UNITED STATES SECURITIES & EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
Quarterly report pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the quarterly period ended September 30, 1998
Commission File Number 0-23604
DAKOTAH, INCORPORATED
(Exact Name of Registrant as Specified in Its Charter)
South Dakota 46-0339860
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation of Organization) Identification Number)
One North Park Lane
Webster, SD 57274
(Address of Principal Executive Offices, Zip Code)
Registrant's Telephone Number, Including Area Code: (605) 345-4646
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 and (2) has been subject to such filing requirements for
the past 90 days.
Yes: X No:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date.
Common stock, $.01 par value, 3,499,755 shares outstanding
----------------------------------------------------------
as of November 20,1998.
-----------------------
DAKOTAH, INCORPORATED
INDEX
PART I. FINANCIAL INFORMATION
- --------------------------------------------------------------------------------
Item 1. Financial Statements
Balance Sheets:
September 30, 1998 (Unaudited) and
December 31,1997 (Audited)............................. 3
Statements of Operations (Unaudited):
Three and nine month periods ended
September 30, 1998 and 1997............................ 4
Statements of Cash Flows (Unaudited):
Nine month periods ended
September 30, 1998 and 1997............................ 5
Notes to Financial Statements................................ 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.................... 9
PART II. OTHER INFORMATION
- --------------------------------------------------------------------------------
Items 1 through 5 have been omitted since
items are inapplicable or answer is negative
Item 6. Exhibits and Reports on Form 8-K
a) Exhibit Number: Description:
--------------- ------------
27.1 Financial Data Schedule
b) Reports on Form 8-K None
2
ITEM 1: Financial Statements
DAKOTAH, INCORPORATED
BALANCE SHEETS
(UNAUDITED)
September 30, December 31,
1998 1997
------------ ------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 17,708 $ 45,084
Accounts receivable, less allowance
for doubtful accounts of $275,000
in 1998 and $326,000 in 1997 3,163,023 4,491,697
Inventories 9,410,542 15,423,002
Income taxes receivable -- 963,000
Prepaid expenses and other 361,195 449,323
Deferred income taxes 848,800 568,800
------------ ------------
Total current assets 13,801,268 21,940,906
------------ ------------
PROPERTY, PLANT AND EQUIPMENT - AT COST
Land 36,000 36,000
Buildings and improvements 2,418,374 2,418,374
Leasehold improvements 130,046 130,046
Machinery and equipment 3,288,046 3,278,933
Office equipment, furniture and fixtures and other 3,379,863 2,858,139
------------ ------------
9,252,329 8,721,492
Less accumulated depreciation & amortization 4,164,926 3,382,135
------------ ------------
Property, plant and equipment - net 5,087,403 5,339,357
------------ ------------
OTHER ASSETS
Deferred income taxes 179,000 179,000
Other 9,200 9,200
------------ ------------
Total other assets 188,200 188,200
------------ ------------
TOTAL ASSETS $ 19,076,871 $ 27,468,463
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Outstanding checks in excess of bank balances $ 280,665 $ 452,784
Short-term debt 11,725,334 12,797,736
Current maturities of long-term obligations 210,160 80,549
Current maturities of capital lease obligations, including
$31,002 and $27,117 to related parties in 1998 and 1997 208,938 197,942
Current maturities of note payable to officer 263,800 263,800
Accounts payable 2,062,495 1,781,996
Accrued liabilities
Compensation and related benefits 570,935 566,165
Other 503,578 758,343
------------ ------------
Total current liabilities 15,825,905 16,899,315
------------ ------------
LONG-TERM LIABILITIES
Long-term maturities of long-term obligations 1,195,741 1,211,895
Long-term maturities of capital lease obligations, including
$40,870 and $57,069 to related parties in 1998 and 1997 441,190 601,311
------------ ------------
Total long-term liabilities 1,636,931 1,813,206
------------ ------------
STOCKHOLDERS' EQUITY
Common stock, par value $.01; 10,000,000 shares authorized;
3,499,755 shares issued and outstanding 34,998 34,998
Additional contributed capital 7,180,855 7,180,855
Retained earnings (accumulated deficit) (5,601,818) 1,540,089
------------ ------------
Total stockholders' equity 1,614,035 8,755,942
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 19,076,871 $ 27,468,463
============ ============
The accompanying notes are an integral part of these statements.
3
DAKOTAH, INCORPORATED
STATEMENTS OF OPERATIONS
(UNAUDITED)
Three months ended September 30, Nine months ended September 30,
1998 1997 1998 1997
------------ ------------ ------------ ------------
Net sales $ 4,943,828 $ 13,158,468 $ 14,039,597 $ 26,696,554
Cost of goods sold 5,877,063 9,667,854 14,623,093 19,846,030
------------ ------------ ------------ ------------
Gross profit (933,235) 3,490,614 (583,496) 6,850,524
Operating expenses
Selling 928,960 1,436,096 2,778,138 3,641,549
General and administrative 1,016,530 1,316,336 2,987,455 3,582,539
------------ ------------ ------------ ------------
1,945,490 2,752,432 5,765,593 7,224,088
------------ ------------ ------------ ------------
Operating profit (loss) (2,878,725) 738,182 (6,349,089) (373,564)
Other income (expense)
Interest expense (373,762) (414,125) (1,108,842) (767,724)
Other 11,588 -- (6,532) --
------------ ------------ ------------ ------------
(362,174) (414,125) (1,115,374) (767,724)
------------ ------------ ------------ ------------
Net income (loss) before
income taxes (3,240,899) 324,057 (7,464,463) (1,141,288)
Income tax expense (benefit) -- 94,000 (322,556) (397,000)
------------ ------------ ------------ ------------
Net income (loss) $ (3,240,899) $ 230,057 $ (7,141,907) $ (744,288)
============ ============ ============ ============
Net income (loss) per share -
basic and dilutive $ (0.93) $ 0.07 $ (2.04) $ (0.21)
============ ============ ============ ============
Weighted average
common shares outstanding -
basic and dilutive 3,499,755 3,499,755 3,499,755 3,499,755
============ ============ ============ ============
The accompanying notes are an integral part of these statements.
4
DAKOTAH, INCORPORATED
STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine months ended September 30,
1998 1997
------------ ------------
Cash flows from operating activities:
Net loss $ (7,141,907) $ (744,288)
Adjustments to reconcile net loss to net
cash provided by operating activities
Depreciation and amortization 782,789 559,859
Compensation to outside consultant -- 100,683
Deferred income taxes (280,000) --
Changes in assets and liabilities:
Accounts receivable 1,328,674 (1,996,446)
Inventories 6,012,460 (10,088,090)
Prepaid expenses 88,128 406,060
Income taxes 963,000 (519,067)
Accounts payable 280,499 2,721,870
Accrued liabilities (249,995) (152,743)
------------ ------------
Net cash provided by (used in) operating activities 1,783,648 (9,712,162)
------------ ------------
Cash flows from investing activities:
Capital expenditures (349,508) (766,903)
Acquisition of long-lived assets not place in service -- (588,559)
Other -- (5,000)
------------ ------------
Net cash used in investing activities (349,508) (1,360,462)
------------ ------------
Cash flows from financing activities:
Outstanding checks in excess of bank balance (172,119) 888,268
Net borrowings under notes payable to bank (1,072,402) 9,641,555
Net payments under short-term debt agreements -- --
Proceeds from issuance of long-term obligations -- 880,000
Proceeds from borrowings from officers -- 25,000
Principal payments on long-term and
capital lease obligations (216,995) (158,850)
Principal payments on note payable to officer -- (197,501)
------------ ------------
Net cash provided by (used in) financing activities (1,461,516) 11,078,472
------------ ------------
Net increase (decrease) in cash and cash equivalents (27,376) 5,848
Cash and cash equivalents at beginning of period 45,084 2,690
------------ ------------
Cash and cash equivalents at end of period $ 17,708 $ 8,538
============ ============
Supplemental disclosure of non-cash investing/financing activities:
Acquisitions of property, plant and equipment through
capital lease arrangements $ 181,327 $ 502,707
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 1,110,788 $ 676,548
Income taxes -- 141,210
The accompanying notes are an integral part of these statements.
5
DAKOTAH, INCORPORATED
NOTES TO FINANCIAL STATEMENTS
NOTE A: BASIS OF PRESENTATION
The accompanying unaudited condensed financial statements have been prepared in
accordance with the instructions of Form 10-Q pursuant to the rules and
regulations of the Securities and Exchange Commission. Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to such rules and regulations, although management believes
that the disclosures are adequate to make the information presented not
misleading.
In the opinion of management, the unaudited condensed financial statements
contain all adjustments consisting of normal recurring accruals necessary to
present fairly the financial position of the Dakotah, Inc. (the "Company") as of
September 30, 1998 and the results of operations for the three and nine month
periods ended September 30, 1998 and 1997 and the cash flows for the nine month
periods ended September 30, 1998 and 1997. These results are not necessarily
indicative of results which may be expected for the year as a whole.
The preparation of financial statements, in conformity with generally accepted
accounting principles, requires management to make estimates and assumptions
that affect the reported amount of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
NOTE B: INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out) or market and
consist of the following:
September 30, December 31,
1998 1997
------------ ------------
Raw Materials $ 4,458,223 $ 7,606,938
Work-In-Process 1,146,357 957,972
Finished Goods 3,805,962 6,858,092
------------ ------------
$ 9,410,542 $ 15,423,002
============ ============
NOTE C: RECLASSIFICATIONS
Certain amounts from the 1997 financial statements have been reclassified to
conform with the 1998 presentation.
6
NOTE D: SHORT-TERM DEBT
The Company has a credit facility with a financial institution consisting of a
revolving note and a term note which terminates in June 1999. The total amount
available under the revolving note, which is due on demand, is the lesser of
$15,000,000 or a defined borrowing base of eligible receivables, and inventory
balances, plus outstanding amounts under the term note, plus $1,000,000.
Advances under the revolving note, based on eligible receivables, inventory
balances and the additional $1,000,000 provide for monthly interest payments at
1%, 3% and 4% above the financial institution's prime rate (effective rates of
9.5%, 11.5% and 12.5% at September 30, 1998). Advances under the term note,
which is due on demand, requires monthly principal payments of $33,333, although
the financial institution has temporarily suspended the principal payments.
Monthly interest payments are computed based on 1% above the financial
institution's prime rate (effective rate of 9.5% at September 30, 1998). The
outstanding balances on the revolving note and term note were $10,225,330 and
$1,500,004 at September 30, 1998 and $10,997,734 and $1,800,002 at December 31,
1997, respectively.
In March, 1998, the Company renegotiated certain terms and covenants of its
credit facility. As part of that process, the Company obtained the additional
$1,000,000 of availability, above the amount of its borrowing base, under the
revolving note at the financial institution's prime rate plus 4%. The
renegotiated terms originally intended for the additional $1,000,000
availability to expire on July 31, 1998. The financial institution has allowed
the Company to retain this availability. Additionally, the financial institution
has allowed the Company to increase this additional availability up to a maximum
of $2,600,000. No formal arrangement exists with respect to these additional
advances. The total amount provided for all of the notes, cannot exceed
$15,000,000.
The current credit facility contains affirmative and negative covenants
including, among other things, provisions for minimum net earnings, minimum
tangible and book net worth requirements, and limitations on capital
expenditures. Additionally, the Company may not incur additional borrowings,
sell certain assets, acquire other businesses or pay cash dividends without
prior written consent. The Company was not in compliance with the minimum net
earnings and net worth covenants as of September 30, 1998; however, the
financial institution has not exercised any of its remedies available to it in
under the terms of the agreement in the case of such default, nor has it
informed the Company of its intention to do so.
7
NOTE E: FINANCING EFFORTS AND STRATEGIC ALLIANCES
While the Company had anticipated a decline in sales and gross margin for the
first half of 1998, the extent of those declines significantly exceeded what was
originally anticipated by management. These declines continued into the third
quarter and have continued into the fourth quarter of 1998 as well. As a result
of the declining margins and sales in the first nine months of 1998 and expected
declines in sales and margins in the near term, the Company determined that
additional funds, in the form of debt or equity, would be required to continue
operations through 1999, as the Company's current cash flows generated from
operations and funds available as a result of its borrowing capacity are
insufficient to meet its working capital, projected capital expenditures and
other financing needs for the future. In conjunction with these needs, the
Company hired a consultant in the second quarter of 1998 to assist in obtaining
this financing. In the third quarter, the Company ceased using this consultant
and hired a turnaround specialist to help the Company develop and implement a
restructuring plan to improve the Company's cash flow.
At this time, the Company has not obtained the necessary financing nor has it
received a commitment for such financing.
The Company entered into an agreement during the third quarter of 1998 with
Faribault Woolen Mill Company ("Faribault"), whereby the Company would merge
with Faribault. This agreement, is subject to the satisfactory conclusion of due
diligence, the signing of a definitive agreement, shareholder approval and
regulatory clearance and further improvement in the Company's sales and cash
flows. Management believes that it has, and is still in the process of, taking
the necessary steps to accomplish its goals in improving sales and cash flows in
order to complete the transaction with Faribault. For additional information,
refer to Management's Discussion and Analysis of Financial Condition and Results
of Operations.
8
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW:
Dakotah(R) Inc. (the "Company") designs, manufactures and markets textile home
fashion furnishings which are both functional and decorative. Its principal
products are decorative pillows, throws (polyester fleece and cotton), blankets,
bedroom ensembles and other home accessory products such as footstools, chair
pads and table linens. The Company's objective has been to build a strong brand
image associated with fashionable styling and high quality products. It markets
its products (primarily under the Dakotah(R) and Polarfleece(R) names and
various licensed names) to a broad range of major retailers, including
department stores, specialty retailers, mass merchandisers and mail order
houses, both domestic and international. Showrooms for the Company's products,
which support sales are located across the country in New York, Chicago, Denver
and Seattle.
RESULTS OF OPERATIONS:
The following table sets forth the percentage relationship to net sales of
certain items in the Company's statements of operations for the three and nine
month periods ended September 30, 1998 and 1997.
Percentage of Net Sales for Percentage of Net Sales for
the three month period ended the nine month period ended
September 30, September 30,
1998 1997 1998 1997
--------------------------- ----------------------------
Net Sales 100.0% 100.0% 100.0% 100.0%
Gross Profit (Loss) (18.9) 26.5 (4.2) 25.7
Selling Expenses 18.7 10.9 19.8 13.6
General & Administrative 20.6 10.0 21.3 13.4
Operating Loss (58.2) 5.6 (45.2) (1.4)
Interest Expense 7.6 3.1 7.9 2.9
Income (Loss) Before
Income Taxes (65.6) 2.5 (53.2) (4.3)
Net Income (Loss) (65.6) 1.7 (50.9) (2.8)
NET SALES decreased 47.4% to $14,040,000 for the nine months ended September 30,
1998 from $26,697,000 in the same period of 1997. Net sales decreased from
$13,158,000 in the third quarter of 1997,to $4,944,000 in the third quarter of
1998. The decrease in sales for the nine months ended September 30,1998 is
primarily due to the heavy discounting the Company has undertaken to liquidate
its excess inventories which it carried from 1997, an overall decline in orders
for the first nine months of the year due to excess
9
inventory levels of its primary customers, and a fall off in orders resulting
from dissatisfaction of certain customers resulting from poor delivery
performance.
Additionally, in connection with the changeover of operations associated with
the computer systems conversion in June 1998, the Company experienced a slowdown
of manufacturing and shipping operations. This slowdown resulted in the
Company's inability to meet delivery dates for a number of scheduled orders. In
November 1998, the Company upgraded its main processing unit in its computer
system. The previous processor was not sufficient to run the Company's new
systems. Management believes this upgrade will result in immediate increased
system performance in operations, customer and internal support efficiencies and
other cost savings.
In order to diminish the Company's dependence on retailers and the associated
risks of returns, markdowns, inappropriate chargebacks and other issues, the
Company is currently focusing substantial resources toward the development of
the institutional and the gift and specialty markets. During the second quarter,
the Company was successful in significantly expanding its sales force in the
gift and specialty markets by aligning itself with several premier
representative organizations located throughout the United States. The Company
expects to see more significant results of these efforts in future quarters. The
Company has also entered into an informal arrangement with its financial
institution which allows it to liquidate additional inventory with heavier
discounting than during the first three quarters of 1998. As a result, although
the number of shipments have increased, the actual sales dollars will be
negatively impacted.
GROSS MARGIN PERCENTAGES decreased from 25.7% in the first nine months of 1997
to a loss of 4.2% in the first nine months of 1998. During the third quarter of
1998, compared to the same period of 1997, gross profit percentages decreased to
a loss of 18.9% from a profit of 26.5%. This decline in gross margin is due
primarily to (1) substantial increase in inventory reserves which increased
$1,624,000 in the third quarter of 1998 as compared to $115,000 in the third
quarter of 1997, (2) the heavy discounting of inventory, as mentioned above, (3)
an increase in closeout sales as compared to the same periods of 1997, (4)
substantial impact to cost of goods sold due to volume variances resulting from
the decline in sales , and a slowdown of manufacturing and shipping in January
1998 and again in June of 1998, following the computer systems conversion. The
negative impacts were somewhat offset by the positive impacts on variances of
(1) decreased manufacturing overhead spending, excluding the effects of the
inventory reserves, which declined from $4,490,000 in the nine months half of
1997 to $2,983,000 in the first nine months of 1998 and (2) increased direct
labor efficiencies.
During the fourth quarter of 1998, the Company closed two of its manufacturing
facilities located in Veblen and Sisseton, South Dakotah. The operations
associated with these facilities were transferred to the Webster and Milbank
facilities. These plant closings will have a positive impact on manufacturing
overhead, although capacities will be diminished. The Company believes it has
sufficient capacity to meet current and projected orders. The Company has also
entered into an agreements to sell both facilities
10
in exchange for the assumption of certain outstanding debt which approximates
the current appraised value.
SELLING EXPENSES decreased $864,000 from $3,642,000 in the first nine months of
1997 to $2,778,000 in the first nine months of 1998. The decrease is primarily
the result of the lower level of sales for the period, as well as the Company's
cost reduction efforts. The decrease in selling expenses is primarily comprised
of (1) decreased commission and shipping expense of $775,000 and $256,000,
respectively, which directly correlates to the decreased sales for the period,
(2) decreased costs of catalog and promotional literature of approximately
$113,000 and (3) decreased cost of showroom decorating and supplies of
approximately $92,000. These decreases were offset by higher salary and payroll
expenses, resulting from the Company's hiring of two full-time sales regional
representatives in the second half of 1997, as well as its Vice President of
Sales and Marketing in March of 1998. As a percentage of net sales, selling
expenses increased to 19.8% in the first nine months of 1998 from 13.6% in the
first nine months of 1997 as a result of the substantially lower net sales
levels.
GENERAL AND ADMINISTRATIVE EXPENSES decreased from $3,583,000 in the first nine
months of 1997 to $2,987,000 in the first nine months of 1998. The decrease is
primarily due to the Company's cost reduction efforts, specifically (1)
decreased payroll and related expense of approximately $177,000, (2) a decrease
in professional fees of $128,000, resulting from reduced legal and accounting
fees, as well as a decrease in other professional fees for the compensation paid
to the Company's former Chief Executive Officer, (3) decreased computer leasing
and supplies expense of $170,000, (4) decreased travel and related expenses of
$122,000 and (5) a decrease in recruiting fees of $70,000, which related to
senior management recruiting in 1997, and numerous other smaller decreases.
These decreases were partially offset by increased depreciation expense of
$219,000, relating to substantial computer hardware acquisitions which were put
into service in the second half of 1997 and amortization of capitalized computer
software and consulting expenses relating to the system conversion in June 1998.
As a percentage of net sales, general and administrative expenses increased from
13.4% in the first nine months of 1997 to 21.2% in the first nine months of 1998
as the substantially lower net sales more than offset the expense reductions.
The Company has instituted a plan to substantially reduce general and
administrative expenses from 1997 levels. During the last month of 1997 and
continuing through the first nine months of 1998, as well as into the fourth
quarter of 1998, the Company has reduced the majority of the monthly expenses
which had increased in 1997. The reductions, as compared to 1997, are expected
to continue.
INTEREST EXPENSE increased from $768,000 in the first nine months of 1997 to
$1,109,000 in the first nine months of 1998. Interest expense decreased in the
third quarter of 1998 to $374,000 as compared to $414,000 in the third quarter
of 1997. The increase in interest expense in the first nine months of 1998 is
the result of higher average borrowings to finance the higher levels of
inventory carried into 1998 as compared to 1997, and to
11
finance losses and capital expenditures occurring in 1997 and through the first
half of 1998. The Company expects interest expense to continue to decline as
inventory is liquidated and borrowing reduced.
The EFFECTIVE INCOME TAX RATE was 4.3% for the first nine months of 1998, as
compared to 34.5% for the first nine months of 1997. The Company has deferred
tax assets of approximately $748,000. Realization of these assets is dependent
on the Company's ability return to profitability, which management expects to
occur in late 1999. Realization of these tax benefits is dependent on margins
returning to pre-1997 levels and management's efforts at cost reductions. The
Company believes that it is more likely than not that it will recover these
deferred tax assets in the future.
RESTRUCTURING PLANS - During the first quarter of 1998, the Company presented an
annual budget for 1998 which called for, among other items (1) a reduction of
general and administrative expenses of approximately $1,500,000, (2) a reduction
of manufacturing overhead expenses of approximately $2,000,000 and (3) a
substantial reduction in capital expenditures. The Company also continues to
work toward improvement of systems and controls over inventory, including
improvements in purchasing, forecasting, disposition of slow moving products and
pricing controls. It is expected that the changes in inventory will
substantially reduce inventory writedowns in 1999 and future years which have
grown from less than $400,000 in 1995 to almost $2,000,000 in 1998. As mentioned
above, the Company has been successful, in varying degrees, in its cost cutting
efforts.
Part of this restructuring process undertaken included the restructuring of the
Company's product lines. During the second quarter, the Company establish two
separate distinct and lines, Dakotah Home and Dakotah Limited, which focus on
the major retailer and gift and specialty markets, respectively. As a part of
this line distinction, the Company also substantially reduced the number of
products offered, which is expected to provide product development and
manufacturing efficiencies into the future.
The Company also has entered into an informal agreement with its financial
institution to allow the Company to further liquidate its excess inventories
through the creation of additional borrowings in excess of its advance rates.
Secondly, certain other secured lenders have allowed the Company to suspend
principal and interest payments on associated debt. Finally, as previously
mentioned, the Company has closed two of its manufacturing facilities, entered
into a letter of intent for the sale of the closed manufacturing facilities in
exchange for the assumption of debt and is in the process of consolidating its
corporate staff and selling or leasing its office building located in Webster,
South Dakota.
STRATEGIC ALLIANCES - In August 1998, the Company announced an agreement with
Faribault Woolen Mill Company ("Faribault") where, subject to the satisfactory
conclusion of due diligence, the signing of a definitive merger agreement,
shareholder approval, regulatory clearance and further improvements in the
Company's sales and cash
12
flows, the Company will join forces in a merger. The agreement includes: (1) An
exchange of newly issued shares of Dakotah stock for 100 percent of the issued
and outstanding shares of stock of Faribault, which will result in Faribault
stockholders owning approximately 55 percent of the outstanding shares of
Dakotah. This percentage is subject to change as a result of either or both
companies raising additional capital or changes in capital structure; and (2)
The immediate development and implementation of plans to share production,
product development and design capabilities, sales management, retail
operations, as well as certain operational and information systems.
In conjunction with the plans to share certain resources, the companies are
negotiating the sharing of certain showrooms, sales representatives and selling
expenses of Dakotah with Faribault. Faribault would reimburse Dakotah for a
portion of the expenses related to Dakotah's showrooms, sales representatives
and certain selling expenses.
The ability of the Company to succeed in its restructuring plans and close its
merger with Faribault is dependent on further reductions in expenses and
inventory, an improvement in sales and identifying efficiencies in the merger
which together increase the likelihood that the Company's debt can be
restructured and/or equity obtained. The Company believes that it must, over the
long term, secure additional funds in the form of debt or equity.
During the fourth quarter of 1998, William Retterath the Chief Operating Officer
and Chief Financial Officer resigned from Dakotah. Steve Sewell has assumed the
responsibility of Chief Operating Officer and the Company has contracted the
services of a consultant to act as interim Chief Financial Officer while the
Company searches for a permanent Chief Financial Officer.
In conjunction with these needs and its other restructuring efforts, the Company
hired a consultant late in the third quarter of 1998 to assist in its efforts.
The Company remains diligent in exploring all available options, however, there
is no assurance that the Company will be successful in its efforts.
13
LIQUIDITY AND CAPITAL RESOURCES
Working capital (deficit) was approximately $(2.0) million as of September 30,
1998 and $5.0 million as December 31, 1997.
The net cash provided by operating activities during the first nine months of
1998 was primarily used to repay borrowings under the revolving note, make
principal and interest payments on term debt obligations and for capital
expenditures primarily for equipment and external consulting costs necessary to
complete the computer systems conversion during the second quarter.
Accounts receivable were approximately $3,163,000 as of September 30, 1998 and
$4,492,000 as of December 31, 1997. The decrease in the first nine months of
1998 was due to significantly lower sales in the third quarter of 1998 as
compared to the fourth quarter of 1997.
The allowance for doubtful accounts decreased from $326,000 at December 31, 1997
to $275,000 at September 30, 1998. The Company estimates the allowance for
doubtful accounts based on the best information available to management. The
decrease from December 31, 1997 is directly related to the overall decrease in
accounts receivable as well as liquidation in the second quarter of the
Company's claim in a bankruptcy of customer, as well as the completion of
bankruptcy proceedings for a number of smaller customers. Management believes
that the allowance is adequate to provide for any additional losses which may
occur.
Inventories were approximately $9,411,000 as of September 30, 1998 and
$15,423,000 as of December 31, 1997. The decrease of $6.0 million from December
31, 1997 to September 30, 1998 is primarily related to decreases of finished
goods and raw materials of Polarfleece(R) products as well as decreased pillow
inventories. The decreases were the results of the Company's continued efforts
to reduce inventory levels. The Company will continue to gradually reduce
inventory levels in the fourth quarter of 1998 and in 1999. However, due to
continued slow sales during the first nine months of 1998, the reduction was not
as significant as the Company had expected. Accordingly, in the third quarter of
1998, the Company recorded a charge to cost of goods sold of approximately $1.6
million as an estimate of further losses to be incurred in reducing inventory.
Although management believes this reserve is sufficient, it is reasonably
possible that in the near term losses may be significantly different from
estimates.
Accounts payable were approximately $2,062,000 as of September 30, 1998 and
$1,782,000 as of December 31, 1997. The increase as of September 30, 1998 is
primarily related to a longer average outstanding period for the Company's
payables, necessitated by reduced borrowing availability under the Company's
revolving line of credit throughout the second and third quarters of 1998. This
limited borrowing capacity and the need for continued support of trade creditors
through lengthened credit terms will continue into the fourth quarter.
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The total amount available under the revolving note, which is due on demand, is
limited to the lesser of $15,000,000 or a defined borrowing base of receivables,
inventory balances, plus outstanding amounts under the term note, plus
$1,000,000. Advances under the revolving note, based on eligible receivables,
inventory balances, and the additional $1,000,000, provide for monthly interest
payments at 1%, 3% and 4%, respectively, above the financial institution's prime
rate (effective rates of 9.5%, 11.5% and 12.5%, respectively at September 30,
1998). Advances under the term note, which is due on demand requires monthly
principal payments of $33,333, although the financial institution has
temporarily suspended the principal payments. Monthly interest payments are
computed at 1% above the financial institution's prime rate (effective rate of
9.5% at September 30, 1998). The outstanding balances on the revolving note and
term note were $10,225,330 and $1,500,004 at September 30, 1998 and $10,997,734
and $1,800,002 at December 31, 1997, respectively.
In addition, the financial institution has allowed the Company to increase the
additional $1,000,000 of availability up to a maximum of $2,600,000. No formal
arrangement exists with respect to these additional advances.
For the nine months ended September 30, 1998, the Company's capital expenditures
were $531,000. These expenditures include $488,000 for the acquisition of
additional computer hardware and software and capitalized external consulting
costs necessary for the Company's information systems conversion which occurred
during the second quarter. The remaining $43,000 was primarily used for trade
show exhibit structures and equipment. The Company upgraded its processor for
its main computer mid-way through the fourth quarter of 1998. The previous
processor was not sufficient to run the Company's new software and user capacity
efficiently. Management believes this upgrade will result in immediate and long
term cost savings through additional staff reductions and support efficiencies.
The Company does not have plans for any other material capital expenditures as a
result of its cost reduction initiatives.
Upon termination of the officers' stock appreciation program in 1994, the
Company became indebted to the Company's President and a former Executive Vice
President in the aggregate amount of $1,318,000. The total outstanding
indebtedness was $263,800 as of September 30, 1998 and December 31, 1997. This
indebtedness bears interest at 12% per annum and is due on demand.
As stated above, the Company determined and announced that additional funds, in
the form of debt or equity, would be required to continue operations through
1999, as the Company's current cash flows generated from operations and funds
available as a result of its borrowing capacity are insufficient to meet its
working capital, projected capital expenditures and other financing needs for
the future. The Company also determined that it needed to evaluate various
equity options, including strategic alliances. As discussed in Management's
Discussion of Results of Operations, the Company has entered into an agreement
with Faribault.
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At this time, the Company has not obtained the necessary financing nor has it
received a commitment for such financing. The Company continues with its efforts
to complete its merger with Faribault and at the same time explore other equity
options, including other strategic alliances. There is no assurance that the
Company will be successful in its efforts.
The Company and hired a specialist late in the third quarter of 1998 to assist
in developing and implementing a restructuring plan. The Company has
significantly reduced annualized payroll costs and is continuing to reduce or
eliminate other fixed costs as well as sell excess equipment. The Company also
has an agreement with certain lenders to exchange two manufacturing facilities
for the outstanding mortgages on the buildings and property, of which the fair
market value of the buildings and property approximates the outstanding loan
balances. This transaction is expected to be completed in the fourth quarter of
1998. Additionally, the Company is in the process of consolidating its corporate
headquarters into its production facility in Webster, South Dakota and selling
or leasing its corporate headquarters.
IMPACT OF YEAR 2000 ON THE COMPANY
The widespread use of computer programs, both in the United States and
internationally, that rely on two digit date fields to perform computations and
decision making functions may cause computer systems to malfunction when
processing information involving dates beginning in 1999. Such malfunctions
could lead to business delays and disruptions. The Company has substantially
completed its internal Year 2000 readiness. The system implementation and
conversion in June 1998 brought the Company's systems to Year 2000 compliant.
Company management is not aware currently of any material impediments to the
completion of its Year 2000 readiness plan.
Non-IT Systems Remediation Status
The Company considers its non-information technology ("non-IT") systems to
consist of essentially two elements: office facilities and communications
systems, including telephone and facsimile systems. The Company owns space for
home office and production facilities. The Company is undertaking reasonable
efforts to ensure timely Year 2000 readiness for such facilities and continues
to monitor the progress. Telephone switching equipment and facsimile server
systems are essential to the business operations of Dakotah. The Company's
management believes that the facilities communications systems will be Year 2000
ready on a timely basis.
IT Systems Remediation Status
With respect to its internal systems, the Company's upgrade and conversion in
June 1998 brought substantially all of the systems to Year 2000 readiness. Very
few remaining systems are deemed to be obsolete and will not be used in a Year
2000 ready business
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environment. Remaining plans are in various stages of renovation or development.
Management believes that all existing IT systems undergoing renovation will have
been internally certified as Year 2000 ready by the end of the first quarter of
1999.
Year 2000 and IT Expenditures
The Company's enterprise-wide Year 2000 readiness efforts are currently
estimated to cost approximately $200,000 in excess of the cost of ordinary
software upgrades and replacements and will primarily be incurred in 1998 and
funded through working capital. The majority of these funds were incurred prior
to June 1998 in connection with the implementation and conversion of the
Company's computer system in June 1998.
Business Partner Identification and Communication
The Company is contacting external vendors and other suppliers that management
considers to be significant to its operations to determine Dakotah's exposure to
the Year 2000 issue. Management has not yet identified any one business partner
whose expected failure to achieve timely Year 2000 readiness will materially and
adversely impact the Company's ability to continue its business operations.
However, due to the interdependent nature of computer systems, the Company may
be adversely impacted depending upon whether it or other entities not affiliated
with the Company (vendors and other business partners) address Year 2000 issues
successfully.
Year 2000-related Risks
Management believes that the most reasonably likely worst case Year 2000
scenarios involve either failure of all or part of either or both the nation's
telephonic and/or electrical power distribution systems. Due to the general
uncertainty inherent in the Year 2000 problem, resulting in part from the Year
2000 compliance of third parties, the Company is unable to determine with any
degree of certainty the specific potential consequences of the Year 2000
problem. The failure of a third party to correct a material Year 2000 problem,
which affects the Company's business operations, however, could have a material
adverse effect on the Company's results of operations, financial condition and
liquidity.
Contingency Plan
The Company has been and continues to be in the process of revising its overall
enterprise contingency plan to address the continuation of key business
processes. This planning considers disruptions in addition to Year 2000-related
failures, such as fire, vandalism, and other perils. Company management has
concluded that it is not reasonably possible to continue the Company's business
operations without the use of automation and information technology, such as
computers and telephones. Management is currently developing contingency plans
for Year 2000 system complete or partial
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failure or disruptions that would allow the Company to operate without complete
reliance on its computer systems which may be affected.
FORWARD LOOKING STATEMENTS
Forward looking statements are made pursuant to the safe harbor provisions of
the Private Securities Litigation Reform Act of 1995. Investors are cautioned
that such forward looking statements involve risks and uncertainties, including,
without limitation, continued acceptance of the Company's products, cancellation
of orders, increased levels of competition for the Company, new products and
technological changes, compliance with year 2000 issues by the Company and its
suppliers, the Company's dependence upon third party suppliers, intellectual
property rights, the Company's ability to obtain financing, the actual closing
of contemplated transactions and agreements, the effect of the Company's
accounting policies, and other risks detailed in the Company's Securities and
Exchange Commission filings. No assurance can be given that the actual results
of operations and financial condition will conform to the forward-looking
statements contained herein.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registered has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DAKOTAH, INCORPORATED
November 23, 1998 By: /s/ GEORGE C. WHYTE.
---------------------------------------
George C. Whyte
President, Chief Executive Officer
and Chairman of the Board
(Principal Financial and Accounting
Officer)
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