, California distribution centers. To
further reduce operating costs the Company is in the process of ceasing
finishing production operations at its distribution center in San Antonio,
Texas, concentrating these activities at distribution centers in Los Angeles,
California and Chicago, Illinois.
RESULTS OF OPERATIONS
The following unaudited table sets forth the Company's results of
operations and results of operations as a percentage of net sales for the
periods indicated below:
THREE MONTHS ENDED SIX MONTHS ENDED
------------------------------------- -------------------------------------
JANUARY 31, JANUARY 31,
------------------------------------- -------------------------------------
2001 2000 2001 2000
---------------- ---------------- ---------------- ----------------
$ % $ % $ % $ %
------ ------ ------ ------ ------ ------ ------ ------
Net sales ............................. 21.5 100.0% 27.7 100.0% 63.1 100.0% 75.9 100.0%
Cost of sales ......................... 18.8 87.4% 17.9 64.6% 47.7 75.7% 51.5 67.9%
------ ------ ------ ------ ------ ------ ------ ------
Gross profit .......................... 2.7 12.6% 9.8 35.4% 15.3 24.3% 24.4 32.1%
Selling, general and
administrative expenses .......... 13.1 61.0% 11.7 42.1% 24.6 39.0% 23.3 30.7%
------ ------ ------ ------ ------ ------ ------ ------
Operating income (loss) ............... (10.4) -48.4% (1.9) -6.7% (9.3) -14.7% 1.1 1.4%
Interest expense ...................... (1.5) -7.0% (1.5) -5.5% (3.2) -5.1% (3.1) -4.1%
Interest income ....................... 0.1 0.3% 0.0 0.0% 0.1 0.2% 0.0 0.1%
Other income .......................... (0.2) -1.1% 0.1 0.3% (0.0) 0.0% 0.1 0.1%
Income tax benefit (provision) ........ (0.0) -0.2% 0.2 0.8% (0.7) -1.2% 0.0 0.0%
------ ------ ------ ------ ------ ------ ------ ------
Net loss .............................. (12.1) -56.4% (3.1) -11.1% (13.1) -20.8% (1.9) -2.6%
====== ====== ====== ====== ====== ====== ====== ======
THREE MONTHS ENDED JANUARY 31, 2001 AND 2000
AMUSEMENT RETAIL TOTAL TOY SALES
------------------------------ ---------------------------- -------------------------------
JANUARY 31, JANUARY 31, JANUARY 31,
------------------------------ ---------------------------- -------------------------------
2001 2000 CHANGE % 2001 2000 CHANGE % 2001 2000 CHANGE %
------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Net sales ............ 15.4 18.9 (3.5) -18.5% 4.7 7.4 (2.7) -36.4% 20.1 26.3 (6.2) -23.6%
Cost of sales ........ 14.5 11.8 2.7 22.9% 3.6 5.5 (1.9) -35.2% 18.0 17.3 0.8 4.4%
------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Gross profit ......... 0.9 7.1 (6.2) -87.2% 1.2 1.9 (0.8) -40.0% 2.1 9.0 (7.0) -77.1%
====== ====== ====== ====== ====== ====== ====== ====== ======
NET SALES. Net sales for the three months ended January 31, 2001 were
$21.5 million, a decrease of 22.6%, or $6.3 million, from $27.7 million in the
comparable period in fiscal 2000. The decrease in net sales was primarily
attributable to a decrease in the Company's worldwide retail net sales of 36.4%,
or $2.7 million, to $5.7 million, and a decrease in the Company's worldwide
amusement net sales of 18.5%, or $3.5 million, to $15.4 million over the
comparable period in fiscal 2000. Retail sales for the second quarter were down
primarily due to a decline in sales of licensed plush at mass market retail and
licensed feature plush, which the Company believes is an industry wide problem.
In addition, the Company believes its retail turnaround efforts will not produce
meaningful results until the middle to latter part of calendar 2001 as it
diversifies into other less troubled categories. The decrease in amusement sales
in the second quarter occurred principally within the Company's domestic markets
and resulted in part from the timing of sales to the Company's Fun Services
franchisees in which orders were filled in the first quarter of the current
year, whereas, due to product fulfillment delays, the orders were filled in the
second quarter in the prior year. On a year to year basis, sales to the
franchisees for the first six months were down slightly. In addition, domestic
amusement sales were impacted by softening demand for Looney Tunes merchandise.
Decreases in domestic amusement sales were partially offset by increases in
international amusement sales, while Latin American amusement sales remained
flat. Domestic net toy sales for the second quarter of fiscal 2001 compared to
the second quarter of fiscal 2000 decreased 33.3%, or $5.4 million,
16
to $10.8 million. International net toy sales decreased 18.2%, or $1.4 million,
to $6.2 million, due in large part to recent weakness in the Spanish Peseta and
the British Pound, the functional currencies of the Company's European
subsidiaries, versus the U.S. Dollar, and Latin America net toy sales increased
21.4%, or $554,000, to $3.1 million.
Net toy sales to retail customers for the second quarter of fiscal 2001
and fiscal 2000 were $4.7 million and $7.4 million, respectively, which
accounted for 22.0% and 26.8%, respectively, of the Company's net sales. The
36.4%, or $2.7 million, decrease in net sales to retail customers from the
second quarter of fiscal 2000 to the second quarter of fiscal 2001 is
attributable to a decrease in sales of licensed electronic toys of 76.7%, or
$1.1 million, to $337,000, from $1.4 million, a decrease in sales of
non-licensed electronic toys of 91.3%, or $691,000, to $66,000, from $757,000, a
decrease in sales of licensed plush of 13.9%, or $694,000, to $4.3 million, from
$5.0 million, and a decrease in sales of PLAYOFACES(R) of 84.3%, or $218,000, to
$41,000, from $259,000.
Net toy sales to amusement customers for the second quarter of fiscal 2001
and fiscal 2000 were $15.4 million and $18.9 million, respectively, which
accounted for 71.6% and 68.0%, respectively, of the Company's net sales. The
decrease of 18.5%, or $3.5 million, is primarily attributable to decreased sales
of licensed plush of 15.5%, or $1.3 million, to $7.2 million, from $8.5 million,
decreased sales of non-licensed plush toys of 20.3%, or $1.8 million, to $7.0
million, from $8.8 million, and decreased sales of novelty items of 24.7%, or
$396,000, to $1.2 million, from the comparable period in fiscal 2000.
Net sales of licensed products for the second quarter of fiscal 2001 were
$11.8 million, a decrease of 22.0%, or $3.3 million, from $15.2 million in the
comparable period of fiscal 2000. The decrease in licensed product sales was
primarily attributable to a decrease in sales of the Company's licensed
electronic toys of 76.7%, or $1.1 million, to $337,000, from $1.4 million in the
comparable period of fiscal 2000. Net sales of licensed plush toys accounted for
$11.5, or 57.0%, of the Company's net toy sales for the second quarter of fiscal
2001 compared to $13.5, or 51.2%, of the Company's net toy sales, in the
comparable period of fiscal 2000. Within licensed products, sales of Looney
Tunes' characters accounted for $4.9 million, or 24.5%, of the Company's net toy
sales for the second quarter of fiscal 2001 compared to $8.4 million, or 31.5%,
in the comparable period of fiscal 2000.
Net sales of non-licensed products for the second quarter of fiscal 2001
decreased 25.7%, or $2.9 million, to $8.3 million, from $11.1 million in the
comparable period of fiscal 2000. This decrease is primarily attributable to a
decrease in sales of non-licensed plush of $1.8 million, a decrease in sales of
non-licensed electronic toys of $691,000, and a decrease in sales of
non-licensed novelty items of $396,000.
GROSS PROFIT. Gross profit decreased 72.4%, or $7.1 million, to $2.7
million for the second quarter of fiscal 2001 from $9.8 million in the
comparable period of fiscal 2000. This decrease was principally due to the lower
overall sales as compared to the same period a year ago, as well as from reduced
margins on sales made within the Company's worldwide amusement division in
connection with the Company's inventory reduction initiatives, domestic retail
division, and Latin American retail division, partially offset by increased
margins on the Company's international retail sales. In addition, the Company
recorded a charge of $2.4 million relative to a recently amended licensing
agreement with Warner Bros. that the Company anticipates it will be unable to
earn out over the remaining term of the agreement. Gross profit as a percentage
of net sales decreased to 12.6% for the second quarter of fiscal 2001 from 35.4%
in the comparable period in fiscal 2000.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased approximately 12.1%, or $1.4 million, to $13.1
million for the second quarter of fiscal 2001 from $11.7 million in the
comparable period in fiscal 2000. The increase over the comparable period a year
ago was primarily attributable to a $1.7 million charge to write-down vending
business assets that are held for sale to net realizable value. Excluding this
charge, selling, general and administrative expenses would have decreased
approximately 2.8%, or $322,000, to $11.4 million for the second quarter of
fiscal 2001. This decrease is primarily attributable to a decrease over the
comparable period a year ago of $1.5 million in operating costs related to the
Company's direct marketing business, which was discontinued in July 2000, offset
by losses totaling $450,000 related to the
17
settlement of certain litigation pending against the Company and non-insured
product damage losses, increased product development costs totaling $171,000,
increased legal and professional fees of $222,000 related principally to
litigation and other legal matters, and a $219,000 increase in amortization
expense related principally to the amortization of costs related to the
Company's ERP system. As a percentage of net sales, selling, general and
administrative expenses increased to 61.0% for the second quarter of fiscal 2001
from 42.1% in the comparable period in fiscal 2000.
INTEREST EXPENSE. Interest expense remained relatively flat at $1.5
million for the second quarter of fiscal 2001 and fiscal 2000.
INCOME TAX EXPENSE. Income tax expense for the second quarter of fiscal
2001 reflects income taxes on the taxable income of certain of the Company's
foreign subsidiaries. Income tax expense for the second quarter of fiscal 2000
reflects the utilization of domestic and international net operating loss
carryforwards incurred in fiscal year 1999 as well as the net loss for the
period.
SIX MONTHS ENDED JANUARY 31, 2001 AND 2000
AMUSEMENT RETAIL TOTAL TOY SALES
------------------------------ -------------------------------- --------------------------------
JANUARY 31, JANUARY 31, JANUARY 31,
------------------------------ -------------------------------- --------------------------------
2001 2000 CHANGE % 2001 2000 CHANGE % 2001 2000 CHANGE %
------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Net sales ............ 47.4 50.0 (2.5) -5.1% 12.8 23.3 (10.5) -45.0% 60.2 73.3 (13.0) -17.8%
Cost of sales ........ 36.5 33.4 3.1 9.3% 9.7 16.9 (7.1) -42.4% 46.2 50.3 (4.0) -8.0%
------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Gross profit ......... 10.9 16.6 (5.6) -34.1% 3.1 6.4 (3.3) -51.9% 14.0 23.0 (9.0) -39.1%
====== ====== ====== ====== ====== ====== ====== ====== ======
NET SALES. Net sales for the six months ended January 31, 2001 were $63.1
million, a decrease of 16.9%, or $12.8 million, from $75.9 million in the
comparable period in fiscal 2000. The decrease in net sales was primarily
attributable to a decrease in the Company's worldwide retail net sales of 45.0%,
or $10.5 million, to $12.8 million, and a decrease in the Company's worldwide
amusement net sales of 5.0%, or $2.5 million, to $47.4 million over the
comparable period in fiscal 2000. Retail sales for the first half of fiscal 2001
were down primarily due to a decline in sales of licensed plush at mass market
retail and licensed feature plush, which the Company believes is an industry
wide problem. In addition, the Company believes its retail turnaround efforts
will not produce meaningful results until the middle to latter part of calendar
2001 as it diversifies into other less troubled categories. The decrease in
amusement sales in the first half of fiscal 2001 occurred principally within the
domestic amusement market and was concentrated within the Company's crane and
arcade customer base. The Company believes this decrease was related to a number
of industry factors including increased competition, a maturing market and
slowing attendance at arcades and family fun centers. In addition, the Company's
sales to fundraising customers decreased due to product fulfillment issues
caused by the Company's liquidity situation. Amusement sales have also been
impacted by softening demand for Looney Tunes merchandise. Decreases in domestic
amusement sales were partially offset by increases in international amusement
sales, while Latin American amusement sales remained flat. Domestic net toy
sales for the first half of fiscal 2001 compared to the first half of fiscal
2000 decreased 23.0%, or $10.9 million, to $36.4 million. International net toy
sales decreased 0.9%, or $166,000 to $17.4 million, in part due to recent
weakness in the Spanish Peseta and the British Pound, the functional currencies
of the Company's European subsidiaries, versus the U.S. Dollar, and Latin
America net toy sales decreased 23.4%, or $2.0 million, to $6.4 million.
Net toy sales to retail customers for the first half of fiscal 2001 and
fiscal 2000 were $12.8 million and $23.3 million, respectively, which accounted
for 20.3% and 30.7%, respectively, of the Company's net sales. The 45.0%, or
$10.5 million, decrease in net sales to retail customers from the first half of
fiscal 2000 to the first half of fiscal 2001 is attributable to a decrease in
sales of licensed electronic toys of 74.6%, or $4.4 million, to $1.5 million,
from $5.8 million, a decrease in sales of licensed plush of 23.7%, or $3.3
million, to $10.5 million, from $13.8 million, a decrease in sales of
non-licensed electronic toys of 74.9%, or $2.1 million, to $700,000, from $2.8
million, and a decrease in sales of PLAYOFACES(R) of 85.6%, or $770,000, to
$130,000, from $899,000.
18
Net toy sales to amusement customers for the first half of fiscal 2001 and
fiscal 2000 were $47.4 million and $50.0 million, respectively, which accounted
for 75.2% and 65.9%, respectively, of the Company's net sales. The decrease of
5.1%, or $2.5 million, is primarily attributable to decreased sales of
non-licensed plush toys of 13.5%, or $2.5 million, to $16.3 million, from $18.8
million in the comparable period in fiscal 2000.
Net sales of licensed products for the first half of fiscal 2001 were
$37.9 million, a decrease of 18.1%, or $8.4 million, from $46.2 million in the
comparable period of fiscal 2000. The decrease in licensed product sales was
primarily attributable to a decrease in sales of licensed electronic toys of
74.6%, or $4.4 million, to $1.5 million, from $5.8 million in the comparable
period of fiscal 2000. Net sales of licensed plush toys accounted for $36.3, or
60.2%, of the Company's net toy sales for the first half of fiscal 2001 compared
to $39.5, or 53.9%, of the Company's net toy sales, in the comparable period of
fiscal 2000. Within licensed products, sales of Looney Tunes' characters
accounted for $14.9 million, or 24.7%, of the Company's net toy sales for the
first half of fiscal 2001 compared to $25.9 million, or 34.9%, in the comparable
period of fiscal 2000.
Net sales of non-licensed products for the first half of fiscal 2001
decreased 17.3%, or $4.7 million, to $23.4 million, from $27.1 million in the
comparable period of fiscal 2000. This decrease is primarily attributable to a
decrease in sales of non-licensed electronic toys of $2.1 million and a decrease
in sales of non-licensed plush of $2.5 million.
GROSS PROFIT. Gross profit decreased 37.1%, or $9.0 million, to $15.3
million for the first half of fiscal 2001 from $24.4 million in the comparable
period of fiscal 2000 due to lower overall sales as compare to the same period a
year ago. Gross profit was also impacted by reduced margins on sales made within
the Company's domestic and international amusement divisions in connection with
the Company's inventory reduction initiatives, domestic retail division, and
Latin American retail division, partially offset by increased margins on the
Company's international retail sales. In addition, the Company recorded a charge
of $2.4 million in the second quarter relative to a recently amended licensing
agreement with Warner Bros. that the Company anticipates it will be unable to
earn out over the remaining term of the agreement. Gross profit as a percentage
of net sales decreased to 24.3% for the second quarter of fiscal 2001 from 32.1%
in the comparable period in fiscal 2000.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased approximately 5.6%, or $1.3 million, to $24.6
million for the first half of fiscal 2001 from $23.3 million in the comparable
period in fiscal 2000. The increase over the comparable period a year ago was
primarily attributable to a $1.7 million charge recorded in the second quarter
of fiscal 2001 to write-down vending business assets that are held for sale to
net realizable value. Excluding this charge, selling, general and administrative
expenses decreased approximately 1.9%, or $444,000, to $22.9 million for the
first half of fiscal 2001. This decrease is primarily attributable to a decrease
of $2.5 million in operating costs related to the Company's direct marketing
business, which was discontinued in July 2000, offset by losses totaling
$450,000 related to the settlement of certain litigation pending against the
Company and non-insured product damage losses, increased seasonal temporary
personnel costs and benefit costs totaling $507,000, increased legal and
professional fees of $613,000 related principally to litigation and other legal
matters, and a $465,000 increase in amortization expense related principally to
the amortization of costs related to the Company's ERP system. Selling, general
and administrative expenses as a percentage of net sales increased to 39.0% for
the first half of fiscal 2001 from 30.7% in the comparable period in fiscal
2000.
INTEREST EXPENSE. Interest expense increased $92,000, to $3.2 million, for
the first half of fiscal 2001 from $3.1 million in the comparable period of
fiscal 2000. The increase is attributable to increased borrowing costs,
principally as a result of increases in the interest rates on loan amounts
outstanding under the Company's Credit Facility, offset by decreased borrowings
outstanding under the Company's revolving lines of credit.
INCOME TAX EXPENSE. Income tax expense for the first half of fiscal 2001
reflects income taxes on the taxable income of certain of the Company's foreign
subsidiaries.
19
LIQUIDITY AND CAPITAL RESOURCES
At January 31, 2001, the Company had negative working capital of $2.8
million compared to positive working capital of $8.8 million at July 31, 2000.
Generally, the Company satisfies its capital requirements and seasonal working
capital needs with cash flows primarily from borrowings and operations. The
Company's primary capital needs have consisted of repayment of indebtedness,
funding for inventory, property, plant and equipment, customer receivables,
letters of credit, licensing agreements, international expansion and business
acquisitions.
The Company's operating activities provided net cash of $16.8 million and
$9.9 million in the first six months of fiscal 2001 and 2000, respectively. The
cash flow from operations in the first six months of fiscal 2001 was primarily
affected by decreases in inventory, accounts receivable and prepaids, and
increases in accounts payable and accrued liabilities.
Net cash used in investing activities during the first six months of
fiscal 2001 and 2000 was $517,000 and $1.1 million, respectively. For the first
six months of fiscal 2001, net cash used in investing activities consisted of
$536,000 of expenditures for property and equipment. In the first six months of
fiscal 2000, net cash used in investing activities consisted principally of the
purchase of property and equipment of $1.3 million.
Financing activities used net cash of $14.1 million and $7.4 million
during the first six months of fiscal 2001 and fiscal 2000, respectively. During
the first six months of fiscal 2001, the Company received aggregate advances of
$43.2 million under, and made repayments of $55.7 million on, its Credit
Facility (as amended through November 10, 2000, the "Credit Facility"), and
reduced the principal on its long-term loans by $207,000. During the first six
months of fiscal 2000, the Company received aggregate advances of $59.0 million
under, and made repayments of $64.1 million on, its credit facilities, and
reduced the principal on its long-term loans by $2.5 million.
The Company has borrowed substantially all of its available capacity under
its Credit Facility. Thus, any future losses or other capital needs could
require the Company to seek additional financing from public or private issuance
of debt and/or equity or from asset sales. The Company may not be able to
complete any such financing or asset sale or, if so, on terms favorable to the
Company. Any equity financing could result in dilution to existing shareholders.
As indicated, the Company has borrowed substantially all of its available
capacity under its senior credit facility and the Company is in discussions with
the senior lender relative to restructuring the credit facility to provide
increased borrowing availability. The Company's cash flows are highly dependent
on future sales and collections of receivables generated from sales and
borrowings under the Company's senior credit facility and other revolving credit
facilities. If the Company is unable to restructure and extend the Debentures
and resolve defaults outstanding under the Credit Facility, the Company would
remain in default under its Credit Facility. As such, the Company's liquidity is
dependent on the senior lender's willingness to continue to provide advances to
the Company under the Credit Facility. In the absence of this willingness by the
senior lender, the Company would not have sufficient liquidity to meet its
obligations and would be required to seek protection from its creditors. As
indicated, the Company is attempting to address its liquidity deficiencies by
attempting to restructure its Debentures, renegotiating commitments under
licensing agreements, cost cutting and restructuring changes aimed at improving
profitability and cash flows, and exploring the sale of certain assets and
business units. The Company is also in negotiations with current and prospective
lenders relative to additional financing for the Company. There can be no
assurance that the Company will be able to satisfactorily restructure its Credit
Facility to provide additional financing to the Company.
On November 10, 2000, the Company's Credit Facility was amended to
permanently increase the advance rate percentage applicable to inventory from
50% to 55%, and to waive the Company's non-compliance with the net worth
financial covenants under the Credit Facility at July 31, 2000 and to modify
these same financial covenants for future periods. In addition, the Credit
Facility was further amended to increase the fees that would
20
be payable in the event the Credit Facility is terminated prior to maturity, and
also requires the Company to reduce the term loan balance with the senior lender
by sixty percent (60%) of the net proceeds from the sale of the Company's
vending business assets. The term loan had a balance outstanding of $1.9 million
at January 31, 2001. The Company's vending assets represent 1.1% of the total
assets of the Company. The adjustment to the advance rate percentage increases
the Company's borrowing availability relative to advances on eligible inventory
by 5% during the peak season (June 1 to November 30), or approximately $1.1
million, based on current inventory levels. Prior to the amendment, the
Company's advance rate applicable to inventory was 50% during the peak season
and 55% during the non-peak season (December 1 to May 31).
The Company had entered into a Convertible Loan Agreement ("Convertible
Loan Agreement") dated July 3, 1997, pursuant to which the Company issued the
Debentures to Renaissance US Growth & Income Trust PLC ($2.5 million),
Renaissance Capital Growth & Income Fund III, Inc. ($2.5 million) and Banc One
Capital Partners II, LLC ($10 million). In March 1999, the Company defaulted
under certain financial covenants of the Convertible Loan Agreement, and in July
1999 the Company defaulted in the payment of interest due on the Debentures as
required by its senior lenders. On October 22, 1999, the Company and the holders
of the Debentures entered into a First Amendment to the Convertible Loan
Agreement (the "First Amendment") which waived existing defaults under the
Convertible Loan Agreement, provided consent to the Company's new senior credit
facility, and modified the financial covenants in the Convertible Loan Agreement
to conform to the financial covenants in the new senior credit facility. In
addition, the First Amendment increased the interest rate from 8.5% to 10.5% per
annum, changed the Debentures' final maturity date from June 30, 2004 to
December 31, 2000, and adjusted the conversion price from $16 per share to $6
per share of common stock. In connection with the First Amendment, the Company
granted the holders of the Debentures a first lien on its 51% interest in its
Los Angeles warehouse and a second lien on substantially all its other domestic
assets, with the exception of the Company's Chicago warehouse facility. The
First Amendment also included limitations on the issuance of stock options to
employees, and entitled the holders to two advisory board positions. The First
Amendment also provides for permanent board seats proportionate to their
ownership interests on an as converted basis, as well as limitations on the
total number of board seats, which could have resulted in a change in control of
the board if the Debentures were not paid in full by final maturity. The First
Amendment also provides for a second reset of the conversion price based on the
average closing price of the Company's stock for the month of December 2000, or
$0.54865 per share, if the Debentures were not converted or paid in full by
final maturity.
Conversion of the debt under the Debentures into shares of the Company's
common stock at the second reset price would result in the issuance to the
holders of the Debentures of approximately 26.5 million shares of the Company's
common stock and would give the Debenture holders majority ownership (78.2%) of
the Company's outstanding common stock based on the number of shares outstanding
as of March 9, 2001. In addition, if the Debenture holders exercised their right
to request board seats proportionate to their ownership based on an assumed or
actual conversion, then the Debenture holders would be entitled to up to 7 board
seats based on a maximum of 9 available board positions, which would result in a
change in majority control of the Company's board. Certain change of control
events including, but not limited to, the acquisition by a person or a group of
beneficial ownership directly or indirectly of 50% or more of the voting power
of the total outstanding voting stock of the Company, or a change in the
composition of the Company's board which would result in the failure of the
current board to maintain majority control, would result in an event of default
under the Company's Credit Facility. Such default, if not cured, would give the
senior lender the right to accelerate demand for payment of the entire amount of
the debt outstanding under the Credit Facility.
Monthly principal payment requirements on the Company's Debentures
commenced on June 30, 2000, at a rate of 1% of the outstanding principal
balance. The Company defaulted in the payment of monthly principal and interest
due under the Debentures beginning in October 2000, and defaulted in the payment
of principal and interest totaling $15.1 at final maturity on December 31, 2000,
and such defaults continue subject to the accrual of additional interest, until
resolved. As a result of the default in the payment of principal and interest on
the Debentures, the Company is also in default of certain cross-default
covenants of its Credit Facility. In addition, the Company is also in default of
financial net worth covenants of its Credit Facility. Because of the defaults
under the Credit Facility, the senior lender thereunder currently has the right
to accelerate demand for payment of
21
the entire amount of principal, plus accrued and unpaid interest, under the
Credit Facility. In the event of the acceleration of the Debentures and/or
Credit Facility, the Company has insufficient funds to pay amounts that would
then be due and payable. As of January 31, 2001, approximately $19.0 million in
borrowings were outstanding under the Credit Facility. As a result of the
forgoing, the Company has classified all debt as current until such time as the
Company restructures or refinances the Debentures and receives appropriate
waivers from the Debenture holders and the senior lender. The Company is in
discussions with the senior lender relative to restructuring the financial
covenants and obtaining additional borrowings under the Credit Facility. The
senior lender has allowed the Company to continue to borrow under the Credit
Facility, under the terms of the Credit Facility, and has not exercised any
rights or remedies available under the Credit Facility as a result of the
defaults.
On February 26, 2001, the Company reached an agreement in the form of a
non-binding term sheet with the holders of its Debentures to restructure and
extend the final maturity of the Debentures until December 31, 2002. As part of
the restructuring, the holders of the Debentures will not exercise their present
right to accelerate demand for payment of the entire amount of debt outstanding
under the Debentures, and will relinquish all conversion rights now associated
with the Debentures, including without limitation, rights to control board
seats. In exchange, the holders of the Debentures will receive warrants to
purchase up to 1.5 million shares of the Company's common stock based on the
average closing price of the Company's common stock for the 30-day period
preceding the closing date of the restructuring. Shareholder approval prior to
the issuance of the warrants may be required pursuant to NASD Rule
4350(i)(1)(D). In addition, the holders of the Debentures will receive a
subordinate pledge of 65% of the stock of certain subsidiaries of the Company
and a second subordinate lien on the Company's Chicago warehouse facility,
subject to the consent and approval of the Company's senior lender. The Company
must continue to meet periodic principal and interest payment requirements and
must comply with certain newly established "EBITDA" financial covenants. The
agreement is subject to the payment at closing by the Company of past due
principal and interest due under the Debentures totaling approximately $1.6
million. Other terms of the restructuring include the waiver of existing events
of default outstanding under the Debentures and promissory notes. The holders of
the Debentures have agreed to a standstill until March 30, 2001 in order to
allow the parties time to prepare and complete final documentation. The holders
of the Debentures may not take legal action against the Company to collect on
the debt during the two-year extension period unless the Company fails to make
periodic payments or violates the financial covenants. However, there can be no
assurance that the Company will be able to satisfactorily restructure the
Debentures and resolve the defaults outstanding under the Credit Facility or,
that if obtained, that the terms will be as favorable to the Company as those
contained in the current credit arrangements. If the Company fails to
restructure and extend the Debentures and resolve the defaults outstanding under
the Credit Facility, all amounts would be due and payable and the Company has
insufficient funds to satisfy such obligations.
In addition, the Debentures, if restructured pursuant to the term sheet,
will call for monthly payments of interest at an interest rate of 10.5% on the
outstanding principal balance beginning March 31, 2001 and principal payments of
$75,000 per month beginning June 30, 2001 and continuing at this amount through
July 31, 2001, followed by monthly principal payments of $150,000 per month
beginning August 31, 2001 and continuing thereafter at this amount until final
maturity. The remaining unpaid principal balance projected to be approximately
$9.9 million plus accrued and unpaid interest will be due at final maturity on
December 31, 2002.
Play By Play Europe previously had credit facilities with three separate
banks in Europe that merged into a single entity resulting in a greater
concentration of Company's credit arrangements within the surviving bank
("Bank"). To reduce the increased concentration of the Bank's credit risk, the
Bank advised the Company that it was progressively reducing its credit
commitment to the Company from 1.1 billion pesetas (approximately $6.0 million)
at March 31, 2000, to 575 million pesetas (approximately $3.2 million) by
November 30, 2000, concurrent with the maturity date of the credit arrangements
with the Bank. The Company has secured credit arrangements with the Bank that
provide for an aggregate credit commitment of 550 million pesetas (approximately
$3.1 million at March 5, 2001) that mature in November 2001. In addition, the
Company has secured credit arrangements with nine other banks that provide for
aggregate credit commitments of 2.7 billion pesetas (approximately $15.0 million
at March 5, 2001). The credit arrangements with the banks consist principally of
letter of credit, discounting and revolving loan facilities.
22
In February 2001, the Company received a letter of intent to purchase the
Company's vending business, and substantially all related assets, for the sale
price of $1.25 million, consisting of cash and a seller's note. The Company
anticipates closing the transaction in April 2001. The sale of Val Verde Vending
is consistent with the Company's previously announced strategy of concentrating
on core businesses.
On November 10, 2000, the Company entered into amendments with Warner
Bros. Consumer Products ("Warner Bros.") relative to three significant
entertainment character licensing agreements originally scheduled to expire on
December 31, 2000. One of the entertainment character licensing agreements, as
amended, provides the Company with licensing rights for Looney Tunes characters
and other properties for amusement and retail distribution within Europe, Middle
East and Africa ("EMEA"), another agreement provides the Company with -
worldwide licensing rights for Baby Looney Tunes characters for mass market
retail distribution ("BLT"), and the third agreement provides the Company with
licensing rights for Looney Tunes and other properties for retail distribution
in Latin America ("LA"). The amendments extend the licensing terms of the EMEA
and BLT agreements for up to two additional years, and until September 2001 for
the LA agreement and the retail distribution portion of the EMEA agreement, and
specifically provide for the payment of the remaining balance of the guaranteed
minimum royalties due to the licensor over the extended two-year period.
The aforementioned amendments were conditioned upon the Company obtaining
renewals and extensions of the existing surety bonds from Amwest Surety
Insurance Company securing payment of substantially all of the guaranteed
minimum royalties due under the EMEA and BLT agreements over the amended
licensing agreement periods by November 22, 2000. The Company secured renewals
and extensions of the surety bonds by the specified deadline as required by the
licensor.
In connection with one of the aforementioned amendments, the Company
agreed to modify the terms of an existing warrant agreement with the licensor to
purchase up to 100,000 shares of the Company's common stock. The amendment
extended the exercise period of the warrant for two additional years and reduced
the purchase price per share from $15.4375 to $6.00, effective immediately upon
execution of the amendment, and provides for an additional adjustment to the
purchase price per share equal to the new Convertible Subordinated Debenture
conversion price effective upon the Company's extension or refinancing of its
Convertible Subordinated Debentures.
In January 2001, the Company received notices of termination on several
significant entertainment character licensing agreements from Warner Bros. due
to the non-payment of past due royalties totaling approximately $3.2 million. On
February 5, 2001, the Company secured an agreement with Warner Bros. that
preserves the Company's licensing rights under these agreements, and provides
for the rescheduling of the payment of royalty obligations on terms more
favorable to the Company over the two-year period ended December 31, 2002. The
Company has royalty commitments to Warner Bros. totaling approximately $21.4
million. Of this amount, $15.6 million represents minimum guaranteed royalties
payable on the above three agreements with Warner Bros. that are payable in
quarterly installments totaling approximately $1.5 million beginning March 1,
2001 with a final balloon payment of approximately $6.5 million due and payable
on September 30, 2002 pursuant to the recent amendments and payment extensions
secured from the licensor. The remaining royalty commitments are generally
payable to the licensor on a monthly or quarterly basis as the royalties are
earned from sales of licensed merchandise, or at specified dates in the form of
advances against minimum guaranteed royalty commitments if the sales are not
sufficient during the period to earn out the minimum guaranteed royalties.
The Company has estimated that projected future revenues over the
remaining term of the LA license agreement as recently amended will be
insufficient to allow the Company to earn-out the guaranteed minimum royalties
advanced or required to be paid to the licensor over the remaining terms of the
agreement. Accordingly, the Company recorded a provision totaling $2.4 million
in the second quarter of fiscal 2001 for the estimated guaranteed minimum
royalty shortfall associated with this license and is reflected in cost of sales
in the accompanying consolidated statement of operations.
23
In addition to the above commitments, the Company's term loans with its
senior lender call for monthly payments of principal and interest totaling
approximately $52,000 until final maturity of the first term note on October 31,
2004, and thereafter, monthly payments of principal and interest totaling
approximately $17,000 until final maturity of the second term note on October
31, 2006. The Company has various notes payable which call for future minimum
payments of principal and interest totaling $198,000 through fiscal year 2002,
and the Company's capital lease obligations call for future minimum payments of
principal and interest totaling approximately $1.2 million on capital leases
that expire at various dates through 2005.
EURO
On January 1, 1999, eleven of the fifteen member countries of the European
Union introduced the euro, which became the common currency among the
participating member countries by converting to the euro at the exchange rates
in effect on the introduction date. One of the participating members is Spain,
which is the country in which PlayoByoPlay Toys & Novelties, Europa, S.A.
("PlayoByoPlay Europe") is located. PlayoByoPlay Europe intends to keep its
books in Spain's sovereign currency, the peseta, through the substantial portion
of the three-year introductory period, at the end of which all companies in
participating member countries must adopt the euro. PlayoByoPlay Europe's
accounting system is currently capable of performing the euro conversion, and
the Company does not anticipate that the costs related to the conversion will be
significant. In addition, because PlayoByoPlay Europe operates primarily in
Spain and in non-European Union countries, currently management does not
anticipate that the introduction of the euro will have a material adverse effect
on PlayoByoPlay Europe's results of operations, financial position, or cash
flows for the forseeable future.
SEASONALITY
Both the retail and amusement toy industries are inherently seasonal.
Generally, in the past, the Company's sales to the amusement industry have been
highest during the third and fourth fiscal quarters, and collections for those
sales have been highest during the succeeding two fiscal quarters. The Company's
sales to the retail toy industry have been highest during the first and fourth
fiscal quarters, and collections from those sales have been highest during the
succeeding two fiscal quarters. The Company's working capital needs and
borrowings to fund those needs have been highest during the third and fourth
fiscal quarters. As a result of the Company's increased sales to amusement
customers and to retail customers, the Company anticipates that its borrowings
to fund working capital needs may become more significant in the third and
fourth fiscal quarters.
NEW ACCOUNTING PRONOUNCEMENTS
See Note 2 to the consolidated financial statements included elsewhere
herein for a discussion of new pronouncements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk represents the risk of loss that may impact the financial
position, results of operations or cash flows of the Company due to adverse
changes in financial and commodity market prices and rates. The Company is
exposed to market risk in the areas of changes in United States and
international borrowing rates (i.e. prime rate, LIBOR or other Eurodollar
rates), and changes in foreign currency exchange rates as measured against the
United States ("U.S.") dollar and functional currencies of its subsidiaries
(i.e. British pound, Spanish peseta, Hong Kong dollar, Canadian dollar). In
addition, the Company is exposed to market risk in certain geographic areas that
have experienced or are likely to experience an economic downturn, such as China
and Latin America. The Company purchases substantially all of its inventory from
suppliers in China, therefore, the Company is subject to the risk that such
suppliers will be unable to provide inventory at competitive prices. The Company
believes that if such an event were to occur, it would be able to find alternate
sources of inventory at competitive prices, however, there can be no assurance
that the Company would be successful.
24
INTEREST RATE RISK
The interest payable on the Company's revolving line-of-credit and term
loans under the Credit Facility is variable based on its Lender's prime rate or
adjusted Eurodollar rate, and therefore, affected by changes in market interest
rates. At January 31, 2001, approximately $19.0 million in borrowings was
outstanding under the Credit Facility with a weighted average interest rate of
10.25%.
FOREIGN CURRENCY RISK
The Company has wholly-owned subsidiaries in Valencia, Spain and
Doncaster, England. Sales from these operations are typically denominated in
Spanish Pesetas or British Pounds, respectively, thereby creating exposures to
changes in exchange rates. Changes in the Spanish Peseta/U.S. Dollars exchange
rate and British Pounds/U.S. Dollars exchange rate may positively or negatively
affect the Company's sales, gross margins, net income and retained earnings.
Purchases of inventory by the Company's European subsidiaries from its suppliers
in the Far East are subject to currency risk to the extent that there are
fluctuations in the exchange rate between the United States Dollar and the
Spanish Peseta or the British Pound. Certain of the European subsidiaries'
license agreements call for payment of royalties in a currency different from
their functional currency, and these arrangements subject the Company to
currency risk to the extent that exchange rates fluctuate from the date that
royalty liabilities are incurred until the date royalties are actually paid to
the licensor.
Net sales in Spain and the United Kingdom reported in U.S. Dollars were
$4.7 million and $1.5 million, respectively, for the second quarter of fiscal
2001 and $11.8 million and $5.6 million, respectively, for the first half of
fiscal 2001. Total cost of sales for Spain and the United Kingdom reported in
U.S. Dollars were $3.2 million and $1.1 million, respectively, for the second
quarter of fiscal 2001 and $8.1 million and $3.9 million, respectively, for the
first half of fiscal 2001. As a result of the weakening of the Spanish Peseta
and British Pound versus the U.S. Dollar, European sales as reported in U.S.
Dollars were negatively impacted by the foreign exchange rates, while European
cost of sales as reported in U.S. Dollars were positively impacted by the
foreign exchange rates. European sales would have increased by approximately
$1.0 million and $3.0 million for the second quarter of fiscal 2001 and the
first half of fiscal 2001, respectively, and European cost of sales would have
increased by approximately $690,000 and $2.1 million for the second quarter of
fiscal 2001 and the first half of fiscal 2001, respectively, if the exchange
rates had remained constant with the prior year's exchange rates.
25
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In December 1997, a legal action was instituted against the Company by an
individual alleging claims for unfair competition (misappropriation), breach of
contract, breach of implied in fact contract, and quasi contract in connection
with alleged infringement resulting from the sale of Tornado Taz(TM). The
plaintiff seeks to recover the Company's profits on the sale of the toy in
question which could be as much as two million dollars or more, or alternatively
the plaintiff may seek to recover royalties as a measure of damages. The Company
responded by denying the essential allegations of the complaint and by filing
counterclaims and by filing a motion for summary judgement. The plaintiff filed
motions for summary judgement for dismissal of the claims and counterclaims. On
January 21, 1999, a judge in the United States District Court Southern District
of New York granted both the defendant's and plaintiff's motions for summary
judgement dismissing the claims and counterclaims. On February 19, 1999, the
plaintiff filed a notice of appeal with respect to the court's granting the
Company's motion for summary judgement. The Company filed a similar notice on
February 25, 1999 regarding the granting of the plaintiff's motion for summary
judgement. The Court of Appeals reversed the grant of summary judgement against
the plaintiff and affirmed the grant of summary judgement against the Company,
thus dismissing all of the Company's counterclaims against the plaintiff,
thereby remanding the matter back to the United States District Court Southern
District of New York for trial. To date, no trial date has been set by the
United States District Court. In September 2000, the District Judge allowed the
Company to file another motion for summary judgement with the court requesting
dismissal of plaintiff's claims against the defendant, which has not been ruled
upon by the court.
ITEM 3. DEFAULT UPON SENIOR SECURITIES
The Company defaulted in the payment of monthly principal and interest due
under the Debentures beginning in October 2000, and defaulted in the payment of
principal and interest totaling $15.1 million at final maturity on December 31,
2000, and such defaults continue subject to the accrual of additional interest,
until resolved. As a result of the default in the payment of principal and
interest on the Debentures, the Company is also in default of certain
cross-default covenants of its Credit Facility. In addition, the Company is also
in default of financial net worth covenants of its Credit Facility. Because of
the defaults under the Credit Facility, the senior lender thereunder currently
has the right to accelerate demand for payment of the entire amount of
principal, plus accrued and unpaid interest, under the Credit Facility. In the
event of the acceleration of the Debentures and/or Credit Facility, the Company
has insufficient funds to pay amounts that would then be due and payable. As of
January 31, 2001, approximately $19.0 million in borrowings were outstanding
under the Credit Facility. As a result of the forgoing, the Company has
classified all debt as current until such time as the Company restructures or
refinances the Debentures and receives appropriate waivers from the Debenture
holders and the senior lender. The Company is in discussions with the senior
lender relative to restructuring the financial covenants and obtaining
additional borrowings under the Credit Facility. The senior lender has allowed
the Company to continue to borrow under the Credit Facility, under the terms of
the Credit Facility, and has not exercised any rights or remedies available
under the Credit Facility as a result of the defaults.
As indicated previously, the Company has reached a non-binding agreement
with the holders of its Convertible Subordinated Debentures to restructure
certain terms of the debentures, under which existing defaults will be waived
subject to the payment of past due principal and interest, among other things,
at closing.
26
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of Shareholders of Play By Play Toys & Novelties, Inc.
was held on January 29, 2001, for the purpose of electing directors, and
approving the appointment of independent auditors. Proxies for the meeting were
solicited pursuant to Regulation 14A of the Securities Exchange Act of 1934 and
there was no solicitation in opposition to those nominees of the Board of
Directors.
All of the Board of Director's nominees for directors, as listed in the proxy
statement, were elected with the number of votes cast for each nominee as
follows:
FOR WITHHELD
------------- ------------
Arturo G. Torres 6,671,216 210,587
Guarione M. Diaz 6,677,682 204,121
Heriberto "Berto" Guerra, Jr. 6,678,532 203,271
The proposal to appoint Ernst & Young LLP as independent auditors for the
Company for the fiscal year ending July 31, 2001, was approved by the following
vote:
FOR AGAINST ABSTAINED
------------ ---------- --------------
6,782,478 24,766 74,559
27
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBITS
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
--------- -----------------------------
2.1 Asset Purchase Agreement dated May 1, 1996, by and among Ace
Novelty Acquisition Co., Inc. a Texas corporation ("Buyer"), Play
By Play Toys & Novelties, Inc., a Texas corporation and the parent
corporation of Buyer ("PBYP"), Ace Novelty Co., Inc., a Washington
corporation ("ACE"), Specialty Manufacturing Ltd., a British
Columbia, Canada corporation ("Specialty"), ACME Acquisition Corp.,
a Washington corporation ("ACME"), and Benjamin H. Mayers and Lois
E. Mayers, husband and wife, Ronald S. Mayers, a married
individual, Karen Gamoran, a married individual, and Beth
Weisfield, a married individual (collectively, "Stockholders")
(filed as Exhibit 2.1 to Form 8-K, Date of Event: May 1, 1996),
incorporated herein by reference.
2.2 Amendment No. 1 to Asset Purchase Agreement dated June 20, 1996 by,
and among Buyer, PBYP, ACE, Specialty, ACME and Stockholders.
(filed as Exhibit 2.2 to Form 8-K, Date of Event: May 1, 1996),
incorporated herein by reference.
3.1 Amended Articles of Incorporation of the Company (filed as Exhibit
3.1 to the Registration Statement on Form S-1, File No. 33-92204)
incorporated herein by reference.
3.2 Amended and Restated Bylaws of the Company (filed as Exhibit 3.2 to
the Registration Statement on Form S-1, File No. 33-92204),
incorporated herein by reference.
4.1 Specimen of Common Stock Certificate (filed as Exhibit 4.1 to the
Registration Statement on Form S-1, File No. 33-92204) incorporated
herein by reference.
4.2 Form of Warrant Agreement and Form of Warrant (filed as Exhibit 4.2
to the Registration Statement on Form S-1, File No. 33-92204),
incorporated herein by reference.
4.3 Form of Play By Play Toys & Novelties, Inc. Grant of Incentive
Stock Option (filed as Exhibit 4.3 to the Registration Statement on
Form S-1, File No. 33-92204) incorporated herein by reference.
4.4 Form of Play By Play Toys & Novelties, Inc. Non-qualified Stock
Option Agreement (filed as Exhibit 4.4 to the Registration
Statement on Form S-1, File No. 33-92204) incorporated herein by
reference.
4.5 Play By Play Toys & Novelties, Inc. Warrant to Purchase Common
Stock (filed as Exhibit 4 to Form 8-K, Date of Event: May 1, 1996),
incorporated herein by reference.
10.1 Play By Play Toys & Novelties, Inc. 1994 Incentive Plan (filed as
Exhibit 10.1 to the Registration Statement on Form S-1, File No.
33-92204), incorporated herein by reference.
10.2 Credit Agreement dated June 20, 1996, by and among Play By Play
Toys & Novelties, Inc., Ace Novelty Acquisition Co., Inc., Newco
Novelty, Inc. and Chemical Bank, a New York banking corporation as
agent for the lenders (filed as Exhibit 10.1 to Form 8-K, Date of
Event: May 1, 1996), incorporated herein by reference.
28
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (CONTINUED)
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
--------- -------------------------------
10.3 Promissory Note dated June 20, 1996, of Ace Novelty Acquisition
Co., Inc. payable to the order of Ace Novelty Co., Inc. in the
principal sum of $2,900,000 (filed as Exhibit 10.5 to Form 8-K,
Date of Event: May 1, 1996), incorporated herein by reference.
10.5 Non-Qualified Stock Option agreement dated November 4, 1996,
between the Company and Raymond G. Braun, as amended by Amendment
No. 1 to Non-Qualified Stock Option agreement dated August 29, 1997
(filed as Exhibit 10.5 to Form 10-K for the fiscal year ended July
31, 1997), incorporated herein by reference.
10.8 Subordinated Convertible Debenture Agreements dated July 3, 1997,
between the Company and each of Renaissance Capital Growth and
Income Fund III, Inc., Renaissance U.S. Growth and Income Trust PLC
and Banc One Capital Partners II, Ltd. (the "Convertible Lenders")
(filed as Exhibit 10.8 to Form 10-K for the fiscal year ended July
31, 1997), incorporated herein by reference.
10.9 Convertible Loan Agreement dated July 3, 1997, among the Company,
the Convertible Lenders and Renaissance Capital Group, Inc. (filed
as Exhibit 10.9 to Form 10-K for the fiscal year ended July 31,
1997), incorporated herein by reference
10.10+ License Agreement dated March 22, 1994 by and between Warner Bros.,
a division of Time Warner Entertainment, L.P., and the Company (as
successor by assignment to Ace Novelty, Inc.) (filed as Exhibit
10.10 to Form 10-K for the fiscal year ended July 31, 1997),
incorporated herein by reference.
10.11+ License Agreement dated March 22, 1996 by and between Warner Bros.,
a division of Time Warner Entertainment, L.P., and the Company (as
successor by assignment to Ace Novelty, Inc.) (filed as Exhibit
10.11 to Form 10-K for the fiscal year ended July 31, 1997),
incorporated herein by reference.
10.12+ License Agreement dated September 10, 1997 by and between Warner
Bros., a division of Time Warner Entertainment, L.P., and the
Company (as successor by assignment to Ace Novelty, Inc.) (filed as
Exhibit 10.12 to Form 10-K for the fiscal year ended July 31,
1997), incorporated herein by reference.
10.13+ License Agreement dated January 1, 1998 by and between Warner
Bros., a division of Time Warner Entertainment, L.P. and the
Registrant (filed as Exhibit 10.13 to Form 10-Q for the quarter
ended January 31, 1998, and incorporated herein by reference).
10.14+ License Agreement dated January 1, 1998 by and between Warner
Bros., a division of Time Warner Entertainment, L.P. and the
Registrant (filed as Exhibit 10.14 to Form 10-Q for the quarter
ended January 31, 1998, and incorporated herein by reference).
10.15+ Amendment dated January 14, 1998 to License Agreement dated
September 10, 1997 by and between Warner Bros., a division of Time
Warner Entertainment, L.P. and the Registrant (filed as Exhibit
10.15 to Form 10-Q for the quarter ended January 31, 1998, and
incorporated herein by reference).
29
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (CONTINUED)
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
-------- -------------------------
10.16 First Amendment to Convertible Loan Agreement made as of October
22, 1999, by and among the Company, Renaissance Capital Group,
Inc., and the Convertible Lenders party to the original Convertible
Loan Agreement (filed as Exhibit 10.16 to Form 10-K for the fiscal
year ended July 31, 1999), incorporated herein by reference.
10.17 Loan and Security Agreement dated October 25, 1999 by and among
Congress Financial Corporation (Southwest), the Company, Ace
Novelty Co., Inc., Newco Novelty, Inc., and Friends, Food & Games,
Inc. (filed as Exhibit 10.17 to Form 10-K for the fiscal year ended
July 31, 1999), incorporated herein by reference.
10.18 Amendment No. 1 to Loan and Security Agreement dated March 20, 2000
by and among Congress Financial Corporation (Southwest), the
Company, Ace Novelty Co., Inc., Newco Novelty, Inc., and Friends,
Food & Games, Inc. (filed as Exhibit 10.18 to Form 10-Q for the
quarter ended April 30, 2000, and incorporated herein by
reference).
10.19 Amendment No. 2 to Loan and Security Agreement dated May 31, 2000
by and among Congress Financial Corporation (Southwest), the
Company, Ace Novelty Co., Inc., Newco Novelty, Inc., and Friends,
Food & Games, Inc. (filed as Exhibit 10.19 to Form 10-Q for the
quarter ended April 30, 2000, and incorporated herein by
reference).
10.20+ License Agreement dated July 26, 2000 by and between Warner Bros.,
a division of Time Warner Entertainment, L.P. and the Registrant .
10.21 Employment agreement dated October 4, 1999, between the Company and
Richard R. Neitz.
10.22+*Amendment dated November 10, 2000 to License Agreement dated January
1, 1998 by and between Warner Bros., a division of Time Warner
Entertainment, L.P. and the Registrant.
10.23+*Amendment dated November 10, 2000 to License Agreement dated
September 10, 1997 by and between Warner Bros., a division of Time
Warner Entertainment, L.P. and the Registrant.
10.24+*Amendment dated November 10, 2000 to License Agreement dated January
1, 1998 by and between Warner Bros., a division of Time Warner
Entertainment, L.P. and the Registrant.
10.25+*Amendment dated November 10, 2000 to License Agreement dated January
26, 1999 by and between Warner Bros., a division of Time Warner
Entertainment, L.P. and the Registrant.
10.26* Amendment No. 3 to Loan and Security Agreement dated November 10,
2000 by and among Congress Financial Corporation (Southwest), the
Company, Ace Novelty Co., Inc., Newco Novelty, Inc., and Friends,
Food & Games, Inc.
30
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (CONTINUED)
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
------- ---------------------------
10.27* Second Amendment to Convertible Loan Agreement made as of December
29, 2000, by and among the Company, Renaissance Capital Group,
Inc., and the Convertible Lenders party to the original
Convertible Loan Agreement.
10.28* Third Amendment to Convertible Loan Agreement made as of January
12, 2001, by and among the Company, Renaissance Capital Group,
Inc., and the Convertible Lenders party to the original
Convertible Loan Agreement.
10.29* Fourth Amendment to Convertible Loan Agreement made as of January
26, 2001, by and among the Company, Renaissance Capital Group,
Inc., and the Convertible Lenders party to the original
Convertible Loan Agreement.
- --------------
* Included herewith
+ Confidential treatment has been requested with respect to a portion of this
Exhibit.
(B) REPORTS ON FORM 8-K
The Company filed a report on Form 8-K, date of event November 28, 2000,
regarding the appointment of Richard R. Neitz as President and Chief Operating
Officer. The Company also filed a report on Form 8-K, date of event December 1,
2000, regarding the resignation of Manuel Fernandez Barroso from his position as
a Director of the Company.
31
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, this 16th day of March 2001.
PLAY BY PLAY TOYS & NOVELTIES, INC.
By: /s/ JOE M. GUERRA
Joe M. Guerra
CHIEF FINANCIAL OFFICER AND TREASURER
32