UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED) FOR THE TRANSITION PERIOD FROM
__________ TO __________.
COMMISSION FILE NUMBER 000-24021
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CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
NEW JERSEY 22-3561164
(STATE OR OTHER JURISDICTION (IRS EMPLOYER IDENTIFICATION NO.)
OF INCORPORATION OR ORGANIZATION)
629 GROVE STREET 07310
JERSEY CITY, NEW JERSEY (ZIP CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(201) 217-1990
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Securities registered pursuant to Section 12(b) of the Act:
NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, NO PAR VALUE PER SHARE
(TITLE OF CLASS)
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[_].
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of the voting stock held by nonaffiliates of the
registrant as of December 31, 1998:
COMMON STOCK, NO PAR VALUE -- $41,871,513
The number of shares outstanding of the issuer's common stock as of
December 31, 1998:
COMMON STOCK, NO PAR VALUE - 5,305,000
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Proxy Statement for the Annual Shareholders
Meeting to be held on or about May 11, 1999 to be filed with the Securities and
Exchange Commission pursuant to Regulation 14A under the Securities Exchange Act
of 1934, as amended, are incorporated by reference into Part III of this Report.
Such Proxy Statement, except for the parts therein which have been specifically
incorporated by reference, shall not be deemed "filed" for the purposes of this
report on Form 10-K.
TABLE OF CONTENTS
ITEM DESCRIPTION PAGE
- --------------------------------------------------------------------------------
PART I
1. Business 3
2. Properties 14
3. Legal Proceedings 14
4. Submission of Matters to a Vote of Security Holders 14
PART II
5. Market for Registrant's Common Equity and Related Stockholder
Matters 15
6. Selected Consolidated Financial Data 16
7. Management's Discussion and Analysis of Financial Condition 17
7A Quantitative and Qualitative Disclosures about Market Risk 24
8. Financial Statements and Supplementary Data 24
9. Changes in and Disagreements with Accountants on Accounting 25
PART III
10. Directors and Executive Officers of the Registrant 25
11. Executive Compensation 25
12. Security Ownership of Certain Beneficial Owners and Management 25
13. Certain Relationships and Related Transactions 25
PART IV
14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 25
2
PART I
ITEM 1. BUSINESS
GENERAL
Cunningham Graphics International, Inc., a New Jersey corporation, (the
"Company") provides a wide range of graphic communications services to financial
institutions and corporations, focusing on printing and distributing
time-sensitive analytical research and marketing materials and on providing
on-demand printing services. The Company operates in select international
markets through its facilities in the United States, the United Kingdom, Hong
Kong and Singapore. The Company is a major producer of financial research
reports and provides services, on a non-exclusive basis, to a variety of major
international investment banking firms.
The Company's executive offices are located at 629 Grove Street, Jersey
City, New Jersey 07310 and its telephone number is (201) 217-1990.
Recently, the Company has expanded significantly from its original base of
operations in metropolitan New York. The Company commenced operations in London
in April 1998 through the acquisition of Roda Limited ("Roda"), in Hong Kong and
Singapore in January 1999 through the acquisition of Workable Company Limited
("Workable") and in Boston, Massachusetts in February 1999 through the
acquisition of the business of Boston Towne Press, Inc. ("Boston Towne Press").
Graphic communications services provided by the Company include digital
communications, document management, offset printing, digital printing, data
output, bindery, fulfillment services, mailing services and outsource services.
The Company prints brochures, booklets, confirmations of trade, client
statements and adhesive books to meet the daily, weekly and monthly needs of its
customers. To facilitate the rapid distribution of documents globally, the
Company has designed and implemented the World Research Link(TM), an array of
electronic data communication networks linking each of the Company's facilities
with its major customers. To date, the Company has established extensive
non-exclusive client relationships with leading companies in the financial
services, insurance and publishing industries, providing certain of the printing
and graphic communication needs of Credit Suisse First Boston Corporation,
Deutsche Morgan Grenfell, Goldman, Sachs & Co., Lehman Brothers Inc., Merrill
Lynch & Co., Inc., The Prudential Insurance Company of America, Empire Blue
Cross/Blue Shield, New York Life Insurance Company, and The McGraw-Hill Company,
among others.
On April 22, 1998 Cunningham Graphics, Inc. (the "Predecessor"), the
predecessor to the Company, reorganized (the "Reorganization") such that all the
stockholders of the Predecessor contributed all of the outstanding shares of
common stock of the Predecessor to Company, in exchange for a total of 2,595,260
shares of common stock, no par value of the Company (the "Common Stock") and
promissory notes (the "Exchange Notes") in the aggregate principal amount of
$2.6 million. In the Reorganization, the Company also assumed the Predecessor's
obligations under promissory notes in the aggregate principal amount of $2.2
million, representing undistributed S corporation taxable income (the
"Distribution Notes"). Collectively the Exchange Notes and Distribution Notes
are known as the "Reorganization Notes." Concurrently with the Reorganization,
the Company sold 2,530,000 shares of Common Stock in an initial public offering
(the "Offering"). The Company used a portion of the proceeds of the Offering to
repay the Reorganization Notes.
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INDUSTRY BACKGROUND
The printing and document management industry has evolved significantly
over the last several years driven in large part by rapid advances in publishing
and electronic information technology. The Company believes that the growth of
the printing and document production industry has been due to various factors,
including (i) the increasing volume, complexity and variety of documents and
printed materials produced by businesses worldwide, (ii) the increasing demand
by businesses for the international dissemination of time-sensitive information,
and (iii) the growing trend of businesses to outsource their in-house printing
operations (e.g., print shops, copy centers and document management facilities)
to document professionals equipped to provide these services more efficiently
and cost-effectively.
BUSINESS STRATEGY
The Company believes that the fragmented nature of the graphic
communications industry and the limited capital resources available to many
small, private operators provide the Company with significant opportunities to
expand its base of operations. The Company intends to continue its growth
strategy by (i) pursuing acquisitions and establishing strategic alliances to
expand and strengthen the Company's business reach in target markets worldwide,
(ii) pursuing outsourcing opportunities through the assimilation of in-house
printing operations of third-party businesses, (iii) expanding the scope and
volume of services offered, (iv) actively cross-selling existing or newly-added
products or services to its customers worldwide, and (v) improving the operating
efficiency of its existing operations.
Pursue Acquisitions and Establish Strategic Alliances.
The Company will seek to acquire complementary operations throughout the
United States, United Kingdom and other international markets, which, the
Company believes, possess attractive characteristics, including concentrations
of prospective customers with significant printing needs, such as financial
institutions. The Company intends to target acquisition candidates with (i)
annual net sales ranging from $3.0 to $25.0 million; (ii) attractive growth
prospects within their respective markets; (iii) complementary technological
capabilities; (iv) opportunities for economies of scale and synergies with the
Company; (v) a solid reputation with established customer relationships; and
(vi) an experienced management team. The Company will also seek to make
"tuck-in" acquisitions as a means to expand its existing operations, add product
lines and services as well as expand its customer base.
The Company will also seek to establish new alliances with strategic
partners in targeted geographic markets. This incremental approach to growth
enables the Company to expand the scope of its operations without the need for
substantial capital investments while mitigating the risks associated with
start-up facilities in new markets. In addition, the Company believes that such
relationships foster significant cross-selling opportunities across each
partners' respective customer bases. The Company believes that such alliances
also provide for future acquisition opportunities. Pursuant to this strategy,
the Company initially established alliances with Roda in London and a Workable
in Hong Kong, both of which were subsequently purchased, thereby solidifying the
Company's presence in the United Kingdom, European and Asian printing markets.
Expand Provision of Outsourcing Services
To date, the Company has grown, in part, through the assimilation of
certain in-house printing operations of third-party businesses, including the
print shop and data output center of Goldman, Sachs & Co. and the print shops of
Empire Blue Cross/Blue Shield, The McGraw-Hill Company and Schroder & Co. Inc.
The Company believes that it is a cost effective and an efficient provider of a
wide range of in-house printing services. The Company typically provides
outsourcing services by assuming all or part of the document output and
distribution responsibilities previously performed by a customer's in-house
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operations. In some instances, the Company may take over the management of a
customer's in-house operations.
Expand the Scope and Volume of Services Offered.
The Company intends to continue to expand the scope and volume of services
provided to its customers through the addition of complementary products and
services. The Company also continually evaluates opportunities to add new
equipment to its existing facilities or enhance its current technology in order
to satisfy the evolving needs of its customer base. In addition, the Company
regularly evaluates opportunities to add capacity to its existing operations to
meet any anticipated increase in demand of its larger customers.
Capitalize on Cross-Selling Opportunities
The Company also intends actively to cross-sell existing and newly-added
products or services to its customers worldwide. By taking advantage of the wide
range of products and services offered through its facilities in international
geographic markets, the Company believes that it can better serve the needs of
international customers by offering a "one-stop shopping" approach to satisfying
international printing needs. In addition, the Company also believes that it can
cultivate new customer relationships as a result of introductions made by its
international operations whose respective customers may require printing output
in the United States or other markets served by the Company. The Company
believes that its ability to cross-sell the products and services of its
international operations provides it with a distinct competitive advantage.
Improve Efficiency of its Existing Operations
Central to the Company's business strategy is to improve the profitability
of its operations by maximizing the efficiency of its existing facilities while
actively managing its operating and administrative costs. The Company believes
that significant economies of scale may be achieved by taking advantage of its
underutilized daytime production capacity through the increase of
non-time-sensitive business. A significant portion of the Company's
time-sensitive business is currently processed overnight, resulting in available
daytime capacity. The Company also expects to achieve significant economies of
scale in conjunction with its acquisition strategy. In this regard, the Company
expects to (i) consolidate duplicative functions or facilities of newly-acquired
businesses; (ii) leverage its purchasing power with its suppliers and employee
benefit providers; and (iii) use its communication network to improve the
coordination of production, maximize equipment utilization and enhance delivery.
Graphic Communications Services
Time-Sensitive Services
The Company's primary business focuses on the production of time-sensitive
documents for major financial institutions and corporations. The Company offers
a wide range of time-sensitive services including the printing, assembly and
dissemination of folders, booklets and adhesive books on a daily, weekly and
monthly basis. The Company also prints prospectuses, annual and semi-annual
reports for mutual fund customers.
Typically, the Company converts electronic data received from its customers
on a daily basis into tailored analytical research reports which are printed and
delivered to the Company's customers prior to the start of the next business
day. The Company's production processes include digital communications, offset
and digital printing, multiple binding procedures, branch fulfillment, list
maintenance and prompt distribution. The Company's technological capabilities
enable it to produce colorful, attractive products. In addition, the Company's
World Research Link(TM) network enables the Company to print and distribute
5
these documents, in conjunction with its international operations,
contemporaneously in several international locations.
The demand for printed research and other time-sensitive reports has
continued to grow despite continuing developments in electronic data
transmission, such as the Internet, which provide customers with alternative
methods of transmitting time-sensitive information. The Company expects that the
demand for time-sensitive printed documents will continue to grow due to (i) the
increasing globalization of its customers, particularly financial institutions,
(ii) the growth and expansion of international capital markets and (iii) the
increasing volume, complexity and variety of document and printed materials. The
Company believes that printed research reports not only serve as information
tools, but serve as marketing tools as well. As such, the Company believes that
customers will continue to demand high quality and colorful research reports as
they seek to distinguish themselves in their own competition for clients.
Outsourcing Services
The Company typically provides outsourcing services by assuming all or part
of the document output and distribution responsibilities previously performed by
a third party's in-house operations. This service often enables such third party
to focus on its core business and to close all or portions of its in-house print
shop and/or document management and copy centers and permits the Company to
operate and perform all services on a remote basis. Such third party can also
achieve significant cost savings on the cost of technology, material and
services such as paper and shipping by taking advantage of the bulk purchase
arrangements which the Company has with its suppliers. Thereafter, the third
party may transmit computer-generated data to one of the Company's production
and printing facilities, which then processes, produces and distributes all of
the reports, statements and other computer-output documents on an as needed
basis. The Company believes that it can operate print shop, document management
and copy center functions more efficiently and cost effectively than can a
non-graphic communications company.
The Company has an established track record of assimilating into its
existing operations the assets and workforce of third party in-house print
operations, including its assimilation of the print shop and data output center
of Goldman, Sachs & Co. and the print shops of Empire Blue Cross/Blue Shield,
The McGraw-Hill Company and Schroder & Co., Inc. In each of the foregoing
transactions, the Company acquired selected equipment and inventory on favorable
terms and retained a majority of the employees.
Data Output Services
The Company provides a variety of data output services, including the
production of trade confirmations and brokerage and investment account
statements for a major financial institution. In addition, the Company provides
certain database management services to its customers, including the ability to
output data files of addresses directly onto envelopes or other printed
material, insert flyers and other materials into mailings as well as to offer
presorting of first class mail with bulk postal drop services.
Commercial Printing
The Company produces a broad range of commercial printing products that
include catalogs, directories, brochures, booklets, folders, newsletters,
flyers, sales and marketing kits and manuals. The type of printing varies from
simple one-color documents to complex multi-color documents on a wide range of
paper stocks. The Company's customers for commercial printing products include
its financial institution clients, insurance companies, healthcare and
pharmaceutical companies and trade associations. The Company also provides
"overflow" printing for a number of in-house print operations of investment
banking firms. Given the non-time-sensitive nature of many of these projects,
the Company typically produces these products during non-critical daytime hours.
The Company expects to continue to increase the volume of daytime commercial
printing to take advantage of its available non-time-sensitive production
capacity.
6
Printing Operations
The Company provides a broad range of graphic communications services for a
wide variety of commercial purposes. These services commence with the intake of
data, and continue through the prepress and press processes, binding, and
conclude with fulfillment and distribution. The Company continuously reviews its
printing equipment needs and evaluates advances in computer hardware, software
and peripheral equipment, computer networking and telecommunications systems as
they relate to the Company's operations.
Telecommunications and Order Entry
The Company's capital investment in state-of-the-art telecommunications and
customer on-line ordering systems allows the Company to offer its services
internationally and throughout its customers' organizational network. In lieu of
manual delivery of customer data files or artwork, the Company's
telecommunications capabilities allow it to receive direct transmission of
files, saving both time and expense while increasing quality of the work
produced.
Customers have many alternatives for sending electronic files to the
Company. Using a modem, customers can contact the Company's private and secure
electronic bulletin board, log-in and transmit or access data files. For
customers with advanced telecommunications requirements, the Company offers ISDN
line communication capability. For some of the Company's most significant
customers, specialized equipment, such as fractional T1 lines have been
installed. Customers having Internet access may use available File Transfer
Protocol ("FTP") and World Wide Web applications to send and receive data in a
secure manner. Secure router-based connections through proxy servers allow the
Company to control traffic and direct files containing the text and graphics of
research reports, marketing materials, mailing lists, order entry, job tickets
and work orders, internationally through the World Research Link(TM). In
addition, the Company has developed a customized order entry system. This system
links the customer with the Company and can be accessed by customers through
desktop computers, thereby permitting customers to create an order while
submitting digital files.
Prepress Operations
At each of its facilities, the Company operates a prepress department that
prepares customer-supplied text, data, artwork and images for document
production. Using computerized prepress equipment, the Company processes digital
files, scanned images and graphics into "composed electronic files." These
electronic files are used with a variety of output options, including digital
printing, conventional offset printing or for electronic publishing, such as on
the Internet. In addition, the Company can distribute composed electronic files
that include text and graphics in various formats through the World Research
Link(TM) to other facilities for document production.
The Company believes that enhanced digital printing technology will further
facilitate multi-purpose uses by its customers of the same electronic files.
Digital printing technology will augment the Company's ability to return to the
customer a printed document plus a reformatted document which can then be used
on multiple media platforms including the Internet, the customer's intranet,
multiple on-line information services and broadcast faxing.
Press Operations
The Company operates twenty-five presses in the New York metropolitan area,
nine of which are web presses and sixteen of which are sheet-fed presses. In
Boston, the Company operates three presses, all of which are sheet-fed. In
Singapore, Hong Kong and London the Company operates one, four and fourteen
presses, respectively, all of which are sheet-fed presses. The Company's presses
vary in size and speed and can produce printed materials that range in page
size, type of paper, number of pages and the amount of color required.
7
The Company currently has five digital presses located in the New York
metropolitan area, two digital presses located in Hong Kong and intends to add
digital press capability in London. Two of the Company's digital presses in the
New York metropolitan area have in-line binding attachments which allow for the
production of finished booklets. These presses are linked directly to the
Company's computerized network and are currently being utilized for the
production of research reports, personalized health care documents,
confirmations of trade, client statements and general print products. The
Company has developed the ability to provide digital printing services as a
complement to offset printing. For smaller runs, digital printing is more
efficient and reliable than printing on traditional presses and often results in
a product of higher quality and better resolution. Digital printing involves the
integration of a variety of systems that compile data, scan images, and compose
data and images. Through high-speed computers, data may be received directly
from customers and put directly on the press, eliminating the costly
intermediate steps involved in the traditional printing process.
Binding Services
At each facility, the Company operates a bindery department which provide
various finishing services. The Company's finishing services include cutting and
folding, saddle stitching, punching, collation and inserting, and at the Jersey
City facility, perfect binding and shrink-wrapping. By offering a variety of
finishing services, the Company can offer its clients expeditious service as
well as a wide range of finishing service options.
Fulfillment Services
At each facility, the Company also operates a fulfillment department. Many
of the documents prepared for customers need to be stored for future
distribution, both electronically and physically. The Company's fulfillment
department stores materials and assembles orders for distribution upon customer
request. Printed components are assembled into kits and are packed individually,
or in bulk, for delivery. Upon completion of the order, the fulfillment system
relieves the distribution from the customer's inventory and generates an
activity report for inventory control. For those customers who require mail
distribution, the Company operates a mailing department in each location. Using
inkjet and cheshire labeling machines, electronic mailing lists are addressed on
envelopes. Documents are inserted into envelopes, sealed and sorted for mail.
Management Information System
The Company's personnel utilize a comprehensive and integrated management
information system which gathers data from all departments and provides
management with job status and historical information. The system is divided
into several fully integrated modules consisting of estimating, production,
purchasing, inventory and accounting modules. This system gives management the
ability to monitor all work orders and department costs against budgets and
profit goals. Using this system, management can also track the status of a
particular work order as it moves through the production process. The system
permits the Company to (i) determine the most efficient and cost-effective means
of completing particular work orders, (ii) give customers pricing estimates
quickly, (iii) measure pressroom efficiency and waste, (iv) analyze buying
patterns, pricing and usage for inventory control purposes and (v) produce
customized financial statements, reports and analyses.
International Network
In 1994, the Company, in conjunction with its then strategic partners in
London and Hong Kong, developed an international network known as the World
Research Link(TM) designed to facilitate the expeditious distribution of
time-sensitive financial research reports throughout select international
financial markets, 24 hours a day. Presently, through the use of high-speed
electronic links among the Company's
8
facilities in the United States, London, Hong Kong and Singapore, the Company is
able to print research reports concurrently throughout these four principal
international financial markets.
The Company intends to continue to expand its World Research Link(TM)
through the establishment of new strategic alliances in Europe, South America
and Asia. The Company's international relationships have offered cross-selling
opportunities and the Company intends to develop new joint marketing alliances
as a means for the Company and its strategic partners to each derive business
from their respective customers' operations in various international markets.
SALES AND MARKETING
The Company's marketing activities are handled primarily through its own
sales force consisting of fifteen individuals. The Company's sales
representatives are generally organized among customer industry groups, such as
financial services, healthcare and insurance and by specific printing and
document output services, such as research reports and on-demand mutual fund
reports and commercial printing. In addition, the Company employs customer
service representatives to provide on-going support to existing customers and to
oversee the implementation of new customer projects.
The Company currently has approximately 350 customers in the United States,
20 customers in London, 45 customers in Hong Kong and Singapore and 130
customers in Boston, including financial institutions, healthcare companies,
trade organizations and retail and manufacturing firms. The Company's three
largest customers, Goldman, Sachs & Co., Credit Suisse First Boston Corporation,
and Lehman Brothers accounted for approximately 24%, 15%, and 10%, respectively,
of the Company's net sales on a pro forma basis for the year ended December 31,
1998. See Note 15 to the Company's Consolidated Financial Statements for
financial information about domestic and foreign sales and income.
The Company intends to add sales representatives and customer support staff
to further increase its customer base in additional markets and to augment its
volume of non-financial commercial printing.
COMPETITION
The commercial printing and document production industry is highly
competitive. The Company competes with a variety of companies, many of which
possess significantly greater financial and other resources than the Company. In
the New York and Boston markets, the Company competes with Bowne & Co., R.R.
Donnelly, Xerox Business Services, Big Flower Press Holdings, Inc. and Merrill
Corporation, and numerous smaller operations, in the printing of time-sensitive
documents. A major competitor in the London market is Williams Lea Ltd. (a
strategic partner of Bowne & Co.). In the Hong Kong market, the Company competes
with M. Graphics, Speedflex, XPRESS Printing and CIS.
The Company believes that the principal competitive factors in providing
printing and document output services include technological expertise, quality
and accuracy, turnaround time, fulfillment, price, reliability, security of
service, reputation, client industry expertise, capacity and personalized
customer support and service. No assurances can be given that the Company will
be able to compete effectively against the larger companies in the printing
industry.
EMPLOYEES
As of December 31, 1998, the Company had approximately 491 employees (400
employed in the United States and 91 employed in the United Kingdom). As of such
date, 282 United States -based employees were members of the Paper Allied
Industrial Chemical and Energy Workers International Union, with which the
Company has a contract which expires on June 30, 2000. As of December 31, 1998,
60 United Kingdom-based employees were members of the National Graphical
Association labor union. At the time of the acquisition of Workable in Asia in
January 1999, there were 112 and 13 employees in Hong Kong and Singapore,
respectively. At the time of the acquisition of Boston Towne Press in February
9
1999, there were 35 employees. The Company believes that it is in compliance
with its labor agreements and that its labor relations are good.
GOVERNMENT REGULATION AND ENVIRONMENTAL MATTERS
The Company is subject to the environmental laws and regulations of the
United States, the foreign jurisdictions in which the Company maintains
facilities, and the applicable state and local laws and regulations concerning
air emissions, discharges into waterways and the generation, handling and
disposal of wastes. The printing business generates substantial quantities of
inks, solvents and other waste materials requiring disposal. The Company
typically recycles waste paper and contracts for the removal of other waste
materials. The Company believes that it is in material compliance with all
applicable environmental laws and regulations, as well as other applicable
employee health and safety laws and regulations. The Company does not anticipate
the need for significant capital expenditures for environmental control
facilities during the current fiscal year or in the next fiscal year.
RISK FACTORS
Reliance on Limited Number of Customers
The Company's five largest customers accounted for approximately 53% of its
net sales on a pro forma basis for the year ended December 31, 1998. The
Company's largest customer, Goldman, Sachs & Co. accounted for approximately 24%
of the Company's net sales on a pro forma basis during 1998. The Company and
Goldman, Sachs & Co. have entered into an agreement which provides that the
Company will supply certain print-related products and services through December
30, 1999. Although the Company has had long-term relationships with Goldman,
Sachs & Co. and its other significant customers, the Company's customers
generally may terminate their relationships with the Company upon minimal, if
any, advance notice and there can be no assurance that these relationships will
continue. The termination of the relationships with any one or more significant
customers could have a material adverse effect on the Company's business,
financial condition and results of operations. In addition, there has been a
trend toward consolidation in the financial services industry and a merger or
acquisition involving any of the Company's principal customers resulting in the
termination of such a relationship could have a material adverse effect on the
Company.
Dependence on Financial Services Industry
To date, the Company has focused the marketing of its services primarily on
companies within the financial services industry and the Company expects to
continue this focus. As a result, the Company's results of operations will be
particularly sensitive to fluctuations in the economy or financial markets
affecting this industry. Any event adversely affecting the financial services
industry could adversely affect the Company. The Company's success in increasing
its revenues will also depend, in part, on its ability to attract new business
from customers outside the financial services industry. No assurance can be
given that the Company will be successful in attracting new customers in
different industries.
Risks Related to the Company's Expansion Strategy
The Company intends to seek to expand its operations through the
acquisition of additional businesses which provide commercial, digital and
time-sensitive printing services and through the expansion of its outsourcing
business by assimilating additional customers' document management operations.
There can be no assurance that the Company will be able to identify,
successfully integrate or profitably manage any such businesses or operations.
The proposed expansion may involve a number of special risks, including possible
adverse effects on the Company's operating results, diversion of management's
attention, inability to retain key personnel, risks associated with
unanticipated events and the financial statement effect of potential impairment
of acquired intangible assets, any of which could have a material adverse effect
on the Company's business, financial condition and results of operations. In
10
addition, if competition for acquisition candidates or assumed operations were
to increase, the cost of acquiring businesses or assuming customers' operations
could increase materially. The inability of the Company to implement and manage
its expansion strategy successfully may have a material adverse effect on the
business and future prospects of the Company.
Management of Growth
The Company continues to experience significant growth, which has placed,
and could continue to place, a strain on the Company's managerial and other
resources. From December 1995 through February 1999, the number of the Company's
employees increased from 186 to 651 and further increases are anticipated during
1999. The Company's future performance and profitability will depend, in large
part, on its ability to manage its growth, particularly with respect to a
workforce that is geographically dispersed, while continuing to integrate the
operations of additional companies and to expand its current business. In order
to manage growth successfully, the Company will be required to continue to
improve its operational, financial and other internal systems and the training,
motivation and management of its employees. If the Company is unable to manage
growth effectively, the Company's business, financial condition and results of
operations could be materially adversely affected.
Need for Additional Financing
The Company will need additional funds to implement its acquisition and
internal growth strategies. If the Company does not have sufficient cash
resources, its growth could be limited unless it is able to obtain additional
capital through additional debt or equity financings. Moreover, the Company may
seek to use its Common Stock for all or a portion of the consideration to be
paid in future acquisitions, the issuance of which may result in dilution to
existing investors. The extent to which the Company will be able or willing to
use its Common Stock for this purpose will depend on its market value from time
to time and the willingness of potential acquisition candidates to accept Common
Stock as part of the consideration for the sale of their businesses. If the
Company is unable to use its Common Stock to make future acquisitions, the
Company may be required to use more of its cash resources, if available, to
initiate and maintain its acquisition program. There can be no assurance that
the Company will be able to obtain additional financing as needed. As a result,
the Company might be unable to implement its acquisition strategy, which would
have a material adverse effect on the future prospects of the Company.
Risk of International Operations
On a pro forma, basis after giving effect to the acquisition of Roda in
London, sales to customers outside the United States would have accounted for
13% of the Company's net sales in the year ended December 31, 1998. The Company
anticipates that foreign sales will account for a significant portion of net
sales in the foreseeable future. Risks inherent in the Company's international
business activities include the fluctuation of currency exchange rates, various
and changing regulatory requirements, increased sales and marketing expenses,
political and economic instability, difficulty in staffing and managing foreign
operations, potentially adverse taxes, complex foreign laws and treaties and the
possibility of difficulty in accounts receivable collections. There can be no
assurance that any of these factors will not have a material adverse effect on
the Company's business, financial condition and results of operations.
Dependence on Technology; Risk of Technological Obsolescence
The success of the Company will be highly dependent on its ability to
acquire and utilize competitive computer output and document production
technologies that are not readily available on a cost-effective basis to the
Company's existing and potential customers, thereby creating the incentive for
such customers to outsource various services to the Company. Increasing use of
the Internet and other electronic means of delivering information which has
traditionally been delivered in paper form could substantially erode the
Company's core business of printing financial research reports. There can be no
11
assurance that one or more non-paper-based technologies (whether now existing or
developed in the future) will not reduce or supplant the physical delivery of
documents as a preferred medium for the Company's customers, which could in turn
adversely affect the Company's business. The emergence of services by
competitors of the Company incorporating new technologies could render some or
all of the Company's services unmarketable or obsolete. There can be no
assurance that the Company will be able to obtain the rights to use any such new
technologies, that it will be able to implement effectively such new
technologies on a cost-effective basis or that new technologies will not render
noncompetitive or obsolete the Company's role as a provider of computer output
and document management services. In addition, in order to maintain
state-of-the-art technologies, the Company will have to make significant capital
expenditures, which will require the Company to obtain additional financing.
There can be no assurance that the Company will be able to obtain such
additional financing.
Variability of Quarterly Results
The Company's quarterly operating results have been and will continue to be
subject to variation, depending upon factors such as the mix of business among
the Company's services, the cost of materials, labor and technology,
particularly in connection with the delivery of business services, the costs
associated with initiating new outsourcing contracts, the economic condition of
the Company's target markets, seasonal concerns and the costs of acquiring and
integrating new businesses. Although most of the Company's long-term contracts
for the provision of business services provide for pricing adjustments to
reflect the actual costs of materials incurred by the Company, these adjustments
typically occur on a quarterly and annual basis and therefore may add to
fluctuations in quarterly and annual operating results of the Company.
Risk of Business Interruptions and Dependence on Single Facilities for Certain
Services
The Company's business is particularly sensitive to meeting deadlines and
performing services for numerous clients on an overnight basis. The Company's
operations at each of its locations are dependent on the availability of
continuous computer, electrical and telephone service. As a result, any
disruption of day-to-day operations could have a material adverse effect upon
the Company. While the Company has, and intends to develop additional,
reciprocal relationships with major printing and document production companies
in locations elsewhere in the United States and near London and Hong Kong for
back-up facilities in the event of emergencies, there can be no assurance that
the loss or disruption of any services affecting one or more of the Company's
facilities would not disable the Company's operations at such facilities, at
least temporarily. Any interruption in its ability to provide services, however
brief, could result in the Company being unable to satisfy the needs of clients
and could adversely affect the Company's business and its reputation within the
industry.
Fluctuations in the Price and Availability of Supplies
Prices for paper and other raw materials used by the Company may increase
from time to time in the future. Any significant increases in the prices of
these materials that cannot be passed on to customers could have a material
adverse effect on the Company's business, financial condition and results of
operations. In addition, increases in the prices of supplies and other materials
might cause some of the Company's customers to utilize alternative technologies
in their respective businesses that do not involve the use of paper or the mail,
such as the Internet. Although the Company purchases raw materials from a varied
group of suppliers, it is dependent upon a stable availability of paper and
other supplies to continue its operations. Should shortages develop either for
any of the Company's suppliers or generally within the industry, the Company
would be unable to produce printed materials on a consistent basis and its
business would be materially adversely affected.
12
Reliance on Senior Management
The Company's operations will continue to be dependent on the continued
services of its executive officers, including the senior management of its
foreign subsidiaries and additional senior management personnel which the
Company intends to employ. Furthermore, the Company will likely be dependent on
the senior management of any companies that may be acquired in the future. The
Company has employment agreements with each of its senior executive officers at
each operating subsidiary. However, if any of these individuals elect not to
continue in their roles with the Company, or if the Company is unable to attract
and retain senior management, the Company's business could be adversely
affected.
Need to Attract and Retain Key Personnel in Highly Competitive Marketplace;
Labor Delays
The Company's performance will depend, to a large extent, on the continued
service of key technical employees and its ability to attract, retain and
motivate such personnel. Competition for such personnel is intense, particularly
for highly skilled and experienced technical personnel who perform the Company's
information technology services. Such technical personnel are in great demand
and are likely to remain a limited resource for the foreseeable future. There
can be no assurance that the Company will be able to attract, retain and
motivate such personnel in the future, and the inability to do so could have a
material adverse effect upon the Company's business, financial condition and
results of operations. In addition, a strike or other labor-related delay or
stoppage could have a material adverse effect upon the Company's business,
operations and financial condition.
Control by Certain Stockholders
The directors and other executive officers of the Company, and entities
affiliated with them, beneficially own approximately 47% of the outstanding
shares of Common Stock. Accordingly, present management of the Company is likely
to continue to exercise substantial control over the Company's affairs. These
stockholders, acting together, would be able to elect a sufficient number of
directors to control the Company's Board of Directors and would be able to
approve or disapprove any matter submitted to a vote of stockholders. In
addition, because the Company has adopted a staggered Board of Directors,
stockholders will be less able to alter the composition of the Board of
Directors.
Effect of Certain Charter Provisions
The Board of Directors of the Company is empowered to issue common stock
and preferred stock without stockholder action. The existence of this
"blank-check" common stock and preferred stock could render more difficult or
discourage an attempt to obtain control of the Company by means of a tender
offer, merger, proxy contest or otherwise and may adversely affect the
prevailing market price of the Common Stock. The Company currently has no plans
to issue any such securities.
Dividend Policy
The Company expects to retain any earnings to finance the operations and
expansion of the Company's business. The terms of the Company's existing credit
facility may limit the amount of dividends the Company could pay before causing
a default. Moreover, any additional debt financing that the Company arranges in
the future is likely to restrict the payment of dividends. Therefore, the
payment of any cash dividends on the Common Stock is unlikely in the foreseeable
future.
13
ITEM 2. PROPERTIES
As of March 2, 1999, the Company's principal facilities consisted primarily
of printing facilities that contain production, storage and office space. With
the exception of the facilities in Hong Kong, all of the Company's facilities
are leased from unaffiliated third parties. The facilities in Hong Kong are
leased from the selling shareholders of Workable, the Company's Hong Kong
subsidiary, who continue to manage its day-to-day operations.
APPROXIMATE
LOCATION SQUARE FOOTAGE
- --------------------------------------------------------------------------------
Jersey City, New Jersey (629 Grove Street) 110,000
New York, New York (111 8th Avenue) 25,000
New York, New York (250 54th Street) 10,000
London, England 11,200
Chai Wan, Hong Kong 28,000
Singapore 1,000
Boston, Massachusetts (215 A Street) 22,000
On February 3, 1999, the Company purchased a 150,000 square foot facility
in Jersey City, New Jersey (the "Premises") for approximately $5.5 million. The
Company obtained a loan for $7.4 million through its existing bank to finance
the acquisition and make necessary improvements. The acquired building will
replace the current Jersey City and 8th Avenue New York City facilities. The
Company anticipates moving into the new building in the third quarter of 1999.
The lease for the midtown New York facility expires on December 31, 1999,
however, the lessor has agreed to allow the Company to terminate the lease on
July 1, 1999 without penalty. The lease for the Jersey City facility expires in
February 2000, however the Company believes that it will be able to terminate
the lease early without penalty because of the high demand for space by
potential lessees in the Jersey City area.
The Company also has contracted with the sellers of the Premises, for the
acquisition of an unimproved parcel of land adjacent to the Premises, for a
purchase price of $975,000. The closing of such transaction is contingent upon
the completion of certain environmental remediation to the satisfaction of the
Company and the New Jersey Department of Environmental Protection.
ITEM 3. LEGAL PROCEEDINGS
The Company is, from time to time, a party to legal proceedings arising in
the normal course of its business. The Company maintains insurance coverage
against potential claims in an amount which it believes to be adequate.
Management believes that none of the legal proceedings currently outstanding
will have a material adverse effect on the Company's business, financial
condition and results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
14
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
SHAREHOLDER MATTERS
(a) The Common Stock is traded on the Nasdaq Stock Market National Market
System ("Nasdaq NMS") (symbol: CGII). As of March 2, 1999 there were 40 holders
of record of the Common Stock and the Company estimates that there are
approximately 800 beneficial holders of the Common Stock. The following table
sets forth, for the periods indicated, the range of the high and low sales
prices for the Common Stock as reported by Nasdaq NMS:
High Low
-------- -------
April 22, 1998 - June 30, 1998 $ 21.75 $16.625
Quarter ended September 30, 1998 $ 20.50 $ 9.125
Quarter ended December 31, 1998 $ 17.75 $10.875
The Company currently intends to retain all future earnings to finance the
continuing development of its business and does not anticipate paying cash
dividends on the Common Stock in the foreseeable future. Any payment of future
dividends will be at the discretion of the Board of Directors and will depend
upon, among other things, the Company's earnings, financial condition, capital
requirements, level of indebtedness, contractual restrictions with respect to
the payment of dividends and other relevant factors. The terms of the Company's
existing credit facility may limit the amount of dividends the Company could pay
before causing a default.
(b) The Securities and Exchange Commission declared the Company's
Registration Statement on Form S-1 (File No. 333-46541) effective on April 21,
1998. The Company's Registration Statement on Form S-1 (File No. 333-50713),
filed pursuant to Rule 462(b) under the Securities Act of 1933, as amended,
became effective on April 22, 1998. Pursuant to the foregoing Registration
Statements, the Company's initial public offering (the "Offering") of Common
Stock, began on April 22, 1998. All of the 2,530,000 shares of Common Stock
offered by the Company, inclusive of 330,000 shares subject to an over-allotment
option, were sold on April 22 and 23, 1998. The managing underwriters for the
Offering were Schroder & Co. Inc. and Prudential Securities Incorporated.
The aggregate offering price of the securities sold was $32,890,000. The
Company incurred underwriting discounts and commissions of $2,302,300 and
reasonably estimates that it incurred $1,250,000 on account of Securities and
Exchange Commission registration fees, NASD filing fee, Nasdaq National Market
Fee, "Blue Sky" fees, legal and accounting fees, printing costs and transfer
agent fees. None of the expenses were incurred to directors, officers or persons
owning 10% or more of any class of the Company's securities.
The net proceeds of the Offering, after deducting expenses, was $29.3
million, which has been utilized through December 31, 1998 as follows:
Acquisition of Roda $ 6,100
Advance to Roda for repayment of indebtedness 1,429
Payment of indebtedness due to stockholders of the
Company prior to the offering 4,800
Payment of indebtedness to bank 2,200
Payment of trade creditors to take advantage of discounts 2,162
Equipment purchases 4,615
=======
Total $21,306
=======
15
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The summary of historical financial data presented below is derived from
the historical audited financial statements of the Company and the Predecessor.
The operations of the Roda acquisition has been included in the historical
income statement data of the Company from April 27, 1998, the date of
acquisition. The data presented below should be read in conjunction with the
Management's Discussion and Analysis of Financial Condition and Results of
Operations, the historical financial statements and the related notes thereto
included elsewhere herein.
Years Ended December 31,
---------------------------------------------------------
1994 1995 1996 1997 1998
--------- ---------- ---------- ---------- ---------
(in thousands, except share and per share data)
Statement of Income Data:
Net sales $ 15,927 $ 17,327 $ 23,193 $ 35,744 $ 53,146
Operating expenses:
Costs of production 12,085 12,860 17,616 26,894 37,694
Selling, general and administrative 3,151 3,441 4,270 5,794 7,783
Depreciation and amortization 448 498 563 694 1,252
-------- -------- -------- -------- --------
15,684 16,799 22,449 33,382 46,729
-------- -------- -------- -------- --------
Income from operations 243 528 744 2,362 6,417
Interest (expense) income (173) (257) (234) (250) 75
Other income - 2 48 35 5
-------- -------- -------- -------- --------
Income before income taxes 70 273 558 2,147 6,497
Provision for income taxes 7 6 56 129 2,489
-------- -------- -------- -------- --------
Net income $ 63 $ 267 $ 502 $ 2,018 $ 4,008
======== ======== ======== ======== ========
Pro Forma Data (unaudited):
Income before income taxes $ 6,497
Pro forma provision for income taxes 2,809
---------
Pro forma net income $ 3,688
=========
Pro forma earnings per share:
Basic $ 0.80
=========
Diluted $ 0.80
=========
Weighted average shares outstanding
Basic 4,587,941
=========
Diluted 4,637,024
=========
At December 31,
------------------------------------------------------
1994 1995 1996 1997 1998
------- -------- -------- -------- --------
Balance Sheet Data: (in thousands)
Cash and cash equivalents $ 144 $ 1 $ 543 $ 67 $ 2,179
Working capital 338 32 (867) 728 5,484
Total assets 5,680 5,568 9,471 10,938 43,589
Long-term debt and capitalized lease
obligations, net of current portion 1,414 1,151 1,300 1,517 1,985
Stockholders' equity 1,084 830 1,344 3,151 32,510
16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussions contain forward-looking information. Readers are
cautioned that such information involves risks and uncertainties, including
those created by general market conditions, competition and the possibility that
events may occur which limit the ability of the Company to maintain or improve
its operating results or execute its primary growth strategy of acquiring
additional printing businesses. Although the Company believes that the
assumptions underlying the forward-looking statements are reasonable, any of the
assumptions could be inaccurate, and there can therefore be no assurance that
the forward-looking statements included herein will prove to be accurate. The
inclusion of such information should not be regarded as a representation by the
Company or any other person that the objectives and plans of the Company will be
achieved.
Unless otherwise indicated or the context otherwise requires, all
references to the Company include the accounts and results of operations of the
Predecessor (defined below) for the period January 1, 1998 through April 22,
1998 and the consolidated results of the Company from April 23, 1998 through
December 31, 1998, including the results of operations of Roda Limited, the
Company's London-based subsidiary ("Roda") from April 27, 1998 through December
31, 1998. The references to December 31, 1997 and December 31, 1996 represent
the results of operations of the Predecessor for the years then ended.
GENERAL
The Company provides a wide range of graphic communications services to
financial institutions and corporations, focusing on producing and distributing
time-sensitive analytical research and marketing materials and providing
on-demand printing services. To date, the Company has experienced significant
domestic growth through the (i) expansion of its existing customer base, (ii)
addition of products and services, (iii) assimilation of in-house printing
operations, (iv) acquisition of selected assets and (v) establishment of
strategic alliances which, in the case of Roda and Workable Company Limited
("Workable"), the Company's subsidiary in Hong Kong, led to both companies being
acquired.
On April 22, 1998, Cunningham Graphics, Inc. (the "Predecessor")
reorganized (the "Reorganization") such that all the stockholders of the
Predecessor contributed all of the outstanding shares of common stock of the
Predecessor to the Company in exchange for a total of 2,595,260 shares of Common
Stock and promissory notes (the "Exchange Notes") in the aggregate principal
amount of $2.6 million. In the Reorganization, the Company also assumed the
Predecessor's obligations under promissory notes in the aggregate principal
amount of $2.2 million, representing undistributed S corporation taxable income
(the "Distribution Notes"). Collectively the Exchange Notes and Distribution
Notes are known as the "Reorganization Notes." Concurrently with the
Reorganization, the Company sold 2,530,000 shares of Common Stock in an initial
public offering (the "Offering"). The Company used a portion of the proceeds to
repay the Reorganization Notes.
On April 27, 1998, the Company closed the acquisition (the "Acquisition")
of the outstanding ordinary share capital of Roda for consideration consisting
of cash in the amount of $4.1 million and 169,739 shares of Common Stock, valued
at the Offering price of $13.00 per share. In addition on June 4, 1998, the
Company purchased the outstanding preference share capital of Roda for $1.8
million. The excess of the purchase price over the net assets acquired totaled
approximately $11.0 million and was recorded as goodwill. The goodwill is being
amortized over a 40-year period.
On January 13, 1999, the Company, through its wholly-owned subsidiary,
Cunningham Graphics International S.A., acquired all of the issued and
outstanding capital stock of Workable, a Hong Kong corporation. In addition, the
Company acquired from the Sellers the 60% of the outstanding capital stock
17
of Plainduty Limited, a Hong Kong corporation, which was not already held by
Workable. Workable also has a wholly owned subsidiary in Singapore.
The purchase price of the Workable acquisition was $13.1 million, which was
paid as follows: (i) the issuance of 398,216 shares of common stock, at a price
of $15.52 per share (the fair market value of the Company's Common Stock) and
(ii) a cash payment in the amount of $6.2 million. In addition, the Company
assumed $0.7 million of indebtedness. The Company utilized proceeds from its
initial public offering of Common Stock to fund the cash portion of the purchase
price. Pursuant to the purchase and sale agreement, the Company may be required
to pay to the sellers up to an additional $3.8 million, depending upon the
earnings of Workable during the years 1999, 2000 and 2001. The goodwill
generated from the transaction of approximately $8.8 million is being amortized
over 40 years.
On February 16, 1999, the Company acquired substantially all of the assets
and assumed certain liabilities of Boston Towne Press. The purchase price of
Boston Towne Press was $5.4 million, which was paid in cash. The Company
utilized available cash reserves and borrowed on its revolving line of credit to
fund the purchase price. Pursuant to the purchase and sale agreement, the
Company may be required to pay the seller up to an additional $700,000,
depending upon the earnings of Boston Towne Press during the years 1999 and
2000. The goodwill generated from the transaction of approximately $2.9 million
is being amortized over 40 years.
The Company's net sales are derived primarily from providing printing and
distribution services for customers in the financial services, insurance and
publishing industries, a substantial component of which is the printing and
distribution of financial and analytical research and marketing materials for
the financial services industry. The Company also derives part of its net sales
from providing fulfillment services, including labeling, mailing, inserting, kit
assembly, and inventory management for its customers. Finally the Company
provides computer and data output services and other document-related services
for customers.
The Company's operating expenses consist of the following: (i) costs of
production, (ii) selling, general and administrative expenses and (iii)
depreciation and amortization. Costs of production consist primarily of the cost
of paper and other production materials, labor, outside services, insurance and
other production expenses including repairs and maintenance and rent. Selling,
general and administrative expenses consist primarily of management,
administrative and marketing expenses, salaries for officers, salaries and
commissions earned by sales persons and professional fees.
18
Results of Operations
The following tables set forth certain items from the Company's Statements
of Income as a percentage of net sales for the periods indicated:
1996 1997 1998
----- ----- -----
Net Sales 100.0% 100.0% 100.0%
Costs of production 76.0 75.3 70.9
Selling, general and administrative 18.4 16.2 14.6
Depreciation and amortization 2.4 1.9 2.4
----- ----- -----
Income from operations 3.2 6.6 12.1
Interest income (expense) (1.0) (0.7) 0.1
Other income (expense) 0.2 0.1 0.0
----- ----- -----
Income before income taxes 2.4 6.0 12.2
Provision for income taxes 0.2 0.4 4.7
----- ----- -----
Net income 2.2% 5.6% 7.5%
===== ===== =====
Year ended December 31, 1998 compared to year ended December 31, 1997
Net sales. The Company reported net sales of $53.1 million for the year
ended December 31, 1998 compared to $35.7 million for 1997, an increase of $17.4
million or 48.7%. The increase was attributable to the inclusion of $7.1 million
of Roda's net sales in 1998, together with an increase of $10.3 million in net
sales from domestic operations. The domestic growth resulted primarily from the
increase in net sales with existing customers and the assimilation of certain
in-house printing operations of third-party businesses, including the print shop
and data output centers of The McGraw-Hill Company and Schroder & Co. Inc.
Costs of production. Costs of production were $37.7 million for the year
ended December 31, 1998, as compared to $26.9 million for 1997, an increase of
$10.8 million or 40.1%. Costs of production were approximately 71.0% of net
sales for the year ended December 31, 1998, compared to 75.3% for the same
period in 1997. The reduction of costs of production as a percentage of net
sales was attributable to the inclusion of Roda's lower percentage costs of
production in 1998 and certain improvements and benefits resulting from the
fixed nature of certain costs in the domestic operations.
Selling, general and administrative expenses. Selling, general and
administrative expenses were $7.8 million for the year ended December 31, 1998,
as compared to $5.8 million for 1997, an increase of $2.0 million or 34.5%. This
increase was a result of the inclusion of Roda's operations and an investment in
new marketing and management personnel in London and domestically. Selling,
general and administrative expenses were 14.6 % of net sales for the year ended
December 31, 1998 compared to 16.2% for 1997. The decrease in selling, general
and administrative expenses as a percentage of net sales reflects the benefits
resulting from the fixed nature of certain costs associated with the increase in
net sales domestically and from the Acquisition.
Depreciation and amortization. Depreciation and amortization expenses were
$1.3 million for the year ended December 31, 1998, as compared to $694,000 for
the same period in 1997, an increase of
19
$558,000, or 80.4%. The increase was the result of the inclusion of Roda's
depreciation expenses after the Acquisition, goodwill amortization associated
with the Acquisition and the purchase of new equipment.
Interest expense and interest income. Interest expense was $400,000 for
1998, as compared to $250,000 for 1997, an increase of $150,000 or 60%. Such
increase was largely attributable to higher levels of borrowings during 1998,
principally capital lease obligations. Interest expense reflects interest on
notes payable, capital lease obligations and on utilization of line of credits.
Interest income was $475,000 for 1998, as compared to $0 for 1997. Interest
income reflects interest on the unused portion of the cash proceeds from the
initial public offering.
Provision for income taxes. On April 22, 1998 the Company converted from an
S corporation to a C corporation for tax purposes (the "Conversion") in
conjunction with the Reorganization. For comparative purposes pro forma
provision for income taxes was calculated as if the Conversion had occurred on
January 1, 1997. The pro forma provision for income taxes was $2.8 million for
the year ended December 31, 1998, as compared to the pro forma provision for
income taxes of $880,000 for the same period in 1997. As a percentage of profits
before taxes the tax rates on a pro forma basis were 43.2% for the year ended
December 31, 1998 and 41.0% for the same period in 1997. The increase is the
result of the recording of $94,000 of deferred taxes as a result of the
conversion from an S corporation to a C corporation.
Net income. Net income was $4.0 million or $0.80 per share on a diluted
basis with 4,637,024 weighted average common shares outstanding for the year
ended December 31, 1998 compared to pro forma net income of $1.3 million for
1997.
Year ended December 31, 1997 compared to year ended December 31, 1996
Net sales. The Company reported net sales of $35.7 million for the year
ended December 31, 1997 compared to $23.2 million for the year ended December
31, 1996, an increase of $12.5 million or 54%. The majority of this increase was
attributable to an increase in business with existing customers, with the
balance attributable to the addition of new customers. In 1997, the Company had
four customers each of whom represented in excess of 10% of net sales, and
together represented an aggregate of 57% of net sales. In 1996, the Company had
three customers each of whom represented in excess of 10% of net sales, and
together represented an aggregate of 42% of net sales.
Costs of production. Costs of production were $26.9 million for 1997, as
compared to $17.6 million for 1996, an increase of $9.3 million or 53%. Costs of
production were approximately 75% of net sales for 1997, as compared to
approximately 76% of net sales for 1996. The decrease in costs of production as
a percentage of net sales was primarily a result of economies of scale resulting
from improved utilization of the Company's existing facilities.
Selling, general and administrative expenses. Selling, general and
administrative expenses increased to approximately $5.8 million for 1997 from
approximately $4.3 million for 1996, an increase of $1.5 million. The increase
was attributable to costs associated with the addition of personnel to support
future growth. As a percentage of net sales, selling, general and administrative
expenses decreased from approximately 18% for 1996 to approximately 16% for
1997, primarily reflecting greater economies of scale as the Company improved
the utilization of its existing facilities.
Depreciation and amortization. Depreciation and amortization expense was
$694,000 for 1997 as compared to $563,000 for 1996, an increase of $131,000 or
23%. The increase in depreciation and amortization expense was attributable to
the addition of equipment by the Company during 1997.
Interest expense. Interest expense was $250,000 for 1997, as compared to
$234,000 for 1996, an increase of $16,000 or 7%. Such increase was largely
attributable to higher levels of borrowings during
20
1997. Interest expense reflects interest on notes payable, capital lease
obligations and on utilization of the line of credit with Summit Bank.
Other income. Other income included $35,000 for 1997, as compared to
$48,000 for 1996, a decrease of $13,000. Other income primarily reflected gains
on the sale of certain depreciated equipment.
Provision for income taxes. Provision for income taxes was $129,000 for
1997, as compared to $56,000 for 1996. The increase is attributable to higher
income generated during the period. As discussed above, upon termination of the
Company's S corporation status, the Company became subject to federal and
additional state income taxes.
Net income. As a result of the aforementioned, net income increased to $2.0
million for 1997 from $502,000 for 1996, an increase of $1.5 million. As a
percentage of net sales, net income increased to 6% in 1997 from 2% in 1996.
Liquidity and Capital Resources
As a result of the Offering, the Company received approximately $29.3
million of net proceeds, after deducting underwriting discounts and commissions
and other offering expenses. All of such net proceeds have been expended as
follows: $6.1 million to pay for the acquisition of Roda, $4.8 million to pay
notes to stockholders of the Predecessor, $3.6 million to repay indebtedness of
the Company and Roda, $2.2 million for payment to trade creditors to take
advantage of discounts, $4.6 million for equipment purchases, $6.5 million for
the acquisition of Workable in January 1999, and $1.5 million for the
acquisition of real property in Jersey City, New Jersey in February 1999.
Until the closing of the Offering, the Company financed its operations,
including working capital and equipment acquisitions, using bank borrowing,
vendor financing, financing lease transactions, as well as from cash flow
generated from operating activities, and stockholder debt and equity
contributions.
Net cash provided by operating activities were $3.2 million for the year
ended December 31, 1998.
Net cash used in investing activities was $10.6 million for the year ended
December 31, 1998. The net cash used in investing activities for the year ended
December 31, 1998 consists of $6.2 million for the acquisition of Roda and $4.6
million for the acquisition of property and equipment.
Net cash provided by financing activities was $19.2 million for the year
ended December 31, 1998. Net cash provided by financing activities is
attributable to the $29.3 million net proceeds of the Offering, reduced by, $2.2
million to repay the bank indebtedness, $1.4 million to repay certain
indebtedness of Roda and $6.3 million to repay indebtedness incurred in the
Reorganization and to make distributions to the stockholders of the Predecessor.
On July 9, 1998 the Company entered into a $30.0 million revolving line of
credit facility with a bank. The revolving line of credit may be used for
acquisitions and includes sub-limits of $5.0 million for purchases of equipment
and $7.5 million for working capital. The facility has a term of three years
through July 9, 2001 and has annual extension options. The revolving line of
credit contains certain covenants that include, among other things, limitations
on the disposition of material amounts of assets and the incurrence of
additional indebtedness. In addition certain financial covenants, as to minimum
net worth, maximum leverage and debt coverage ratios must be maintained. These
covenants may restrict the ability of the Company to pay dividends on the Common
Stock, although the Company does not have the intention of paying dividends for
the foreseeable future. After giving effect to the acquisition of Boston Towne
Press, 1999, $24.5 million remained available for borrowing under the line of
credit subject to the sub-limits stated above.
21
Roda has a credit facility with a bank (the "Roda Facility") consisting of
a $2.0 million ((pound)1.2 million) term loan and a $750,000 ((pound)450,000)
revolving line of credit. The line of credit is reviewed by the bank annually
for renewal, but is payable on demand. The debt is collateralized by
substantially all of Roda's assets. As of December 31, 1998, approximately
$419,000 ((pound)252,000) was outstanding on the credit facility and $1.2
million ((pound)716,000) was outstanding under the term loan. The term loan is
payable in equal monthly installments through October 20, 2001. On August 10,
1998 the Company, through its revolving credit facility with its principal
domestic lender, issued a standby letter of credit to guarantee the Roda
Facility and in consideration therefor, the bank eliminated existing financial
covenants under such line of credit.
The operations of Workable are financed through internally generated cash
flow.
Management believes that the cash flow provided from operations and its
existing revolving line of credit facility is sufficient to fund its ongoing
operations. In addition, while the revolving line of credit facility is
sufficient for the Company to pursue its acquisition strategy in the short-term,
the long-term growth prospects of the Company will require additional debt or
equity financing. There can be no assurance that the Company will be able to
obtain such financing on acceptable terms.
YEAR 2000
General Description of the Year 2000 Issue and the Nature and Effects of the
Year 2000 on Information Technology (IT) and Non-IT Systems
The "Year 2000 Issue" is the result of computer programs being written
using two digits rather than four to define the applicable year. Any of the
Company's computer programs or hardware that have date-sensitive software or
embedded chips may recognize a date using "00" as the year 1900 rather than the
year 2000. This could result in a system failure or miscalculations causing
disruptions of operation, including, among other things, a temporary inability
to process transactions, send invoices, or engage in similar normal business
activities.
The Company has undertaken various initiatives intended to ensure that its
computer equipment and software will function properly with respect to dates in
the year 2000 and thereafter. For this purpose, the term "computer equipment and
software" includes systems that are commonly thought of as IT systems, including
accounting, data processing, and telephone/PBX systems, cash registers,
hand-held terminals, scanning equipment, and other miscellaneous systems, as
well as systems that are not commonly thought of as IT systems, such as alarm
systems, fax machines, or other miscellaneous systems. In addition, the review
included the printing and binding equipment used in the Company's operations.
Both IT and non-IT systems may contain imbedded technology, which complicates
the Company's year 2000 identification, assessment, remediation, and testing
efforts.
Based on recent assessments, the Company determined that it will be
required to modify or replace portions of its software and certain hardware so
that those systems will properly utilize dates beyond December 31, 1999. The
Company presently believes that with modification or replacements of existing
software and certain hardware, the Year 2000 Issue can be mitigated. However, if
such modifications and replacements are not made, or are not completed timely,
the Year 2000 Issue could have a material impact on the operations of the
Company.
The Company's plan to resolve the Year 2000 Issue involves the following
four phases: assessment, remediation, testing, and implementation. To date, the
Company has fully completed its assessment of all systems that could be
significantly affected by the year 2000. The completed assessment indicated that
most of the Company's significant information technology systems could be
affected, particularly the general ledger, billing, and production and
manufacturing systems. The Company prints and distributes time-sensitive
analytical research and marketing materials, and accordingly does not have
22
any exposure as it relates to the products being sold. In addition, the Company
has gathered information about the year 2000 compliance status of its
significant suppliers and subcontractors and continues to monitor their
compliance.
Status of Progress in Becoming Year 2000 Compliant, Including Timetable for
Completion of Each Remaining Phase
For its information technology exposures, to date the Company has received
the upgrade from its software manufacturer and expects to complete the upgrade
no later than March 31, 1999. Once the software is upgraded, the Company will
begin its testing and implementation. Completion of the testing phase for all
significant systems is expected to be complete by June 30, 1999, with all
remediated systems fully tested and implemented by September 30, 1999.
The Company is currently in the process of assessing its operating
equipment and believes there is minimal risk with regards to the Year 2000
Issue. As such, the Company is 80% complete in the remediation and testing phase
of its operating equipment and is expected to be completed by March 31, 1999.
Nature and Level of Importance of Third Parties and their Exposure to the Year
2000.
The Company has had communications with all of its significant customers to
determine the extent to which the Company's interface systems are vulnerable to
any failure by third parties. The Company believes that its significant
customers are addressing the issues and will timely adjust their systems.
The Company has questioned its significant suppliers and subcontractors
that do not share information systems with the Company ("external agents"). To
date, the Company is not aware of any external agent with a Year 2000 Issue that
would materially impact the Company's results of operation, liquidity, or
capital resources. However, the Company has no means of ensuring that external
agents will be year 2000 ready. The inability of external agents to complete
their year 2000 resolution process in a timely fashion could materially impact
the Company. The effect of non-compliance by external agents is not
determinable.
Costs of the Year 2000 Issue
The cost of the upgrade to the Company is included in its maintenance
contract with its software vendor and will not have a material impact on the
Company's future financial results. The Company also believes that the
miscellaneous hardware required to be purchased to become year 2000 compliant is
not material.
Risks of the Year 2000
Management of the Company believes it has an effective program in place to
resolve the Year 2000 Issue in a timely manner. As noted above, the Company has
not yet completed all necessary phases of the year 2000 program. In the event
that the Company does not complete any additional phases, the Company would be
unable to take customer orders, manufacture and ship products, invoice customers
or collect payments. In addition, disruptions in the economy generally resulting
from year 2000 issues could also materially adversely affect the Company. The
Company could be subject to litigation for computer systems product failure, for
example, equipment shutdown or failure to properly date business records. The
amount of potential liability and lost revenue cannot be reasonably estimated at
this time.
23
Contingency Plan
The Company currently has no contingency plans in place in the event it
does not complete all phases of the year 2000 program. The Company plans to
evaluate the status of completion in June 1999 and determine whether such a plan
is necessary.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to changes in interest rates and foreign currency
exchange primarily in its cash, debt and foreign currency transactions.
A discussion of the Company's accounting policies for financial instruments
is included in the Summary of Significant Accounting Policies in the Notes to
the Consolidated Financial Statements. Additional information relating to
financial instruments and debt is included in Note 8 - Revolving Line of Credit,
Long-Term Debt and Obligations Under Capital Leases.
International operations, excluding U.S. export sales which are principally
denominated in U.S. dollars, constitute 13% of the revenues and 8% of the
identifiable assets of the Company as of December 31, 1998, all of which were
denominated in British pounds. The Company has loans to foreign affiliates which
are denominated in foreign currencies. Foreign currency changes against the U.S.
dollar affect the foreign currency translation adjustment of the Company's net
investment in these affiliates and the foreign currency transaction adjustments
on long-term advances to affiliates, which impact consolidated equity of the
Company. International operations result in a large volume of foreign currency
commitment and transaction exposures and significant foreign currency net asset
exposures. With the acquisition of Workable on January 13, 1999, the Company
prints in a number of locations around the world and has a cost base that is
diversified over a number of different currencies, as well as the U.S. dollar,
which serves to counterbalance partially its foreign currency transaction risk.
The Company does not hedge its exposure to translation gains and losses relating
to foreign currency net asset exposures; however, currently in the United
Kingdom, it borrows in British Pounds to reduce such exposure. Currently, the
Hong Kong dollar is "pegged" to he United States dollar, so there is minimal
foreign currency translation adjustment with respect to the Hong Kong
operations.
The Company's cash position includes amounts denominated in foreign
currencies. The Company manages its worldwide cash requirements considering
available funds among its subsidiaries and the cost effectiveness with which
these funds can be accessed. The repatriation of cash balances from certain of
the Company's affiliates could have adverse tax consequences. However, those
balances are generally available without legal restrictions to fund ordinary
business operations.
The Company regularly invests excess operating cash in overnight repurchase
agreements that are subject to changes in short-term interest rates.
Accordingly, the Company believes that the market risk arising from its holding
of these financial instruments is minimal.
The Company's interest expense is most sensitive to changes in the general
level of U.S. interest rates. In this regard, changes in U.S. interest rates
affect the interest paid on its debt. To mitigate the impact of fluctuations in
U.S. interest rates, the Company generally maintains a portion of its debt as
fixed rate in nature.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Company, together with the
report thereon of Ernst & Young LLP dated February 3, 1999, including the
information required by Item 302 of Regulation S-K, are set forth on pages F-1
through F-20 hereof. The schedule required under Regulation S-X is included
herein on page S-1.
24
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
PART III
The information called for by "Item 10. Directors and Executive Officers of
the Registrant", "Item 11. Executive Compensation", "Item 12. Security Ownership
of Certain Beneficial Owners and Management", and "Item 13. Certain
Relationships and Related Transactions", is hereby incorporated by reference to
the Company's Proxy Statement for its Annual Meeting of Shareholders (scheduled
to be held on May 11, 1999) to be filed with the SEC pursuant to Regulation 14A
under the Securities Exchange Act of 1934 as amended.
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) Financial Statements:
See the index to the Consolidated Financial Statements on page F-1
hereof
(a) (2) Financial Statement Schedules:
See "Index to the Consolidated Financial Statements and Financial
Statement Schedule"
(a) (3) Exhibits
The following documents are filed as Exhibits to this report on Form 10-K
or incorporated by reference herein. Any document incorporated by reference is
identified by a parenthetical referencing the filing with the Commission which
included such document.
Exhibit No. Description
2.1 Reorganization Agreement among Stockholders of Cunningham Graphics, Inc.
and the Company (Exhibit 2.1 to Amendment No. 2 to Registration Statement
on Form S-1 No. 333-46541)
2.2 Agreement for the Sale and Purchase of the Entire Issued Share Capital of
Roda Limited dated January 16, 1998 between P.L. Furlonge and others and
Cunningham Graphics, Inc. (Exhibit 1.2 to Registration Statement on Form
S-1 No. 333-46541)
2.3 Supplemental Agreement dated March 24, 1998 between P.L. Furlonge and
others and Cunningham Graphics, Inc. (Exhibit 1.2(a) to Amendment No. 2 to
Registration Statement on Form S-1 No. 333-46541)
3.1 Certificate of Incorporation (Exhibit 3.1 to Registration Statement on Form
S-1 No. 333-46541)
3.2 By-Laws (Exhibit 3.2 to Registration Statement on Form S-1 No. 333-46541)
10.1 1998 Stock Option Plan (Exhibit 10.1 to Amendment No. 1 to Registration
Statement on Form S-1 No. 333-46541)
10.2 Directors' Stock Option Plan (Exhibit 10.2 to Registration Statement on
Form S-1 No. 333-46541)
10.3 Employment Agreement between the Company and M.R. Cunningham (Exhibit 10.3
to Amendment No. 2 to Registration Statement on Form S-1 No. 333-465411)
10.4 Employment Agreement between the Company and G. Mays (Exhibit 10.4 to
Amendment No. 2 to Registration Statement on Form S-1 No. 333-465411)
25
10.5 Employment Agreement between the Company and T. Mays (Exhibit 10.5 to
Amendment No. 2 to Registration Statement on Form S-1 No. 333-465411)
10.6 Employment Agreement between the Company and R. Needle (Exhibit 10.6
to Amendment No. 2 to Registration Statement on Form S-1 No.
333-465411)
10.7 Service Agreement between Roda Limited and P.L. Furlonge (Exhibit 10.7
to Registration Statement on Form S-1 No. 333-46541)
10.8 Employment Agreement between the Company and Robert M. Okin (Exhibit
10.8 to Amendment No. 2 to Registration Statement on Form S-1 No.
333-46541)
10.13 Roda Lease (Exhibit 10.13 to Amendment No. 1 to Registration Statement
on Form S-1 No. 333-46541)
10.15 Employment Agreement between the Company and I. Lykogiannis (Exhibit
10.15 to Amendment No. 2 to Registration Statement on Form S-1 No.
333-46541)
10.16 Employment Agreement between the Company and R. Zanisnik (Exhibit
10.16 to Amendment No. 2 to Registration Statement on Form S-1 No.
333-46541)
10.17 Credit and Security Agreement dated July 9, 1998 between Summit Bank
and the Company (Exhibit 10.17 to Quarterly Report on Form 10-Q for
the quarter ended June 30, 1998)
10.18 Agreement for the sale and purchase of the entire issued share capital
of Workable Company Limited and 60% of the issued share capital of
Plainduty Limited dated as of January 13, 1999 by and among Lam Hok
Ling, Tung Hok Ki, Hacienda Resources Limited, the Company and
Cunningham Graphics International, S.A. (Exhibit 10.18 to Current
Report on Form 8-K for the event occurring on January 13, 1999)
10.19 Service Agreement dated as of January 13, 1999 between Workable
Company Limited and Evan Lam (Exhibit 10.19 to Current Report on Form
8-K for the event occurring on January 13, 1999)
10.20 Service Agreement dated as of January 13, 1999 between Workable
Company Limited and Timothy Tung (Exhibit 10.20 to Current Report on
Form 8-K for the event occurring on January 13, 1999)
10.21 Tenancy Agreement dated as of January 13, 1999 between Workable
Company Limited and Many Best Development Limited (Exhibit 10.21 to
Current Report on Form 8-K for the event occurring on January 13,
1999)
10.22 Tenancy Agreement dated as of January 13, 1999 between Workable
Company Limited and Splendour Chief Development Limited (Exhibit 10.22
to Current Report on Form 8-K for the event occurring on January 13,
1999)
10.23 Loan Agreement dated February 3, 1999 among Summit Bank, the Company
and Cunningham Graphics Realty, L.L.C. (Exhibit 10.23 to Current
Report on Form 8-K for the event occurring on February 3, 1999)
10.24 Agreement of Sale dated October 28, 1998 between Willco Associates-1,
L.L.C. and the Company (Exhibit 10.24 to Current Report on Form 8-K
for the event occurring on February 3, 1999)
10.25 Amendment to Agreement of Sale between Willco Associates-1, L.L.C. and
the Company dated February 3, 1999 (Exhibit 10.25 to Current Report on
Form 8-K for the event occurring on February 3, 1999)
10.26 Agreement of Sale dated October 28, 1998 between Willco Associates-2,
L.L.C. and the Company (Exhibit 10.26 to Current Report on Form 8-K
for the event occurring on February 3, 1999)
10.27 Amendment to Agreement of Sale between Willco Associates-2, L.L.C. and
the Company dated February 3, 1999 (Exhibit 10.27 to Current Report on
Form 8-K for the event occurring on February 3, 1999)
10.28 Assignment of Agreement of Sale (Exhibit 10.28 to Current Report on
Form 8-K for the event occurring on February 3, 1999)
10.29 Asset purchase agreement dated February 17, 1999 for the sale and
purchase of certain assets and the assumption of certain liabilities
of Boston Towne Press, Inc. by and among Boston Towne Press, Inc.,
John R. Henesey, Jr., Cunningham Graphics International, Inc. and BTP
Acquisition Corp.
10.30 Employment Agreement dated as of February 17, 1999 between BTP
Acquisition Corp. and John R. Henesey Jr.
21 Subsidiaries of the Company
26
23 Consent of Ernst & Young LLP
24 Power of attorney
27 Financial Data Schedule
(b) Reports on Form 8-K:
There were no reports on Form 8-K filed for the quarter ended December 31,
1998.
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON
ITS BEHALF BY THE UNDERSIGNED, THEREUNDER DULY AUTHORIZED.
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
By: /s/ Michael R. Cunningham
--------------------------
Michael R. Cunningham
President, Chief Executive Officer
And
Chairman of the Board of Directors
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS REPORT
HAS BEEN SIGNED BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT AND IN THE
CAPACITIES AND ON THE DATES INDICATED.
Date Signature Title
March 3, 1999 /s/ Michael R. Cunningham President, Chief Executive Officer
------------------------- And
Michael R. Cunningham Chairman of the Board of Directors
March 3, 1999 * Executive Vice President
-------------------------- And Director
Gordon J. Mays
March 3, 1999 /s/ Robert M. Okin Executive Vice President
-------------------------- And Chief Financial Officer
Robert M. Okin (Principal Financial and Accounting Officer)
March 3, 1999 * Director
--------------------------
Arnold Spinner
March 3, 1999 * Director
--------------------------
James J. Cunningham
March 3, 1999 * Director
--------------------------
Laurence Gerber
March 3, 1999 * Director
--------------------------
Stanley J. Moss
/s/ Michael R. Cunningham
- ---------------------------------------------
* Michael R. Cunningham, as Attorney-In-Fact
27
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
Index to Financial Statements
And Financial Statement Schedule
Contents
Report of Independent Auditors............................................F-2
Financial Statements
Consolidated Balance Sheets as of December 31, 1997 and 1998.............F-3
Consolidated Statements of Income for the years ended
December 31, 1996, 1997 and 1998........................ .............F-4
Consolidated Statements of Stockholders' Equity for the
years ended December 31, 1996, 1997 and 1998.............. ..............F-5
Consolidated Statements of Cash Flows for the years ended
December 31, 1996, 1997 and 1998........................ ................F-6
Notes to Consolidated Financial Statements................................F-7
Financial Statement Schedule .............................................
Schedule II - Valuation and Qualifying Accounts S-1
All other schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under the
related instructions or are inapplicable, and therefore have been omitted.
F-1
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Stockholders of
Cunningham Graphics International, Inc.
We have audited the accompanying consolidated balance sheets of Cunningham
Graphics International, Inc. as of December 31, 1997 and 1998, and the related
consolidated statements of income, stockholders' equity, and cash flows for each
of the three years in the period ended December 31, 1998. Our audits also
included the financial statement schedule listed in the Index at Item 14(a).
These financial statements and schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Cunningham Graphics
International, Inc. at December 31, 1997 and 1998, and the results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1998, in conformity with generally accepted accounting principles.
Also, in our opinion, the related financial statement schedule, when considered
in relation to the basic financial statements taken as a whole, presents fairly
in all material respects the information set forth therein.
/s/Ernst & Young LLP
Princeton, New Jersey
February 3, 1999
F-2
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1997 AND 1998
(in thousands, except share and per share amounts)
1997 1998
------- -------
Assets
Current assets:
Cash and cash equivalents $ 67 $ 2,179
Accounts receivable (net of allowance for
doubtful accounts of $50 and $146, respectively) 5,673 9,199
Inventories 940 1,301
Prepaid expenses and other current assets 78 383
Notes and advances receivable - stockholder/officers 136 --
Deferred income taxes 47 520
------- -------
Total current assets 6,941 13,582
Cash held for acquisitions and building addition -- 9,700
Property and equipment - net 3,579 8,652
Other assets 418 860
Goodwill, net of accumulated amortization of $176 in 1998 -- 10,795
------- -------
$10,938 $43,589
======= =======
Liabilities and stockholders' equity Current liabilities:
Revolving line of credit $ 300 $ 419
Current portion of long-term debt 407 580
Current portion of obligations under capital leases 178 493
Accounts payable 3,854 3,102
Accrued expenses 1,474 3,005
Income taxes payable 499
------- -------
Total current liabilities 6,213 8,098
Long-term debt, net of current portion 1,185 769
Obligations under capital leases- net of current portion 332 1,216
Deferred income taxes 57 932
Other long-term liabilities -- 64
Commitments and contingencies
Stockholders' equity:
Common stock of Predecessor, 2,507 shares authorized, 119 shares
issued and outstanding, stated at $50 per share 6 --
Preferred stock, no par value; 1997 - no shares authorized; 1998 -
10,000,000 shares authorized, none issued and outstanding -- --
Common stock, no par value; 30,000,000 shares
authorized, 5,305,000 shares issued and outstanding -- 29,395
Accumulated other comprehensive income -- 1
Additional paid-in capital 734 --
Retained earnings 2,411 3,114
------- -------
Total stockholders' equity 3,151 32,510
------- -------
$10,938 $43,589
======= =======
See accompanying notes.
F-3
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF INCOMEYEARS ENDED
DECEMBER 31, 1996, 1997 AND 1998
(in thousands, except share and per share amounts)
1996 1997 1998
-------- -------- --------
Net sales $ 23,193 $ 35,744 $ 53,146
Operating expenses:
Costs of production 17,616 26,894 37,694
Selling, general and administrative 4,270 5,794 7,783
Depreciation and amortization 563 694 1,252
-------- ---------- ----------
22,449 33,382 46,729
-------- ---------- ----------
Income from operations 744 2,362 6,417
Interest expense (234) (250) (400)
Interest income -- -- 475
Other income 48 35 5
-------- ---------- ----------
Income before income taxes 558 2,147 6,497
Provision for income taxes 56 129 2,489
-------- ---------- ----------
Net income $ 502 $ 2,018 $ 4,008
======== ========== ==========
Pro Forma Data (unaudited):
Income before income taxes $ 2,147 $ 6,497
Pro forma provision for income taxes 880 2,809
---------- ----------
Pro forma net income 1,267 $ 3,688
========== ==========
Pro forma earnings per common share:
Basic $ 0.43 $ 0.80
========== ==========
Diluted $ 0.43 $ 0.80
========== ==========
Pro forma weighted average number of common shares:
Basic 2,964,492 4,587,941
========== ==========
Diluted 2,964,492 4,637,024
========== ==========
See accompanying notes.
F-4
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998
(in thousands, except share amounts)
-------------------------
Common Stock Accumulated
------------------------- Additional Other
Paid-in Comprehensive Retained
Shares Amount Capital Income Earnings Total
---------- ---------- ----------- ------------- --------- ----------
Balance at December 31, 1995 118 $ 6 $ 722 $ -- $ 102 $ 830
Sale of common stock 1 12 12
Net income 502 502
---------- ---------- ---------- ---------- ---------- ----------
Balance at December 31, 1996 119 6 734 -- 604 1,344
Distributions (211) (211)
Net income 2,018 2,018
---------- ---------- ---------- ---------- ---------- ----------
Balance at December 31, 1997 119 6 734 -- 2,411 3,151
Elimination of Predecessor's
common stock in the
Reorganization (119) (6) -- (6)
Reorganization of the
Predecessor 2,595,261 (2,191) (734) -- (1,846) (4,771)
Issuance of common stock:
Initial public offering 2,530,000 29,249 -- 29,249
Acquisition 169,739 2,207 -- 2,207
Exercise of stock options 10,000 130 -- 130
Distributions (1,459) (1,459)
Net Income 4,008 4,008
Currency translation
Adjustment 1 1
----------
Comprehensive income 4,009
---------- ---------- ---------- ---------- ---------- ----------
Balance at December 31, 1998 5,305,000 $ 29,395 $ -- $ 1 $ 3,114 $ 32,510
========== ========== ========== ========== ========== ==========
See accompanying notes.
F-5
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998
(in thousands)
1996 1997 1998
-------- -------- --------
Cash flows from operating activities
Net income $ 502 $ 2,018 $ 4,008
Adjustments to reconcile net income to net cash
Provided by operating activities
Depreciation and amortization 563 694 1,252
Gain on sale of equipment (48) (18) --
Deferred income taxes 32 (31) 292
Changes in operating assets and liabilities,
net of effects of acquired business:
Accounts receivable (2,161) (1,066) (1,880)
Inventories 509 (399) (165)
Prepaid expenses and other current assets (86) (8) (235)
Other assets (45) (324) 313
Notes and advances receivable - stockholder/officers (94) 22 136
Accounts payable 1,835 193 (1,580)
Accrued expenses 664 369 1,134
Other liabilities -- -- (60)
-------- -------- --------
Net cash provided by operating activities 1,671 1,450 3,215
Cash flows from investing activities
Proceeds from the disposition of equipment 71 1,349 182
Acquisition of property and equipment (1,711) (2,146) (4,614)
Acquisition of Roda Limited, net of cash acquired -- -- (6,149)
-------- -------- --------
Net cash used in investing activities (1,640) (797) (10,581)
Cash flows from financing activities
Net principal proceeds payments on revolving
Line of credit 444 (1,050) (352)
Proceeds from long-term borrowings 614 1,023
Principal payments on long-term borrowings (302) (476) (3,127)
Principal payments on obligations under capital lease (139) (188) (468)
Proceeds from issuance of notes payable - related parties 24 -- --
Principal payments on notes payable - related parties (142) (227) --
Shareholder distributions -- (211) (6,236)
Net proceeds from sale of common stock 12 -- 29,249
Proceeds from the exercise of stock options -- -- 130
-------- -------- --------
Net cash provided by (used in) financing activities 511 (1,129) 19,196
Effect of exchange rate changes on cash and cash equivalents (18)
-------- -------- --------
Net (decrease) increase in cash 542 (476) 11,812
Cash and cash equivalents, beginning of year 1 543 67
-------- -------- --------
Cash and cash equivalents, end of year $ 543 $ 67 $ 11,879
======== ======== ========
Supplemental disclosure of cash flow data
Income taxes paid $ 40 $ 169 $ 1,963
======== ======== ========
Interest paid $ 235 $ 251 $ 400
======== ======== ========
Supplemental disclosure of noncash investing and
financing activities
Acquisition of equipment under capital lease $ 422 $ -- $ 967
======== ======== ========
Stock issued for acquisition $ -- $ -- $ 2,207
======== ======== ========
See accompanying notes.
F-6
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts)
1. ORGANIZATION AND DESCRIPTION OF BUSINESS
On April 22, 1998 Cunningham Graphics, Inc. (the "Predecessor") reorganized (the
"Reorganization") such that all the stockholders of the Predecessor contributed
all of the outstanding shares of common stock of the Predecessor to Cunningham
Graphics International, Inc. (the "Company"), in exchange for a total of
2,595,261 shares of common stock, no par value (the "Common Stock") and
promissory notes (the "Exchange Notes") in the aggregate principal amount of
$2.6 million. In the Reorganization, the Company also assumed the Predecessor's
obligations under promissory notes in the aggregate principal amount of $2.2
million, representing undistributed S corporation taxable income (the
"Distribution Notes"). Collectively, the Exchange Notes and Distribution Notes
are known as the "Reorganization Notes." Concurrently with the Reorganization,
the Company sold 2,530,000 shares of Common Stock in an initial public offering
(the "Offering"). The Company used a portion of the proceeds to repay the
Reorganization Notes.
On April 27, 1998, the Company acquired all of the outstanding ordinary share
capital of Roda Limited, an English corporation ("Roda") for consideration
consisting of cash in the amount of $4.1 million and 169,739 shares of Common
Stock, valued at the Offering price of $13.00 per share. In addition on June 4,
1998, the Company purchased the outstanding preference share capital of Roda for
$1.8 million. The excess of the purchase price over the net assets acquired
totaled approximately $11.0 million and was recorded as goodwill.
The Company provides a wide range of graphic communication services to financial
institutions and corporations throughout the United States and the United
Kingdom, focusing on producing and distributing time-sensitive analytical
research and marketing materials and on providing on-demand printing services.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The Reorganization has been accounted for in a manner similar to a pooling of
interests and, accordingly, the historical carrying values of the assets and
liabilities of the Predecessor were not affected by the Reorganization. The
Company conducted no business prior to the Reorganization and, accordingly, it
was not included in the results of operations of the Predecessor. The
accompanying December 31, 1996 and 1997 financial statements include the
accounts and results of operations of the Predecessor for the years then ended.
The accompanying consolidated financial statements as of and for the year ended
December 31, 1998 include the accounts and results of operations of the
Predecessor for the period from January 1, 1998 through April 22, 1998 and the
results of the Company from April 23, 1998 through December 31, 1998, including
the results of operations of Roda from April 27, 1998 through December 31, 1998.
F-7
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BASIS OF PRESENTATION (CONTINUED)
Selected unaudited statement of income data for the year ended December 31, 1998
are as follows:
April 23, 1998 to Year ended
January 1 to December 31, December 31,
April 22, 1998 1998 1998
-------------- ----------------- ------------
Net sales $13,390 $39,756 $53,146
======= ======= =======
Income from operations $ 1,044 $ 5,373 $ 6,417
======= ======= =======
Income before income taxes $ 973 $ 5,524 $ 6,497
Provision for income taxes 79 2,410 2,489
======= ======= =======
Net income $ 894 $ 3,114 $ 4,008
======= ======= =======
All significant intercompany accounts and transactions have been eliminated in
consolidation.
PRO FORMA ADJUSTMENTS
The pro forma provision for income taxes represents the income tax provisions
that would have been reported had the Company been subject to federal and
additional state income taxes during the year ended December 31, 1997 and the
period January 1, 1998 through April 22, 1998. The unaudited pro forma net
income for the year ended December 31, 1997 and 1998 reflects an increase of
$751 and $320 for the year ended December 31, 1997 and the period January 1,
1998 through April 22, 1998, respectively for income taxes based upon income
before income taxes as if the Company had become subject to federal and
additional state income taxes on that date.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include all cash balances and highly liquid
investments with a maturity of three months or less when acquired.
CONCENTRATION OF CREDIT RISK
The Company performs periodic credit evaluations of its customers and generally
does not require collateral.
F-8
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INVENTORIES
Inventories are stated at the lower of cost or market by the specific
identification method. Inventory consists of raw materials and work in process.
Finished goods are shipped upon completion.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation and amortization of
assets, including those under capital lease, are computed using the
straight-line method over the lesser of the estimated useful lives of the
related assets or the lease term. Useful lives range from 3 to 10 years.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company records impairment losses on long-lived assets, including goodwill
resulting from business acquisitions, when events and circumstances indicate
that the assets might be impaired and the undiscounted cash flows estimated to
be generated by those assets are less than the carrying amounts of those assets.
No such event has occurred.
GOODWILL
Goodwill represents the excess of cost over the estimated fair value of
identifiable assets of businesses acquired and is being amortized on a
straight-line basis over 40 years. Amortization expense was $176 for the year
ended December 31, 1998.
INCOME TAXES
Through April 22, 1998, the Predecessor and its shareholders elected to be
treated as an S corporation for federal income tax purposes. As a result, any
income or loss generated through such date was passed through directly to the
stockholders. Effective April 23, 1998, the Company's S corporation election
terminated.
The Company uses the liability method to account for income taxes. Deferred
income taxes reflect the net tax effects of temporary differences between the
carrying amounts of assets and liabilities for financial reporting purposes and
the amounts used for income tax purposes.
REVENUE RECOGNITION
Revenue is recognized upon shipment of products to customers.
USE OF ESTIMATES
The presentation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
F-9
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES --(CONTINUED)
FOREIGN CURRENCY TRANSLATION
The 1998 financial statements include the results of Roda which are translated
from the British Pound, its functional currency, into U.S. dollars from the date
of acquisition. The balance sheet is translated at the year-end exchange rate.
Results of operations are translated at average rates prevailing during the
year. The effects of translation at the balance sheet date are accumulated as
the cumulative foreign currency translation adjustment in stockholders' equity.
SEGMENTS
Effective January 1, 1998, the Company adopted the Financial Accounting
Standards Board's Statement of Financial Accounting Standards No. 131,
Disclosures about Segments of an Enterprise and Related Information (Statement
131). Statement 131 superseded FASB Statement No. 14, Financial Reporting for
Segments of a Business Enterprise. Statement 131 establishes standards for the
way that public business enterprises report information about operating segments
in annual financial statements and requires that those enterprises report
selected information about operating segments in interim financial reports.
Statement 131 also established standards for related disclosures about products
and services, geographic areas, and major customers.
REPORTING COMPREHENSIVE INCOME
The Company adopted Statement of Financial Standards (SFAS) No. 130, Reporting
Comprehensive Income in 1998. SFAS No. 130 establishes standards for reporting
and display of comprehensive income (all changes in equity during a period
except those resulting from investments by owners and distributions to owners)
and its components in the financial statements.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of cash and cash equivalents, accounts receivable and
accounts payable approximate fair value because of their short-term nature. The
carrying amounts of the revolving line of credit and long-term debt approximate
fair value because their interest rates are reflective of rates that the Company
would be able to obtain on debt with similar terms and conditions.
STOCK-BASED COMPENSATION
As permitted by FASB Statement No. 123 Accounting for Stock-Based Compensation
(FASB 123), the Company has elected to follow Accounting Principal Board Opinion
No. 25, Accounting for Stock Issued to Employees (APB 25) and related
interpretations in accounting for its employee stock options plans. Under APB
25, no compensation expense is recognized at the time of option grant when the
exercise price of the employee stock option equals or exceeds the fair market
value of the underlying common stock on the date of grant.
F-10
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts)
3. ACQUISITION
As discussed in Note 1, the Company acquired all of the outstanding ordinary
share capital of Roda for consideration consisting of cash in the amount of
$4,100 and 169,739 shares of Common Stock, valued at the Offering price of
$13.00 per share. In addition, the Company purchased the outstanding preference
share capital of Roda on June 4, 1998 for cash in the amount of $1,800.
Additional acquisition costs aggregated $200. The acquisition was accounted for
using the purchase method. Under this method, the purchase price is allocated to
the assets and liabilities of the acquired enterprise as of the acquisition date
based on their estimated respective fair values and are subject to revision for
a period not to exceed one year from the date of acquisition. The excess of the
purchase price over the net assets acquired totaled approximately $11.0 million
and was recorded as goodwill.
The following table sets forth unaudited pro forma information assuming that the
acquisition of Roda was completed on January 1, 1997.
Year Ended December 31,
-------------------------
1997 1998
---------- ----------
Sales $ 42,705 $ 55,885
Net Income $ 1,674 $ 3,709
Basic earnings per share of common stock $ 0.44 $ 0.76
Diluted earnings per share of common stock $ 0.44 $ 0.76
The preceding unaudited pro forma results are based on assumptions and are not
necessarily indicative of the actual results which would have occurred had this
acquisition occurred on January 1, 1997, or of the future results of operations
of the combined Company.
4. CASH HELD FOR ACQUISITIONS AND BUILDING ADDITION
The cash held for acquisitions and building addition represents cash used
subsequent to year-end for business acquisitions and the purchase of a building.
5. INVENTORIES
Inventories consists of the following at December 31:
1997 1998
------ ------
Raw materials (net of valuation allowance of $194
and $143, respectively) $ 805 $1,214
Work-in-process 135 87
====== ======
$ 940 $1,301
====== ======
F-11
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts)
6. PROPERTY AND EQUIPMENT
Property and equipment consists of the following at December 31:
1997 1998
-------- --------
Machinery and equipment $ 4,813 $ 10,364
Furniture, fixtures and office equipment 974 1,669
Leasehold improvements 471 685
Autos and transportation equipment 280 326
-------- --------
6,538 13,044
Accumulated depreciation and amortization (2,959) (4,392)
======== ========
$ 3,579 $ 8,652
======== ========
The gross amount of the leased property included in property and equipment is
$1,069 and $2,380, and accumulated amortization is $386 and $184 at December 31,
1997 and 1998, respectively. Amortization ($105, $119 and $113 in 1996, 1997 and
1998, respectively) of assets under capital leases is included in depreciation
expense.
7. OTHER ASSETS
Included in other assets at December 31, 1997 is approximately $342 of costs
related to the anticipated initial public offering and the acquisition of Roda.
Included in other assets at December 31, 1998 is a deposit for $755 on a
building.
8. ACCRUED EXPENSES
Other accrued liabilities consists of the following at December 31:
1997 1998
------ ------
Employee compensation $ 689 $1,529
Other 785 1,476
------ ------
$1,474 $3,005
====== ======
F-12
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts)
9. REVOLVING LINE OF CREDIT, LONG-TERM DEBT AND OBLIGATIONS UNDER CAPITAL
LEASE
On July 9, 1998 the Company entered into a $30,000 revolving line of credit
facility with a bank (the "Revolver"). The revolving line of credit may be used
for acquisitions and includes sub-limits of $5,000 for purchase of equipment and
$7,500 for working capital. The facility has a term of three years through July
2001 and has annual extension options. At the Company's option, the facility
bears interest at either: (i) the bank's base rate less a number of basis points
depending upon the Company's maximum leverage ratio, as defined in the agreement
or (ii) the Eurodollar rate plus a number of basis points depending upon the
Company's maximum leverage ratio, as defined. The Revolver contains certain
covenants including, among other things, limitations on the disposition of
assets in excess of $500, the incurrence of additional indebtedness and
limitations on the Company's rights to pay dividends. In addition, certain
financial covenants, as to minimum net worth, maximum leverage and debt coverage
ratios must be maintained. As of December 31, 1998, the Company had a standby
letter of credit outstanding for $2,200 securing the outstanding balance on the
Roda Facility, referred to below. No other amounts were outstanding under the
revolver.
Roda has a credit facility with a bank (the "Roda Facility") consisting of a
$2,000 ((pound)1.2 million) term loan and a $750 ((pound)450) revolving line of
credit. The line of credit is reviewed by the bank annually for renewal, and is
payable on demand. The term loan is payable in equal monthly installments
through October 2001.The debt bears interest at 1% above the banks base rate, as
defined, and is collateralized by substantially all of Roda's assets. As of
December 31, 1998, approximately $419 ((pound)252) was outstanding on the credit
facility and $1,183 ((pound)716) was outstanding under the term loan. As
mentioned above, the Company issued a standby letter of credit to the bank to
guarantee the Roda Facility and in consideration therefor, the bank eliminated
existing financial covenants under such line of credit.
At December 31, 1997, the Company had a Loan and Security Agreement that
provided for a $2,000 revolving line of credit and a $1,000 3-year term loan
(the "Term Loan"). Borrowings under both the line of credit and the Term Loan
incurred interest at the bank's prime rate or at the Company's option LIBOR plus
2.25% (8.5% at December 31, 1997). The debt was collateralized by substantially
all of the Company's assets. At December 31, 1997, the revolving line of credit
and the Term Loan had balances outstanding of $300 and $1,000, respectively. The
amounts were repaid with proceeds from the Offering.
The Company leases property and equipment under capital leases expiring in
various years through 2003.
F-13
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts)
9. REVOLVING LINE OF CREDIT, LONG-TERM DEBT AND OBLIGATIONS UNDER CAPITAL
LEASES (CONTINUED)
Long-term debt and obligations under capital leases consists of the following at
December 31:
1997 1998
--------- ----------
Term loans $ 1,000 $ 1,189
Notes payable to finance company, payable in monthly installments
bearing interest at 8.5%, through April 1999 (secured by certain
equipment with a carrying value of approximately $300) 262 7
Non-interest bearing note payable in monthly installments through
December 1999 (discounted based on imputed interest rate of 8%) 308 153
Various capital lease obligations 510 1,709
Other (secured by equipment with a carrying value of $135) 22 --
--------- ----------
2,102 3,058
Less current maturities 585 1,073
--------- ----------
$ 1,517 $ 1,985
========= ==========
The weighted average interest rate on short-term borrowings is 8.5% and 7.25% at
December 31, 1997 and 1998, respectively.
The aggregate fair value of the instruments representing the Company's revolving
line of credit, long-term debt and obligations under capital lease approximate
their carrying value at December 31, 1997 and 1998. Such fair values are
estimated based on discounting the estimated future cash flows using the
Company's incremental borrowing rate for similar debt instruments.
Maturities of long-term debt and obligations under capital lease (principal and
interest) for each of the next five years are as follows:
Obligations
Long-Term Under Capital
Debt Lease
--------- -------------
1999 $ 507 $ 649
2000 373 573
2001 398 456
2002 71 296
2003 61
$ 1,349
Total long-term debt ======= ------
Total minimum lease payments 2,035
Less amount representing interest 326
------
Present value of net minimum lease payments $1,709
======
F-14
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts) -(continued )
10. INCOME TAXES
The provision for income taxes consists of the following:
1996 1997 1998
------- ------- -------
Current:
Federal $ -- $ -- $ 1,351
State 24 160 764
Foreign -- -- 136
------- ------- -------
24 160 2,251
Deferred:
Federal -- -- 17
State 32 (31) (4)
Foreign -- -- 225
------- ------- -------
32 (31) 238
------- ------- -------
Total $ 56 $ 129 $ 2,489
======= ======= =======
The differences between the provisions for income taxes and the amounts that
would result form applying the statutory federal tax rate to income before
income taxes for the year ended December 31, 1998 is summarized as follows:
Statutory federal income tax rate 34.0%
State income tax, net of federal benefit 7.7
Income attributable to "S" corporation period (5.0)
Other 1.6
----
Effective income tax rate 38.3%
====
The significant components of the Company's deferred tax assets and liabilities
were as follows at December 31:
1997 1998
----- -----
Current deferred tax assets:
Allowance for doubtful accounts $ 3 $ 83
Employee compensation 17 219
Inventory 14 90
Accrued liabilities 13 128
----- -----
Total current deferred tax assets 47 520
Non-current deferred tax liabilities
Fixed assets 57 932
----- -----
Total non-current deferred tax liabilities 57 932
----- -----
Net deferred tax liabilities $ (10) $(412)
===== =====
F-15
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts) -(continued )
10. INCOME TAXES (CONTINUED)
The Company has unremitted foreign earnings of approximately $1,200 at December
31, 1998. It is the Company's intention to permanently reinvest those earnings
in its foreign operations. Accordingly, no federal deferred taxes have been
provided on those earnings. If such earnings were to be remitted, it is possible
there would be withholding taxes (although not readily determinable) on such
remittances.
11. RELATED PARTY TRANSACTIONS
Notes and advances receivable -- stockholder/officers represented cash advances
with no specific repayment terms. The amounts were repaid during 1998.
12. STOCK OPTION PLANS
In February 1998, the Board of Directors and the sole stockholder of the Company
adopted the 1998 Stock Option Plan ("1998 Plan") and reserved 450,000 shares of
Common Stock for issuance thereunder. The Plan provides for the granting to
employees (including employee directors and officers) of incentive stock options
and nonstatutory stock options to employees and consultants. During 1998, the
Board of Directors granted options to purchase 243,700 shares of Common Stock
under the 1998 Plan.
Additionally, in February 1998, the Board of Directors of the Company adopted
the Directors' Stock Option Plan (the "Directors' Plan") and reserved 150,000
shares of Common Stock for issuance thereunder. Directors of the Company who are
not employees of the Company or any of its subsidiaries are eligible to
participate in the plan. The Board of Directors granted options to purchase
60,000 shares of Common Stock under the Directors' Plan.
Options issued under both the 1998 Plan and the Directors' Plan expire ten years
from the date of grant. The vesting period for options granted under the 1998
Plan varies among employees and ranges from six months to three years. The
vesting period for options granted under the Directors' Plan is six months
following the date of grant. Options granted under the plans are exercisable at
an exercise price equal to but not less than the fair market value of the common
stock on the grant date.
The following summarizes the activity in the options outstanding for the
combined plans during 1998:
Weighted
Number of Average
Options Exercise Price
--------- --------------
Outstanding at January 1, 1998 -- $ --
Granted 303,700 13.00
Canceled (3,950) 13.00
Exercised (10,000) 13.00
-------
Outstanding at December 31, 1998 289,750 13.00
=======
Exercisable at December 31, 1998 225,000 13.00
=======
At December 31, 1998, the weighted average remaining contractual life of the
options outstanding is 9.3 years.
F-16
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts) -(continued )
12. STOCK OPTION PLANS (CONTINUED)
At December 31, 1998, an aggregate of 590,000 shares of common stock are
reserved for issuance under the plans.
Had the Company used the fair value-based method of accounting for the stock
option plans prescribed by SFAS No. 123, Accounting for Stock-Based
Compensation, and charged compensation expense against income over the vesting
period based on the fair value of options at the date of grant, net income and
diluted earnings per share would have been reduced to the following pro forma
amounts:
For the Year Ended December 31,
1998
-------------------------------
As Reported Pro Forma
----------- ---------
Net income $ 3,688 $ 2,529
Diluted earnings per share $ 0.80 $ 0.55
The pro forma compensation expense may not be representative of future amounts
because options vest over several years and additional options may be granted in
future years.
The weighted-average grant date fair value of options granted during 1998 was
$4.83. The weighted-average grant date fair value of options was determined by
utilizing the Black-Scholes option-pricing model with the following key
assumptions:
1998
---------
Dividend yield 0%
Expected volatility 30%
Risk-free interest rate 5.75%
Expected life 5 years
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options, which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
the Company's employee stock options have characteristics significantly
different from those of trade options, and because changes in subjective input
assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
13. EMPLOYEE BENEFIT PLAN
The Company has defined contribution employee benefit plans in the United States
and at Roda covering substantially all employees. The Company, at its
discretion, may elect to contribute to the plan at amounts and dates determined
by the Board of Directors of the Company and Roda. For the years ended December
31, 1996, 1997 and 1998 the Company made contributions of $0, $52 and $118,
respectively, to the plans.
F-17
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts) -(continued )
14. COMMITMENTS AND CONTINGENCIES
The Company leases office and manufacturing facilities, equipment and
automobiles under noncancelable operating leases expiring in various years
through 2003. One of the facility leases requires the Company to pay additional
rents based on its proportionate share of certain costs of the facility.
In March 1997, the Company entered into a sale-leaseback arrangement. Under the
arrangement, the Company sold equipment and leased it back for a period of six
years. The leaseback has been accounted for as an operating lease. No gain or
loss was recorded on the transaction. Upon expiration of the lease, the Company
has the option to acquire the equipment at terms more fully described in the
lease agreement.
Future minimum rental payments for each of the next five years and in the
aggregate under the above lease agreements are as follows:
1999 $1,015
2000 292
2001 208
2002 200
2003 160
------
$1,875
======
Rent expense under all operating leases was $463, $631 and $887 for the years
ended December 31, 1996, 1997 and 1998, respectively.
15. CONCENTRATIONS
Sales to customers representing 10% or more of the Company's total net sales
(three customers in 1996, 15%, 15% and 13% each respectively; four in 1997, 24%,
13%, 10% and 10% each respectively; and three customers in 1998, 24%, 15% and
10% each respectively) represented total net sales of $9,812, $20,375 and
$25,752, respectively. Included in trade accounts receivable are amounts due
from these customers of $2,989 and $3,127 as of December 31, 1997 and 1998,
respectively.
The Company has 491 employees of which 342 of whom are members of a union.
F-18
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts) -(continued )
16. SEGMENT AND GEOGRAPHIC INFORMATION
The Company's single business segment is the production and distribution of
time-sensitive analytical research marketing materials and on providing
on-demand printing services.
All of the Company's financial results prior to April 27, 1998, the date of the
Roda acquisition, were from U.S. operations only, accordingly segment
information for the year ended December 31, 1997 has not been presented. The
following table presents financial information based on the Company's geographic
segments for the year ended December 31, 1998 (dollars in thousands):
Income
from Identifiable
Net Sales Operations Assets
--------- ---------- ------------
United Kingdom $ 7,141 $ 1,442 $ 3,312
United States 46,005 4,974 40,070
------- ------- -------
Total $53,146 $ 6,416 $43,382
======= ======= =======
17. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
share:
December 31, 1997 December 31, 1998
------------------ ------------------
Numerator:
Pro forma net income for basic and diluted earnings per share $ 1,267 $ 3,688
=========== ==========
Denominator
Denominator for basic earnings per share - weighted average common shares 2,946,492 4,587,941
Effect of dilutive securities - employee stock options -- 49,083
----------- ----------
Denominator for diluted earnings per share- adjusted weighted average common
shares and assumed conversion 2,964,492 4,637,024
=========== ==========
Basic earnings per common share $ 0.43 $ 0.80
=========== ==========
Diluted earnings per common share $ 0.43 $ 0.80
=========== ==========
F-19
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1997 AND 1998
(dollars in thousands, except per share amounts) -(continued )
18. SUBSEQUENT EVENTS
Acquisition of Workable
On January 13, 1999, the Company, through its wholly-owned subsidiary,
Cunningham Graphics International S.A., acquired all of the issued and
outstanding capital stock of Workable Company Limited, a Hong Kong corporation
("Workable"). In addition, the Company acquired from the selling shareholders
the 60% of the outstanding capital stock of Plainduty Limited, a Hong Kong
corporation, which was not owned directly by Workable. Workable also has a
wholly owned subsidiary in Singapore.
The aggregate purchase price of the acquisition was $13,100, which was comprised
of the following: (i) 398,216 shares of Common Stock, valued at a price of
$15.52 per share and (ii) cash in the amount of $6,200. In addition, the Company
assumed $700 of indebtedness. The Company utilized proceeds from its initial
public offering of Common Stock to fund the cash portion of the purchase price.
Under the terms of the purchase agreement, the Company may be required to pay to
the Sellers up to an additional $3,800, depending upon the earnings, as defined,
of Workable during the years 1999 through 2001. The Company estimates the
goodwill generated from the acquisition will be approximately $8,800, which will
be amortized over 40 years.
In connection with the purchase agreement, Workable entered into employment
agreements dated as of January 13, 1999 with each of its selling shareholders
and lease agreements for the facilities currently being occupied by the acquired
businesses that are owned by such selling shareholders under terms it believes
are comparable to market rates.
Acquisition of Real Estate
On February 3, 1999, the Company purchased a 150,000 square foot building
located in Jersey City, New Jersey for approximately $5,500. The Company
obtained a mortgage loan for $7,400 through its existing bank to finance the
purchase of the building and to make necessary improvements. The acquired
building will replace the Company's current Jersey City and midtown New York
City facilities. The Company anticipates placing the new building into service
during the third quarter of 1999. The Company does not anticipate its remaining
lease obligations on its current lease facilities will be significant at the
date it vacates the properties. However any unutilized obligations will be
charged to operations when the property is vacated.
The Company also has contracted with the sellers of the Premises, for the
acquisition of an unimproved parcel of land adjacent to the Premises, for a
purchase price of $975. The closing of such transaction is contingent upon the
completion of certain environmental remediation to the satisfaction of the New
Jersey Department of Environmental Protection.
19. SUBSEQUENT EVENTS - UNAUDITED
On February 16, 1999, the Company acquired substantially all of the assets and
assumed certain liabilities of Boston Towne Press. The purchase price of Boston
Towne Press was $5.4 million, which was paid in cash and partially funded by the
utilization of $3,400 of the revolving line of credit. Pursuant to the purchase
and sale agreement, the Company may be required to pay the seller up to an
additional $700,000, depending upon the earnings of Boston Towne Press during
the years 1999 and 2000. The Company estimates the goodwill generated from the
transaction will be approximately $2.9 million and will be amortized over 40
years.
F-20
CUNNINGHAM GRAPHICS INTERNATIONAL, INC.
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
(in thousands)
Charged to
Description Beginning Cost and Ending
Balance Expense Write-offs Balance
- ------------------------------------------------------ ----------- ----------- -------
Year ended December 31, 1998
Allowances for accounts receivable $ 50 $ 96 $ -- $146
Year ended December 31, 1997
Allowances for accounts receivable 28 31 9 50
Year ended December 31, 1996
Allowances for accounts receivable 30 -- 2 28
Charged to
Description Beginning Cost and Ending
Balance Expense Write-offs Balance
- ------------------------------------------ --------- ----------- ----------- -------
Year ended December 31, 1998
Allowances for unsaleable inventories $194 $ 84 $135 $143
Year ended December 31, 1997
Allowances for unsaleable inventories 200 86 92 194
Year ended December 31, 1996
Allowances for unsaleable inventories 200 82 82 200
S-1
EXHIBIT INDEX
The following documents are filed as Exhibits to this report on Form 10-K or
incorporated by reference herein. Any document incorporated by reference is
identified by a parenthetical referencing the filing with the Commission which
included such document.
2.1 Reorganization Agreement among Stockholders of Cunningham Graphics,
Inc. and the Company (Exhibit 2.1 to Amendment No. 2 to Registration
Statement on Form S-1 No. 333-46541)
2.2 Agreement for the Sale and Purchase of the Entire Issued Share Capital
of Roda Limited dated January 16, 1998 between P.L. Furlonge and
others and Cunningham Graphics, Inc. (Exhibit 1.2 to Registration
Statement on Form S-1 No. 333-46541)
2.3 Supplemental Agreement dated March 24, 1998 between P.L. Furlonge and
others and Cunningham Graphics, Inc. (Exhibit 1.2(a) to Amendment No.
2 to Registration Statement on Form S-1 No. 333-46541)
3.1 Certificate of Incorporation (Exhibit 3.1 to Registration Statement on
Form S-1 No. 333-46541)
3.2 By-Laws (Exhibit 3.2 to Registration Statement on Form S-1 No.
333-46541)
10.1 1998 Stock Option Plan (Exhibit 10.1 to Amendment No. 1 to
Registration Statement on Form S-1 No. 333-46541)
10.2 Directors' Stock Option Plan (Exhibit 10.2 to Registration Statement
on Form S-1 No. 333-46541)
10.3 Employment Agreement between the Company and M.R. Cunningham (Exhibit
10.3 to Amendment No. 2 to Registration Statement on Form S-1 No.
333-465411)
10.4 Employment Agreement between the Company and G. Mays (Exhibit 10.4 to
Amendment No. 2 to Registration Statement on Form S-1 No. 333-465411)
10.5 Employment Agreement between the Company and T. Mays (Exhibit 10.5 to
Amendment No. 2 to Registration Statement on Form S-1 No. 333-465411)
10.6 Employment Agreement between the Company and R. Needle (Exhibit 10.6
to Amendment No. 2 to Registration Statement on Form S-1 No.
333-465411)
10.7 Service Agreement between Roda Limited and P.L. Furlonge (Exhibit 10.7
to Registration Statement on Form S-1 No. 333-46541)
10.8 Employment Agreement between the Company and Robert M. Okin (Exhibit
10.8 to Amendment No. 2 to Registration Statement on Form S-1 No.
333-46541)
10.13 Roda Lease (Exhibit 10.13 to Amendment No. 1 to Registration Statement
on Form S-1 No. 333-46541)
10.15 Employment Agreement between the Company and I. Lykogiannis (Exhibit
10.15 to Amendment No. 2 to Registration Statement on Form S-1 No.
333-46541)
10.16 Employment Agreement between the Company and R. Zanisnik (Exhibit
10.16 to Amendment No. 2 to Registration Statement on Form S-1 No.
333-46541)
10.17 Credit and Security Agreement dated July 9, 1998 between Summit Bank
and the Company (Exhibit 10.17 to Quarterly Report on Form 10-Q for
the quarter ended June 30, 1998)
10.18 Agreement for the sale and purchase of the entire issued share capital
of Workable Company Limited and 60% of the issued share capital of
Plainduty Limited dated as of January 13, 1999 by and among Lam Hok
Ling, Tung Hok Ki, Hacienda Resources Limited, the Company and
Cunningham Graphics International, S.A. (Exhibit 10.18 to Current
Report on Form 8-K for the event occurring on January 13, 1999)
10.19 Service Agreement dated as of January 13, 1999 between Workable
Company Limited and Evan Lam (Exhibit 10.19 to Current Report on Form
8-K for the event occurring on January 13, 1999)
10.20 Service Agreement dated as of January 13, 1999 between Workable
Company Limited and Timothy Tung (Exhibit 10.20 to Current Report on
Form 8-K for the event occurring on January 13, 1999)
10.21 Tenancy Agreement dated as of January 13, 1999 between Workable
Company Limited and Many Best Development Limited (Exhibit 10.21 to
Current Report on Form 8-K for the event occurring on January 13,
1999)
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10.22 Tenancy Agreement dated as of January 13, 1999 between Workable
Company Limited and Splendour Chief Development Limited (Exhibit 10.22
to Current Report on Form 8-K for the event occurring on January 13,
1999)
10.23 Loan Agreement dated February 3, 1999 among Summit Bank, the Company
and Cunningham Graphics Realty, L.L.C. (Exhibit 10.23 to Current
Report on Form 8-K for the event occurring on February 3, 1999)
10.24 Agreement of Sale dated October 28, 1998 between Willco Associates-1,
L.L.C. and the Company (Exhibit 10.24 to Current Report on Form 8-K
for the event occurring on February 3, 1999)
10.25 Amendment to Agreement of Sale between Willco Associates-1, L.L.C. and
the Company dated February 3, 1999 (Exhibit 10.25 to Current Report on
Form 8-K for the event occurring on February 3, 1999)
10.26 Agreement of Sale dated October 28, 1998 between Willco Associates-2,
L.L.C. and the Company (Exhibit 10.26 to Current Report on Form 8-K
for the event occurring on February 3, 1999)
10.27 Amendment to Agreement of Sale between Willco Associates-2, L.L.C. and
the Company dated February 3, 1999 (Exhibit 10.27 to Current Report on
Form 8-K for the event occurring on February 3, 1999)
10.28 Assignment of Agreement of Sale (Exhibit 10.28 to Current Report on
Form 8-K for the event occurring on February 3, 1999)
10.29 Asset purchase agreement dated February 17, 1999 for the sale and
purchase of certain assets and the assumption of certain liabilities
of Boston Towne Press, Inc. by and among Boston Towne Press, Inc.,
John R. Henesey, Jr., Cunningham Graphics International, Inc. and BTP
Acquisition Corp.
10.30 Employment Agreement dated as of February 17, 1999 between BTP
Acquisition Corp. and John R. Henesey Jr.
21 Subsidiaries of the Company
23 Consent of Ernst & Young LLP
24 Power of attorney
27 Financial Data Schedule
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