UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-QSB [X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended June 30, 2000 [ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from _____ to _____. COMMISSION FILE NUMBER: 001-23407 SURREY, INC. (Exact name of registrant as specified in its charter) Texas 74-2138564 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 13110 Trails End Road Leander, Texas 78641 (Address of principal executive offices) (512) 267-7172 (Registrant's telephone number, including area code) Check whether the registrant: (1) 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 ___ On August 11, 2000, the registrant had 2,472,727 outstanding shares of common stock, no par value. Transitional Small Business Disclosure Format (check one); Yes ___ No _X_ SURREY, INC. INDEX PART I - FINANCIAL INFORMATION - ------------------------------ Item 1. Financial Statements (Unaudited) Balance Sheets as of June 30, 2000 and December 31, 1999 Statements of Operations for the Quarter and Six Months Ended June 30, 2000 and June 30, 1999 Statements of Cash Flows for the Six Months Ended June 30, 2000 and June 30, 1999 Notes to Financial Statements Item 2. Management's Discussion and Analysis or Plan of Operations PART II - OTHER INFORMATION - --------------------------- SIGNATURES - ---------- EXHIBITS - -------- -2- SURREY, INC BALANCE SHEETS (IN THOUSANDS) JUNE 30, DECEMBER 31, 2000 1999 ---------- ------------ ASSETS Current assets: Cash and cash equivalents $ 86 $ 0 Accounts receivable, net 2,385 4,091 Inventories 3,140 2,838 Prepaid expenses and other current assets 9 23 Deferred income taxes 143 143 Income taxes receivable 32 40 -------- -------- Total current assets 5,795 7,135 Property and equipment, net 4,192 4,237 Deferred income taxes 318 113 -------- -------- Total assets $ 10,305 $ 11,485 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Bank overdrafts $ 0 $ 450 Trade accounts payable 1,148 1,724 Accrued expenses 284 312 Notes payable 916 0 Current maturities of long-term debt 528 418 Current maturities of capital lease obligations 122 204 -------- -------- Total current liabilities 2,998 3,108 Long-term debt, less current maturities 4,184 4,732 Capital lease obligations, less current maturities 135 196 Commitments and contingencies 0 0 Shareholders' equity: Common stock; no par value: 10,000 shares authorized, 2,473 shares issued and outstanding 4,099 4,099 Common stock warrants: 737 authorized, 675 issued and outstanding 64 64 Retained deficit $ (1,175) $ (714) -------- -------- Total shareholders' equity 2,988 3,449 -------- -------- Total liabilities and shareholders' equity $ 10,305 $ 11,485 ======== ======== SEE ACCOMPANYING NOTES -3- SURREY, INC. STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA) THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, --------------------- --------------------- 2000 1999 2000 1999 ------- ------- ------- ------- Net sales $ 3,910 $ 5,245 $ 7,260 $ 8,577 Cost of sales 2,970 3,954 5,686 6,716 ------- ------- ------- ------- Gross profit 940 1,291 1,574 1,861 Operating expenses: Sales and marketing 203 367 418 651 General and administrative 779 482 1,552 1,021 ------- ------- ------- ------- Total operating expenses 982 849 1,970 1,672 Income (loss) from operations (42) 442 (396) 189 Other income (expense): Interest expense (144) (171) (263) (283) ------- ------- ------- ------- Income (loss) before income taxes (186) 271 (659) (94) Income tax (benefit) provision (60) 83 (192) (28) ------- ------- ------- ------- Net income (loss) $ (126) $ 188 $ (467) $ (66) ======= ======= ======= ======= Income (loss) per share: Basic $ (0.05) $ 0.08 $ (0.19) $ (0.03) Diluted $ (0.05) $ 0.07 $ (0.19) $ (0.03) ======= ======= ======= ======= Weighted average shares outstanding: Basic 2,473 2,473 2,473 2,473 Diluted 2,473 2,823 2,473 2,473 ======= ======= ======= ======= SEE ACCOMPANYING NOTES. -4- SURREY, INC. STATEMENTS OF CASH FLOWS (IN THOUSANDS) SIX MONTHS ENDED JUNE 30, ------------------------- 2000 1999 ------- ------- OPERATING ACTIVITIES Net loss $ (467) $ (66) Adjustments to reconcile net loss to net cash provided by (used in) operating activities: Depreciation 199 184 Changes in operating assets and liabilities: Accounts receivable 1,761 (1,754) Inventories (312) (294) Prepaid expenses and other current assets 14 285 Deferred income taxes 206 3 Trade accounts payable (575) 686 Accrued expenses 42 4 Income taxes receivable/payable 0 26 ------- ------- Net cash provided by (used in) operating activities 858 (926) INVESTING ACTIVITIES Acquisition of property and equipment (113) (617) FINANCING ACTIVITIES Proceeds from notes payable 0 1,350 Proceeds from debt and capital lease obligations 0 344 Payment of long-term debt and capital lease obligations (209) (181) ------- ------- Net cash provided by (used in) financing activities $ (209) $ 1,513 ------- ------- Net increase (decrease) in cash and cash equivalents 536 (30) Cash and cash equivalents, beginning of period (450) 77 ------- ------- Cash and cash equivalents, end of period $ 86 $ 47 ======= ======= SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid during the period for: Interest $ 143 $ 283 Income taxes 0 0 Acquisition of property and equipment under capital leases $ 0 $ 33 SEE ACCOMPANYING NOTES. -5- SURREY, INC. NOTES TO FINANCIAL STATEMENTS JUNE 30, 2000 1. ACCOUNTING POLICIES BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-QSB and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and six- month periods ended June 30, 2000 and 1999 are not necessarily indicative of the results that may be expected for the year ended December 31, 2000. For further information, refer to the financial statements and footnotes thereto included in the Surrey, Inc. annual report on Form 10-KSB for the year ended December 31, 1999. 2. INCOME (LOSS) PER SHARE The following table sets forth the computation of basic and diluted income (loss) per share (in thousands, except per share data): Three Months Ended Six Months Ended June 30 June 30 ---------------------- ----------------------- 1999 2000 1999 2000 ---------------------- ----------------------- Numerator: Net Income (loss) $ 188 $ (126) $ (66) $ (467) Numerator for basic and diluted income (loss) per share - income (loss) available to common stockholders $ 188 $ (126) $ (66) $ (467) -------- -------- -------- -------- Denominator: Denominator for basic income (loss) per share - weighted - average shares 2,473 2,473 2,473 2,473 Dilutive effect of stock options 350 0 0 0 -------- -------- -------- -------- Denominator for diluted income (loss) per share - adjusted weighted - average shares and assumed conversions 2,823 2,473 2,473 2,473 Basic income (loss) per share $ 0.08 $ (0.5) $ (0.03) $ (0.19) -------- -------- -------- -------- Diluted income (loss) per share $ 0.07 $ (0.5) $ (0.03) $ (0.19) -6- Options to purchase 415,000 shares of common stock at $1.53 to $1.68 were issued in April 2000. Options to purchase 317,500 shares of common stock at $4.00 to $4.40 per share; warrants to purchase 675,000 shares of common stock at $4.80 per share; and a warrant to purchase 62,500 Units (consisting of two shares of common stock and one redeemable common stock purchase warrant) at $9.75 per Unit were outstanding during 2000 and 1999 but were not included in the computation of diluted earnings per share because the exercise prices were greater than the average market price of the common shares; therefor, the effect would be antidilutive. 3. CONTINGENCIES The Company is involved in certain claims arising in the normal course of business. An estimate of the possible loss resulting from these matters cannot be made; however, the Company believes that the ultimate resolution of these matters will not have a material adverse effect on its financial position or results of operations. 4. LONG-TERM DEBT As of June 30, 2000, the Company was not in compliance with certain financial covenants specified in its term loan and line of credit agreements. The Company has received a waiver from the lender for such violations. -7- PART I: FINANCIAL INFORMATION ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS The following discussion and analysis provides information that management believes is relevant to an assessment and understanding of the Company's level of operation and financial condition. This discussion should be read with the financial statements appearing in Part I, Item 1 of this report. RESULTS OF OPERATIONS NET SALES. Net sales for the Company reflect total sales less cash discounts and estimated returns. Net sales decreased to $3,910,000 for the three months ended June 30, 2000 from $5,245,000 for the three months ended June 30, 1999, a decrease of 25.5%. Net sales decreased to $7,260,000 for the six months ended June 30, 2000 from $8,577,000 for the six months ended June 30, 1999, a decrease of 15.4%. The substantial decrease in net sales for both periods is primarily attributable to the fact that (1) during first quarter 1999, the Company delivered opening order shipments (initial shipments of products to stock store shelves) for two major accounts, Bath & Body Works glycerin soap and Minnetonka Brands, for its "Star Wars" soap retail distribution project and (2) during second quarter 1999, the Company shipped large follow-on orders to both Bath & Body Works and Minnetonka Brands. The Company currently expects sales volume during the second half of 2000 to be comparable to sales for the second half of 1999. GROSS PROFIT. Gross profit decreased for the three months ended June 30, 2000 to $940,000 from $1,291,000 for the comparable three month period in 1999. Gross profit margin for the three month period decreased slightly from 24.6% in 1999 to 24.0% in 2000. Gross profit decreased for the six months ended June 30, 2000 to $1,574,000 from $1,861,000 for the comparable six month period in 1999. Gross profit margin for the six-month period remained the same at 21.7%. The decrease in gross profit during both periods is attributable to lower sales during the periods, coupled with an increase in salaries and bonuses and the addition of new hires, partially offset by inventory adjustments taken in May 2000. Gross profit margin remained the same even with lower sales primarily due to substantially lower production labor costs. These cost savings are being driven by the Company's use of lower cost seasonal full-time employees instead of higher cost temporary agency workers. OPERATING EXPENSES. Operating expenses increased for the three months ended June 30, 2000 by 13.5% over the three months ended June 30, 1999, and increased as a percentage of net sales; $982,000 (or 25.1% of net sales) in 2000, as compared to $849,000 (or 16.2% of net sales) in 1999. Operating expenses also increased in the six months ended June 30, 2000 by 15.1% over the six months ended June 30, 1999, and increased as a percentage of net sales; $1,970,000 (or 27.1% of net sales) in 2000, as compared to $1,672,000 (or 19.5% of net sales) in 1999. Sales and marketing expenses decreased for both the three months and six months ended June 30, 2000 over the comparable periods in 1999, and decreased in each case as a percentage of net sales. Such expenses for second quarter decreased from $367,000 (or 7.0% of net sales) in 1999 to $203,000 (or 5.2% of net sales) in 2000, and for the six-month period, decreased from $651,000 (or 7.6% -8- of net sales) in 1999 to $418,000 (or 5.8% of net sales) in 2000. The decrease is primarily due to significantly lower sales commissions due to lower sales volume. General and administrative expenses increased for the three months ended June 30, 2000 as compared to the same period in 1999, and also increased as a percentage of net sales, from $482,000 (or 9.2% of net sales) in 1999 to $779,000 (or 19.9% of net sales) in 2000. For the six months ended June 30, 2000, general and administrative expenses increased over the comparable period in 1999, and increased as a percentage of net sales. Such expenses for the six-month period increased from $1,021,000 (or 11.9% of net sales) in 1999 to $1,552,000 (or 21.4% of net sales) in 2000. This increase was primarily due to increased salaries for sales and marketing personnel. INTEREST EXPENSE. Interest expense as a percentage of sales increased slightly in both periods, as a result of higher bank borrowings and rate increases. Interest expense was $144,000 (3.7% of net sales) in the three months ended June 30, 2000, as compared to $171,000 in the three months ended June 30, 1999 (3.3% of net sales). Interest expense was $263,000 (3.6 % of net sales) for the six months ended June 30, 2000, as compared to $283,000 (3.3% of net sales) for the six months ended June 30, 1999. The increase was primarily due to the Company's increased borrowings in connection with its increased inventory needs and the replacement and entire upgrade of its computer system. Increased interest obligations resulted as the Company increased its revolving line of credit to fund working capital, increased its long-term debt by moving an outstanding working capital line to term debt, and incurred new lease financing of approximately $450,000 for new a computer system and for candle making equipment. LIQUIDITY AND CAPITAL RESOURCES The Company's primary sources of liquidity are cash flow from operations, bank and lease financing. Effective April 2000, the Company amended its Loan Agreement with Chase Bank of Texas, National Association ("Lender"). Under the amended Loan Agreement, the Company currently has three outstanding term loans and a revolving line of credit to be used for working capital purposes. The Company has (a) a construction/term loan in the original principal amount of $2,300,000 ("Original Term Loan") with a final maturity in April 2005; (b) a term loan, in the original principal amount of $400,000 ("Second Term Loan") with a maturity of February 2004; and (c) a term loan, in the original principal amount of $1,000,000 ("Third Term Loan") with a maturity of April, 2003. An aggregate of approximately $3,436,000 was outstanding at June 30, 2000 under all three term loans. The Company's current revolving line ("Revolving Note") with the Lender is based, under the amended Loan Agreement, on eligible accounts and eligible inventory and has a final maturity of May 8, 2001. Amounts currently available under the Revolving Note include the lesser of (A) 80% of Eligible Accounts (as defined), plus, on any date between April 1, 2000 and July 31, 2000 or between January 1, 2001 and May 8, 2001, the lesser of 50% of current inventory balance and (x) $1.2 million, or (B) $3,000,000. As of August 1, 2000, the Company had $900,000 outstanding under the Revolving Note and $600,000 in excess borrowing capacity. Under the current Loan Agreement, (a) interest on each of the Second and Third Term Loans and the Revolving Note will float at the Lender's Prime Rate plus 1%, and (b) interest on the Original Term Loan will be fixed at 8.50%. The Company and the Lender have amended the financial covenants under the Loan Agreement on several occasions to provide for reduced financial covenants. Currently, the Loan -9- Agreement contains (among other requirements) the following covenants which are tested quarterly. The Company must maintain: (a) a current ratio of not less than 1.25 to 1.00 as of the end of each calendar quarter after June 30, 1999; (b) a debt to tangible net worth ratio not greater than 2.25 to 1.00 as of the end of each calendar quarter after June 30, 1999; and (c) a debt service coverage ratio, beginning with quarter ending March 31, 2000, of not less than 1.20 to 1.00, with the numerator of the debt service coverage ratio being calculated on a rolling four quarters basis, tested for compliance as of the end of each calendar quarter. At June 30, 2000, the Company was not in compliance with either the debt service coverage ratio or the debt to tangible net worth covenant set forth above and has received a waiver from the Lender for such non-compliance. Interest on each of the term loans and the Revolving Note is payable monthly. Under the Loan Agreement, the Company is required to pay down the Revolving Note and maintain a zero balance for 30 consecutive days once prior to its maturity in April 2001. Principal and interest on the term loans is payable in monthly installments, which aggregate approximately $43,700 per month, increasing to approximately $46,200 per month after April 2001. The Loan Agreement also limits indebtedness by the Company, restricts borrowing under certain equipment leases to $2,000,000, restricts the Company from making or incurring capital expenditures exceeding $2,000,000 in any 12 month period, restricts indebtedness in connection with acquisition of equipment to $200,000 and limits sales of assets. The Loan Agreement also restricts the Company from making any dividends or distributions on its capital stock unless net income equals or exceeds $2,000,000, repurchasing or redeeming any capital stock (other than pursuant to the terms of the Company's Warrants, provided no default would occur under the bank loans), paying any bonus or other non-salary compensation, replacing its President or Chief Financial Officer, or entering into certain related party transactions without prior written consent of Lender. The Company leases certain pieces of its manufacturing equipment pursuant to capital leases. The capital leases currently in effect have maturity dates ranging from dates during 2000 to 2003. Such leases provide that if no event of default exists thereunder the Company may purchase the equipment subject to the lease at the expiration of the lease or may renew the lease. The Company has a lease line of credit with Key Corporate Capital, Inc. (due in 2005) which provides for a $1,562,000 leasing line of credit. The Company drew the entire amount under this line of credit in 1998. The Chief Executive Officer of the Company has personally guaranteed this lease line of credit. Payments under this line are approximately $288,400 per year or $24,000 per month. The Company also has two three year capital lease lines of credit, originally with Winthrop Resources, Inc., in the aggregate amount of approximately $777,000. The Company has fully utilized these lines of credit. Payments under these two lines of credit total approximately $300,000 per year or $25,000 per month. The Company also has a three year capital lease line of credit, originally entered into in March 1999 with Amembal Capital Corporation, in the total amount of approximately $416,000. Payments under this line of credit are approximately $70,900 per year or $5,900 per month. -10- During second quarter 2000, the Company completed a system-wide replacement and upgrade of its computer system. The final cost of this replacement was $325,000, which has been financed through a three-year operating lease with Softech Financial. The Company began drawing on the lease line in first quarter and the final lease closed in July 2000. Payments under this line of credit are approximately $114,000 per year or $9,500 per month. During second quarter 2000 the Company added an additional seven-year $125,000 operating lease line of credit to provide financing for its new candle production line. The development of this new production line was financed out of operating funds, $125,000 of which has been replaced by the proceeds of this line of credit during second quarter 2000. Payments under this line of credit are expected to be approximately $36,000 per year or $3,000 per month. The Company believes that cash expected to be provided by future operations and its current bank loans and financing leases will be sufficient to meet its working capital and anticipated capital expenditure requirements during 2000. However, the Company may need to seek additional working capital financing if net sales increase more than currently anticipated. The Company experiences seasonal fluctuations in operating results, with sales and revenues generally higher during the third and fourth calendar quarters, reflecting primarily orders for the holiday retail season. Orders shipped in the third and fourth quarters generally account for approximately 60% of the Company's total net sales for the year. FORWARD LOOKING INFORMATION Statements contained in this report regarding the Company's future operations, including its growth strategy, future performance and results, its ability to meet its working capital and capital expenditure needs, increased sales, anticipated liquidity, and any reduction in expenses as a percentage of net sales, are forward-looking and therefore are subject to certain risks and uncertainties. Any forward-looking information regarding the operations of the Company will be affected by the continued receipt of large orders from the Company's significant customers, including Bath & Body Works, the Company's ability to effectively manage its costs of operation, its ability to continue to increase its marketing and sales efforts in order to take advantage of its increased production facilities, and the continued availability of all of the Company's current and anticipated lines of credit. Any forward looking information regarding an increase in the Company's gross profit margin also will be affected by the Company's ability to implement its strategy of increasing sales and its customer base, focusing on the sales of higher margin products, and the Company's ability to efficiently utilize its expanded facilities and effectively manage its labor costs. There can be no assurance that the Company will be successful in efficiently managing its growth in order to maximize potential production and contain costs. PART II: OTHER INFORMATION ITEM 1 LEGAL PROCEEDINGS The Company is, from time to time, involved in legal proceedings arising in the normal course of business. No current proceeding is expected to result in any material loss to the Company. -11- ITEM 2 CHANGES IN SECURITIES AND USE OF PROCEEDS None. ITEM 3 DEFAULTS UPON SENIOR SECURITIES None. ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS On March 27, 2000, proxy statements were mailed to the holders of record of 2,472,727 shares of common stock to solicit proxies in connection with the Annual Meeting of Shareholders on May 2, 2000. Shareholders holding 2,454,418 shares were present, in person or by proxy. Four proposals were submitted to a vote of shareholders. Vote ----------------------------------- Matter For Withhold Authority ------ --- ------------------ 1. Election of Directors: 2,440,068 1,000 John B. van der Hagen 2,440,068 1,000 Martin J. van der Hagen 2,440,068 1,000 Mary A. van der Hagen 2,440,068 1,000 Bruce Masucci 2,440,068 1,000 G. Thomas MacIntosh 2,440,068 1,000 2. Approval and Adoption of 2000 Long-Term Incentive Plan ----------------------------------------------------- For Against Abstain --- ------- ------- 1,393,280 40,250 1,317 3. Approval and Adoption of Amendment to 1997 Non-Employee Directors' Plan ----------------------------------------------------- For Against Abstain --- ------- ------- 1,377,580 55,950 1,317 4. Ratification and Appointment of Grant Thornton as independent auditors for fiscal year 2000 ----------------------------------------------------- For Against Abstain --- ------- ------- 2,448,418 5,000 1,000 -12 ITEM 5 OTHER INFORMATION In July 2000, the Company was notified by The Nasdaq that it was not currently in compliance with the continued listing requirement that its stock price maintain a bid price of $1.00 or above. Under The Nasdaq rules, the Company has until October 12, 2000 to come into compliance with such requirement; otherwise, The Nasdaq has the right to delist the Company's common stock. ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibit 27. - Financial Data Schedule (b) The Company filed no Reports on Form 8-K during the reporting period. -13- SIGNATURES In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. SURREY, INC. (Registrant) Date: August 11, 2000 By: /s/ Martin van der Hagen -------------------------------------- Martin van der Hagen President By: /s/ Mark van der Hagen -------------------------------------- Mark van der Hagen Chief Financial Officer -14-