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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended: March 3, 2002
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) SECURITIES EXCHANGE ACT
OF 1934
For the Transition Period from to
Commission file number 1-8738
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SEALY CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 36-3284147
(State or other
jurisdiction of (I.R.S. Employer
incorporation) Identification No.)
Sealy Drive 27370
One Office Parkway (Zip Code)
Trinity, North Carolina
(Address of principal
executive offices)
Registrant's telephone number, including area code--(336) 861-3500
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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 [_]
The number of shares of the registrant's common stock outstanding as of
April 1, 2002 was 30,776,972.
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PART I. FINANCIAL INFORMATION
Item 1--Financial Statements
SEALY CORPORATION
Condensed Consolidated Statements of Operations
(in thousands, except per share data)
(unaudited)
Quarter Ended
---------------------
March 3, February 25,
2002 2001
-------- ------------
Net sales--Non-Affiliates........................................................... $261,721 $228,257
Net sales--Affiliates............................................................... 39,175 37,581
-------- --------
Total net sales.................................................................. 300,896 265,838
Costs and expenses:
Cost of goods sold--Non-Affiliates............................................... 143,961 126,359
Cost of goods sold--Affiliates................................................... 21,049 19,873
-------- --------
Total cost of goods sold..................................................... 165,010 146,232
Selling, general and administrative.............................................. 102,809 90,634
Stock based compensation......................................................... 574 500
Restructuring charge (Note 6).................................................... -- 1,183
Amortization of intangibles...................................................... 173 3,426
Royalty income, net.............................................................. (2,487) (3,470)
-------- --------
Income from operations....................................................... 34,817 27,333
Interest expense................................................................. 18,204 16,992
Other (income) expense (Note 5).................................................. 2,268 1,283
-------- --------
Income before income taxes and cumulative effect of change in accounting
principle.................................................................. 14,345 9,058
Income tax expense.................................................................. 5,899 4,275
-------- --------
Income before cumulative effect of change in accounting principle................ 8,446 4,783
Cumulative effect of change in accounting principle (net of income tax expense of
$101) (Note 7).................................................................... -- (152)
-------- --------
Net income....................................................................... 8,446 4,935
Liquidation preference for common L & M shares...................................... 4,640 4,072
-------- --------
Net income available to common shareholders...................................... $ 3,806 $ 863
======== ========
Earnings per share--Basic:
Before cumulative effect of change in accounting principle....................... $ 0.27 $ 0.15
Cumulative effect of change in accounting principle.............................. -- 0.01
-------- --------
Net income--Basic............................................................ 0.27 0.16
Liquidation preference for common L & M shares...................................... (0.15) (0.13)
-------- --------
Net income available to common shareholders...................................... $ 0.12 $ 0.03
======== ========
Earnings per share--Diluted:
Before cumulative effect of change in accounting principle....................... $ 0.27 $ 0.14
Cumulative effect of change in accounting principle.............................. -- 0.01
-------- --------
Net income--Diluted.......................................................... 0.27 0.15
Liquidation preference for common L & M shares...................................... (0.15) (0.12)
-------- --------
Net income available to common shareholders.................................. $ 0.12 $ 0.03
======== ========
Weighted average number of common shares outstanding:
Basic............................................................................ 30,751 30,718
Diluted ......................................................................... 30,775 33,577
See accompanying notes to condensed consolidated financial statements.
2
SEALY CORPORATION
Condensed Consolidated Balance Sheets
(in thousands)
March 3, December 2,
2002 2001*
------------ -----------
(Unaudited)
Assets
Current assets:
Cash and cash equivalents........................... $ 24,048 $ 12,010
Accounts receivable--Non-Affiliates, net............ 154,989 152,045
Accounts receivable--Affiliates, net................ 29,325 29,061
Inventories......................................... 62,889 58,711
Prepaid expenses and deferred taxes................. 31,333 37,540
------------ ---------
302,584 289,367
Property, plant and equipment--at cost................. 270,474 271,239
Less: accumulated depreciation......................... (91,337) (86,942)
------------ ---------
179,137 184,297
Other assets:
Goodwill, net....................................... 375,611 371,354
Other intangibles, net.............................. 5,678 5,842
Investments in and advances to affiliates (Note 12). 25,528 15,468
Debt issuance costs, net, and other assets.......... 33,692 36,799
------------ ---------
440,509 429,463
------------ ---------
$ 922,230 $ 903,127
============ =========
Liabilities and Stockholders' (Deficit)
Current liabilities:
Current portion of long-term obligations............ $ 37,272 $ 29,858
Accounts payable.................................... 87,298 74,584
Accrued interest.................................... 9,086 14,910
Accrued incentives and advertising.................. 41,964 41,449
Accrued compensation................................ 11,472 14,909
Other accrued expenses.............................. 40,144 33,326
------------ ---------
227,236 209,036
Long-term obligations, net............................. 747,181 748,253
Other noncurrent liabilities........................... 48,262 49,885
Deferred income taxes.................................. 24,610 27,819
Minority interest...................................... 363 1,040
Stockholders' (deficit) equity:
Common stock........................................ 318 317
Additional paid-in capital.......................... 146,027 145,712
Accumulated deficit................................. (228,239) (236,685)
Accumulated other comprehensive loss................ (30,464) (29,987)
Common stock held in treasury, at cost.............. (13,064) (12,263)
------------ ---------
(125,422) (132,906)
------------ ---------
$ 922,230 $ 903,127
============ =========
*Condensed from audited financial statements.
See accompanying notes to condensed consolidated financial statements.
3
SEALY CORPORATION
Condensed Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
Quarter Ended
---------------------
March 3, February 25,
2002 2001
-------- ------------
Net cash provided by (used in) operating activities..... $ 26,270 $(29,276)
-------- --------
Cash flows from investing activities:
Purchase of property, plant and equipment, net....... (3,444) (2,457)
Advances to affiliate................................ (12,500) --
-------- --------
Other................................................ 92 --
-------- --------
Net cash used in investing activities............ (15,852) (2,457)
-------- --------
Cash flows from financing activities:
Treasury stock repurchase, including direct expenses. (801) (11,416)
Proceeds from long-term obligations, net............. 2,105 39,570
Equity issuances..................................... 316 1,242
-------- --------
Net cash provided by financing activities........ 1,620 29,396
-------- --------
Change in cash and cash equivalents..................... 12,038 (2,337)
Cash and cash equivalents:
Beginning of period.................................. 12,010 18,114
-------- --------
End of period........................................ $ 24,048 $ 15,777
======== ========
Supplemental disclosures:
Selected noncash items:
Non-cash compensation................................ $ 574 $ 500
Depreciation and amortization........................ 5,431 7,378
Non-cash interest expense associated with:
Junior Subordinated Notes............................ 1,220 1,065
Debt issuance costs.................................. 1,005 1,066
Discount on Senior Subordinated Notes, net .......... 3,017 2,798
See accompanying notes to condensed consolidated financial statements.
4
SEALY CORPORATION
Notes To Condensed Consolidated Financial Statements
Three Months Ended March 3, 2002
Note 1: Basis of Presentation
This report covers Sealy Corporation and its subsidiaries (collectively, the
"Company").
The accompanying unaudited condensed consolidated financial statements
should be read together with the Company's Annual Report on Form 10-K for the
year ended December 2, 2001.
The accompanying unaudited condensed consolidated financial statements
contain all adjustments which, in the opinion of management, are necessary to
present fairly the financial position of the Company at March 3, 2002, and its
results of operations and cash flows for the periods presented herein. All
adjustments in the periods presented herein are normal and recurring in nature.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amount of assets and liabilities and disclosures on
contingent assets and liabilities at year end and the reported amounts of
revenue and expenses during the reporting period. Actual results may differ
from these estimates.
Certain reclassifications of previously reported financial information were
made to conform to the 2002 presentation.
Note 2: Inventories
The major components of inventories were as follows:
March 3, December 2,
2002 2001
-------- -----------
(in thousands)
Raw materials................ $32,878 $30,734
Work in process.............. 19,963 18,701
Finished goods............... 10,048 9,276
------- --------
$62,889 $58,711
======= ========
5
SEALY CORPORATION
Notes to Consolidated Financial Statements--(Continued)
Note 3: Business Acquisitions
On April 6, 2001, the Company acquired the outstanding capital stock of
Sapsa Bedding, S.A., of Paris, France for $31.5 million, including costs
associated with the acquisition. Sapsa, with primary locations in Paris, France
and Milan, Italy, manufactures and sells latex bedding and bedding products to
retailers and wholesalers in Europe. Sapsa also sells latex mattress cores and
pillows to other manufacturers which sell the finished products under their own
trademark. As part of the purchase price, EUR 3.0 million (approximately $2.6
million) is being held in escrow pursuant to the Share Sale Agreement. In
addition, the Company is holding EUR 4.3 million (approximately $3.7 million)
as additional escrow funds to be disbursed by December 31, 2002. The Company
recorded the acquisition using the purchase method of accounting and,
accordingly, the purchase price has been preliminarily allocated to the assets
acquired and liabilities assumed based on the estimated fair market values. As
a result of the preliminary purchase price allocation, the Company recorded
$18.1 million of indefinite lived goodwill and $2.3 million of other
intangibles.
Cash price....................................... $31.5
Liabilities assumed.............................. 44.8
-----
Purchase price................................... 76.3
Fair value of assets acquired.................... 55.9
-----
Goodwill and other intangible assets............. $20.4
=====
In 2000, the Company signed a supply agreement with a retail mattress
company to be its sole branded supplier of mattress products through December
31, 2004. As part of securing this long-term distribution source, the Company
invested in the entity to help it grow and acquired a minority interest. This
entity operated with negative cash flows from operations for the year ended
December 31, 2001 due to its start-up nature. When this entity required
additional cash in the first quarter of 2002, the Company made an additional
investment and took control of the entity. This investment provided the Company
an opportunity to determine whether the entity can be a potentially viable
distribution source for the Company's products. It is not the Company's
strategy to own or control retail operations. Since the initial investment, the
Company has invested approximately $4.3 million in the entity and has recorded
approximately $5.0 million of indefinite lived goodwill. The Company is
actively monitoring the operations of the entity to assess its future
viability. Should the Company conclude that the entity is not a viable
business, future impairment charges of goodwill and other charges may be
necessary.
Note 4: Goodwill and Other Intangible Assets
In July 2001, the FASB issued FAS 142, "Goodwill and Other Intangible
Assets", effective for years beginning after December 15, 2001, the Company's
first quarter of fiscal year 2003. FAS 142 addresses financial accounting and
reporting for acquired goodwill and other intangible assets and supersedes APB
Opinion No. 17, "Intangible Assets". Goodwill and some intangible assets will
no longer be amortized, but will be reviewed at least annually for impairment.
FAS 142 specifies that at the time of adoption an impairment review should be
performed. If an impairment of the existing goodwill is determined, any charge
would be recorded as a cumulative effect of a change in accounting principle.
Subsequent impairment charges would be presented within operating results. The
Company adopted the non amortization provision for acquisitions with a closing
date subsequent to June 30, 2001. The Company adopted the remaining provisions
of FAS 142 effective December 3, 2001. The Company will complete its initial
impairment review by the end of the second quarter of 2002 and record any
impairment charge as a cumulative effect of a change in accounting principle
should a charge be necessary.
6
SEALY CORPORATION
Notes to Consolidated Financial Statements--(Continued)
The changes in the carrying amount of goodwill for the quarter ended March
3, 2002, are as follows:
Balance as of December 2, 2001................... $371.4
Goodwill acquired................................ 5.0
Decrease due to foreign currency translation..... (0.8)
------
Balance as of March 3, 2002...................... $375.6
======
Other intangibles of $5.7 million (net of accumulated amortization of $12.3
million) primarily consist of acquired licenses, which are amortized on the
straight-line method over periods ranging from 5 to 15 years.
Note 5: Other (Income) Expense, Net
The Company previously contributed cash and other assets to Mattress
Holdings International LLC ("MHI") in exchange for a non-voting interest. MHI
was formed to invest in domestic and international loans, advances and
investments in joint ventures, licensees and retailers and is controlled by the
Company's largest stockholder, Bain Capital, LLC. The investment in MHI was
made to fund its activities in order to enhance business relationships and
build incremental sales. MHI's investments are principally minority interests
in two retailers; one of which is accounted for under the cost method and the
other under the equity method. The Company recorded losses of $2.5 million and
$1.4 million for the quarters ended March 3, 2002 and February 25, 2001,
respectively, for the proportionate share of the net loss of the equity
investee.
Other (income) expense, net also includes $(0.2) million and ($0.1) million
for minority interest associated with the Argentina operations for the quarters
ended March 3, 2002 and February 25, 2001, respectively.
Note 6: Restructuring Charge
During the first quarter of 2001, the Company commenced a plan to shutdown
its Memphis facility and recorded a $0.5 million charge primarily for
severance. The Company ceased operations in the second quarter of 2001 and is
actively pursuing the sale of the facility. Also during the first quarter of
2001, the Company recorded a $0.7 million charge for severance related to a
management reorganization. All payments related to these charges have been made.
Note 7: Recently Issued Accounting Pronouncements
The Company adopted FAS 133, "Accounting for Derivative Instruments and
Hedging Activities," which requires that all derivatives be recorded on the
balance sheet at fair value. Derivatives that are not hedges must be adjusted
to fair value through income. The Company recorded a $0.2 million gain, upon
adoption as of November 27, 2000, net of income tax expense which is recorded
in the consolidated income statement as a cumulative effect of a change in
accounting principle.
In July 2001, the Financial Accounting Standards Board (the "FASB") issued
FAS 141, "Business Combinations". FAS 141 addresses financial accounting and
reporting for business combinations and supersedes APB Opinion No. 16,
"Business Combinations", and FAS 38, "Accounting for Preacquisition
Contingencies of Purchased Enterprises". All business combinations in the scope
of this Statement are to be accounted for using one method, the purchase
method. This statement applies to all business combinations initiated after
June 30, 2001 and all business combinations accounted for using the purchase
method for which the date of acquisition is July 1, 2001 or later. The Company
adopted the provisions of this pronouncement for any business combinations
subsequent to June 30, 2001.
7
SEALY CORPORATION
Notes to Consolidated Financial Statements--(Continued)
In August 2001, the FASB issued FAS 143, "Accounting for Asset Retirement
Obligations", effective for years beginning after June 15, 2002, the Company's
first quarter of fiscal year 2003. FAS 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. It applies to legal
obligations associated with the retirement of long-lived assets that result
from the acquisition, construction, development and (or) the normal operation
of a long-lived asset, except for certain obligations of lessees. The Company
is currently evaluating the effects of this Statement.
In October 2001, the FASB issued FAS 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets", effective for years beginning after December
15, 2001 and interim periods within those years, the Company's second quarter
of fiscal 2002. The objectives of FAS 144 are to address significant issues
relating to the implementation of FASB Statement No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of",
and to develop a single accounting model, based on the framework established in
FAS 121, for long-lived assets to be disposed of by sale, whether previously
held and used or newly acquired. The Company is currently evaluating the
effects of this Statement.
In April 2001, the Emerging Issues Task Force of the FASB reached consensus
on Issue 00-25, "Vendor Income Statement Characterization of Consideration from
a Vendor to a Retailer". This issue provides guidance primarily on income
statement classification of consideration from a vendor to a purchaser of the
vendor's products, including both customers and consumers. Generally, cash
consideration is to be classified as a reduction of revenue, unless specific
criteria are met regarding goods or services that the vendor may receive in
return for this consideration. The Company has historically classified certain
costs such as co-op advertising and amortization of the supply agreements
covered by the provisions of 00-25 as marketing and selling expenses which are
recorded in selling, general and administration in the Statement of Operations.
The Company is currently evaluating the impact of the new accounting guidance
and expects that certain costs historically recorded as marketing and selling
expenses will be reclassified as a reduction of revenues. The guidance from
this issue should be applied no later than in interim financial statements for
periods beginning after December 15, 2001, the Company's second quarter of
fiscal 2002.
Note 8: Hedging Strategy
The Company has entered into interest rate swap agreements that effectively
converts $235.6 million of its floating-rate debt to a fixed-rate basis through
December 2006, thereby hedging against the impact of interest rate changes on
future interest expense (forecasted cash flows). Use of hedging contracts
allows the Company to reduce its overall exposure to interest rate changes,
since gains and losses on these contracts will offset losses and gains on the
transactions being hedged. The Company formally documents all hedged
transactions and hedging instruments, and assesses, both at inception of the
contract and on an ongoing basis, whether the hedging instruments are effective
in offsetting changes in cash flows of the hedged transaction. The fair values
of the interest rate agreements are estimated by obtaining quotes from brokers
and are the estimated amounts that the Company would receive or pay to
terminate the agreements at the reporting date, taking into consideration
current interest rates and the current creditworthiness of the counterparties.
At March 3, 2002, the fair value carrying amounts of these instruments, which
is included in other noncurrent liabilities, was a liability of $12.7 million.
In addition, $3.1 million was recorded as income in accumulated other
comprehensive loss for the quarter ended March 3, 2002.
The Company has interest rate instruments in effect to provide protection on
the three month LIBOR rate upon which the Company's variable rate debt is based
(actual rate paid is LIBOR plus the respective margin). As of March 3, 2002,
the Company had a Forward Rate Agreement with a notional amount of $150.0
million, an interest rate of 5.82% and a period from December 2001 to March
2002 and an Interest Rate Amortizing Swap
8
SEALY CORPORATION
Notes to Consolidated Financial Statements--(Continued)
with a notional amount of $235.6 million, an interest rate of 6.08% and a
period from December 2000 to December 2006.
To protect against the reduction in value of forecasted foreign currency
cash flows resulting from purchases in a foreign currency, the Company has
instituted a forecasted cash flow hedging program. The Company hedges portions
of its purchases denominated in foreign currencies with forward and options
contracts. At March 3, 2002, the Company had the following contracts:
Forward Contracts: Expiration:
------------------ -----------
To sell 2.5 million Canadian dollars............. March 5, 2002
To sell 3.2 million Canadian dollars............. March 8, 2002
To sell 12.8 million Mexican pesos............... March 29, 2002
To sell 16.4 million Mexican pesos............... May 31, 2002
To sell 22.3 million Mexican pesos............... August 30, 2002
To sell 2.2 million Mexican pesos................ November 29, 2002
Option Contracts: Expiration:
----------------- -----------
To sell 16.0 million Mexican pesos............... May 31, 2002
To sell 3.2 million Canadian dollars............. June 7, 2002
To sell 33.0 million Mexican pesos............... August 30, 2002
To sell 3.2 million Canadian dollars............. September 6, 2002
To sell 3.0 million Mexican pesos................ November 29, 2002
To sell 2.6 million Canadian dollars............. December 6, 2002
9
SEALY CORPORATION
Notes to Consolidated Financial Statements--(Continued)
Note 9: Earnings Per Share
The following table sets forth the computation of basic and diluted earnings
per share (in thousands) for the quarter ended:
March 3, February 25,
2002 2001
-------- ------------
Numerator:
Income before cumulative effect of change in accounting principle..... $ 8,446 $ 4,783
Cumulative effect of change in accounting principle................... -- (152)
------- -------
Net income............................................................ 8,446 4,935
Liquidation preference for L & M shares............................... 4,640 4,072
------- -------
Net income available to common shareholders........................... $ 3,806 $ 863
======= =======
Denominator:
Denominator for basic earnings per share--weighted average shares..... 30,751 30,718
Effect of dilutive securities:
Stock options......................................................... 24 2,859
------- -------
Denominator for diluted earnings per share--adjusted weighted- average
shares and assumed conversions...................................... 30,775 33,577
======= =======
Note 10: Comprehensive Income
Total comprehensive income for the quarters ended March 3, 2002 and February
25, 2001 was $8.0 million and $5.1 million, respectively.
Activity in Stockholders' (deficit) is as follows (dollar amounts in
thousands):
Accumulated
Additional Other
Comprehensive Common Paid-in Accumulated Treasury Comprehensive
Income Stock Capital Deficit Stock Loss Total
------------- ------ ---------- ----------- -------- ------------- ---------
Balance at December 2, 2001...... $317 $145,712 $(236,685) $(12,263) $(29,987) $(132,906)
Comprehensive Income:
Net income for the three months
ended March 3, 2002............. $ 8,446 -- -- 8,446 -- -- 8,446
Exercise of stock options........ -- 1 315 -- -- -- 316
Purchase of treasury stock....... -- -- -- -- (801) -- (801)
Change in fair value of cash flow
hedge........................... 3,111 -- -- -- -- 3,111 3,111
Foreign currency translation
adjustment...................... (3,588) -- -- -- -- (3,588) (3,588)
------- ---- -------- --------- -------- -------- ---------
Balance at March 3, 2002......... $ 7,969 $318 $146,027 $(228,239) $(13,064) $(30,464) $(125,422)
======= ==== ======== ========= ======== ======== =========
Note 11: Contingencies
The Company is currently conducting an environmental cleanup at a formerly
owned facility in South Brunswick, New Jersey pursuant to the New Jersey
Industrial Site Recovery Act. The Company and one of its subsidiaries are
parties to an Administrative Consent Order issued by the New Jersey Department
of Environmental Protection. Pursuant to that order, the Company and its
subsidiary agreed to conduct soil and groundwater remediation at the property.
The Company does not believe that its manufacturing processes were
10
SEALY CORPORATION
Notes to Consolidated Financial Statements--(Continued)
the source of contamination. The Company sold the property in 1997. The Company
and its subsidiary retained primary responsibility for the required
remediation. The Company has completed essentially all soil remediation with
the New Jersey Department of Environmental Protection approval, and has
concluded a pilot test of groundwater remediation system.
The Company is also remediating soil and groundwater contamination at an
inactive facility located in Oakville, Connecticut. Although the Company is
conducting the remediation voluntarily, it obtained Connecticut Department of
Environmental Protection approval of the remediation plan. The Company has
completed essentially all soil remediation under the remediation plan and is
currently monitoring groundwater at the site. The Company believes the
contamination is attributable to the manufacturing operations of previous
unaffiliated occupants of the facility.
The Company removed three underground storage tanks previously used for
diesel, gasoline, and waste oil from its South Gate, California facility in
March 1994 and remediated the soil in the area. Since August 1998, the Company
has been working with the California Regional Water Quality Control Board, Los
Angeles Region to monitor ground water at the site.
While the Company cannot predict the ultimate timing or costs of the South
Brunswick, Oakville, and South Gate environmental matters, based on facts
currently known, the Company believes that the accruals recorded are adequate
and does not believe the resolution of these matters will have a material
adverse effect on the financial position or future operations of the Company;
however, in the event of an adverse decision, these matters could have a
material adverse effect.
The Company has been identified as a potential responsible party pursuant to
the Comprehensive Environmental Response Compensation and Liability Act
("CERCLA") with regard to a waste disposal site, the Skinner Landfill Superfund
Site, located in West Chester, Ohio. The Company has reached a consent
settlement with the United States Environmental Protection Agency as a minor
provider to the site. In March 2002, that Settlement was approved by the United
States District Court for the Southern District of Ohio Western Division in
United States of America v. Aeronca, et al. In March 2002, the Company paid
$23,695 to the United States government and $94,780 to the Skinner Landfill
Site Group. As part of this settlement the Company received a covenant not to
sue from the United States in this matter and protection from contribution
actions and claims as provided by Section 113(f)(2) of CERCLA. The Company does
not believe that it has any further liability for this site.
In April 1997, a subsidiary of the Company responded to a questionnaire from
the Minnesota Pollution Control Agency concerning the Waste Disposal
Engineering Sanitary Landfill site located in Anoka County, Minnesota. The
Company does not believe that it contributed any hazardous substances to that
landfill and has not been further contacted by the Minnesota Pollution Control
Agency. Although liability under these statutes is generally joint and several,
as a practical matter, liability is usually allocated among all financially
responsible parties. Based on the nature and quantity of the Company's wastes,
the Company believes that any liability of the Company at this site in unlikely
to be material.
Note 12: Related Party Transactions
The Company previously contributed cash and other assets to Mattress
Holdings International LLC ("MHI") in exchange for a non-voting interest. MHI
was formed to invest in domestic and international loans, advances and
investments in joint ventures, licensees and retailers and is controlled by the
Company's largest stockholder, Bain Capital, LLC. The investment in MHI was
made to fund its activities in order to enhance business
11
SEALY CORPORATION
Notes to Consolidated Financial Statements--(Continued)
relationships and build incremental sales. MHI's investments are principally
minority interests in two retailers; one accounted for under the cost method
and the other under the equity method. The Company had sales of $17.8 million
and $18.0 million for the quarter ended March 3, 2002 and $20.5 million and
$15.1 million for the quarter ended February 25, 2001 of finished mattress
products pursuant to multi-year supply contracts to these affiliates,
respectively. The Company also had sales of $3.4 million and $2.0 million for
the quarter ended March 3, 2002 and February 25, 2001, respectively, to another
affiliate. The Company believes that the terms on which mattresses are supplied
to these affiliates are not materially more or less favorable than those that
might reasonably be obtained in a comparable transaction on an arm's length
basis from a person that is not an affiliate or related party.
Various operating factors combined with weak economic conditions during
2001, resulted in a review by Company management of the equity values related
to these affiliates. The Company determined that the decline in the value of
such investments was other than temporary and, as a consequence, recognized a
non-cash impairment charge of $26.3 million to write-down the investments to
their estimated fair values as of the end of the third quarter of 2001.
One MHI affiliate successfully renegotiated the terms of its credit
agreement with its principal lenders. The Company is participating in the
renegotiated bank facility through a $12.5 million secured loan that was
disbursed in January 2002. The loan bears interest at either the applicable
Eurodollar rate plus 3.50% or the greater of (a) the Prime Rate, (b) the Base
CD Rate plus 1% or (c) the Federal Funds Effective Rate plus 1/2 of 1%, plus
2.50%. The interest rate in effect at March 3, 2002 was 5.35%. Principal is due
and payable on February 15, 2004. In exchange for this participation, the
Company received enhancements to the existing supply agreement including a
three-year extension to June 30, 2007. As of March 3, 2002, the affiliate owes
the Company $19.4 million in trade receivables. Except for a possible $2.0
million increase in participation in the credit agreement, the Company is not
obligated to fund additional amounts.
The other MHI affiliate is currently renegotiating its credit agreement with
its lenders. The affiliate is currently operating under a forbearance agreement
with one of its lenders. The Company believes that the affiliate will be
successful in renegotiating its credit agreement as negotiations continue
between the affiliate, its lenders and the Company. There can be no assurance
that agreements can be finalized. The Company is considering various and
changing alternatives including, among others, making further investments in
the affiliate and converting a portion of outstanding trade receivables owed by
the affiliate into a convertible note receivable. The Company may also modify
terms and conditions of its sales and accounts receivable. The Company is not
however obligated to enter into any agreement or fund additional investments.
As of March 3, 2002, the affiliate owes the Company $31.6 million in trade
receivables; of which $15.0 million was reclassified to investments in and
advances to affiliates in the fourth quarter of 2001 due to uncertainty on the
timing of collection of such amounts. The Company also has minority
representation on the affiliate's Board of Directors. In addition, a former
executive of the Company is an executive officer of this affiliate.
Based upon management's review of the available information and of the
financial condition of the investees, the Company believes that adequate
allowances ($8.6 million) have been established as of March 3, 2002 for
potential losses on the receivables with the affiliates. The Company
understands that these affiliates have experienced weakened results and is,
however, unable to predict the impact, if any, on these affiliates, should they
continue to be effected by a weakened economy or be unsuccessful in
renegotiating credit agreements or obtaining alternate additional financing. A
significant negative impact on these affiliates would adversely affect the
Company.
12
SEALY CORPORATION
Notes to Consolidated Financial Statements--(Continued)
Note 13: Segment Information
The Company operates predominately in one industry segment, that being the
manufacture and marketing of conventional bedding.
Note 14: Subsequent Event
On April 11, 2002, the Company announced that the President and Chief
Operating Officer, David J. McIlquham, assumed the duties of Chief Executive
Officer. Ronald L. Jones, will continue his duties as Chairman of the Company.
Note 15: Guarantor/Non-Guarantor Financial Information
The Parent and each of the Guarantor Subsidiaries has fully and
unconditionally guaranteed, on a joint and several basis, the obligation to pay
principal and interest with respect to the Senior Subordinated and Senior
Subordinated Discount Notes (the "Notes") of Sealy Mattress Company (the
"Issuer"). Substantially all of the Issuer's operating income and cash flow is
generated by its subsidiaries. As a result, funds necessary to meet the
Issuer's debt service obligations are provided in part by distributions or
advances from its subsidiaries. Under certain circumstances, contractual and
legal restrictions, as well as the financial condition and operating
requirements of the Issuer's subsidiaries, could limit the Issuer's ability to
obtain cash from its subsidiaries for the purpose of meeting its debt service
obligations, including the payment of principal and interest on the Notes.
Although holders of the Notes will be direct creditors of the Issuer's
principal direct subsidiaries by virtue of the guarantees, the Issuer has
subsidiaries ("Non-Guarantor Subsidiaries") that are not included among the
Guarantor Subsidiaries, and such subsidiaries will not be obligated with
respect to the Notes. As a result, the claims of creditors of the Non-Guarantor
Subsidiaries will effectively have priority with respect to the assets and
earnings of such companies over the claims of creditors of the Issuer,
including the holders of the Notes.
The following supplemental consolidating condensed financial statements
present:
1. Consolidating condensed balance sheets as of March 3, 2002 and December
2, 2001, consolidating condensed statements of operations and cash flows
for the three-month periods ended March 3, 2002 and February 25, 2001.
2. Sealy Corporation (the "Parent" and a "guarantor"), Sealy Mattress
Company (the "Issuer"), combined Guarantor Subsidiaries and combined
Non-Guarantor Subsidiaries with their investments in subsidiaries
accounted for using the equity method.
3. Elimination entries necessary to consolidate the Parent and all of its
subsidiaries.
Separate financial statements of each of the Guarantor Subsidiaries are not
presented because management believes that these financial statements would not
be material to investors.
13
SEALY CORPORATION
Supplemental Consolidating Condensed Balance Sheet
March 3, 2002
(in thousands)
Combined
Sealy Combined Non-
Sealy Mattress Guarantor Guarantor
Corporation Company Subsidiaries Subsidiaries Eliminations Consolidated
----------- -------- ------------ ------------ ------------ ------------
Assets
Current assets:
Cash and cash equivalents........... $ -- $ 32 $ 14,602 $ 9,414 $ -- $ 24,048
Accounts receivable--
Non-Affiliates, net.............. 7 7,424 102,981 44,577 -- 154,989
Accounts receivable--Affiliates,
net............................... -- -- 27,438 1,887 -- 29,325
Inventories......................... -- 1,777 44,207 16,905 -- 62,889
Prepaids and deferred taxes......... 263 335 22,073 8,662 -- 31,333
--------- -------- --------- -------- -------- ---------
270 9,568 211,301 81,445 -- 302,584
Property, plant and equipment, at
cost.............................. -- 5,263 217,127 48,084 -- 270,474
Less: accumulated depreciation...... -- (2,294) (83,015) (6,028) -- (91,337)
--------- -------- --------- -------- -------- ---------
-- 2,969 134,112 42,056 -- 179,137
Other assets:
Goodwill, net....................... -- 14,816 314,698 46,097 -- 375,611
Other intangibles, net.............. -- -- 3,911 1,767 -- 5,678
Net investment in and advances to
(from) subsidiaries and affiliates (79,570) 593,109 (408,802) (62,269) (42,468) --
Investment in and advances to
affiliates........................ -- -- -- 25,528 -- 25,528
Debt issuance costs, net and other
assets............................ 108 19,647 11,260 2,677 -- 33,692
--------- -------- --------- -------- -------- ---------
(79,462) 627,572 (78,933) 13,800 (42,468) 440,509
--------- -------- --------- -------- -------- ---------
Total assets........................ $ (79,192) $640,109 $ 266,480 $137,301 $(42,468) $ 922,230
========= ======== ========= ======== ======== =========
Liabilities and Stockholders'
(Deficit) Equity
Current liabilities:
Current portion of long-term
obligations....................... $ -- $ 27,238 $ 11 $ 10,023 $ -- $ 37,272
Accounts payable.................... -- 164 57,333 29,801 -- 87,298
Accrued interest.................... -- 450 8,437 199 -- 9,086
Accrued incentives and advertising.. -- 1,107 37,276 3,581 -- 41,964
Accrued compensation................ -- 167 7,331 3,974 -- 11,472
Other accrued expenses.............. 67 1,427 27,541 11,109 -- 40,144
--------- -------- --------- -------- -------- ---------
67 30,553 137,929 58,687 -- 227,236
Long-term obligations, net.......... 41,258 692,413 80 13,430 -- 747,181
Other noncurrent liabilities........ 6,604 12,742 25,757 3,159 -- 48,262
Deferred income taxes............... (1,699) 703 19,340 6,266 -- 24,610
Minority interest................... -- -- -- 363 -- 363
Stockholders' (deficit) equity...... (125,422) (96,302) 83,374 55,396 (42,468) (125,422)
--------- -------- --------- -------- -------- ---------
Total liabilities and stockholders'
(deficit) equity.................. $ (79,192) $640,109 $ 266,480 $137,301 $(42,468) $ 922,230
========= ======== ========= ======== ======== =========
14
SEALY COPRORATION
Supplemental Consolidating Condensed Balance Sheet
December 2, 2001
(in thousands)
Combined
Sealy Combined Non-
Sealy Mattress Guarantor Guarantor
Corporation Company Subsidiaries Subsidiaries Eliminations Consolidated
----------- --------- ------------ ------------ ------------ ------------
Assets
Current assets:
Cash and cash equivalents......... $ -- $ 55 $ 6,442 $ 5,513 $ -- $ 12,010
Accounts receivable--
Non-Affiliates, net.............. 7 6,847 102,854 42,337 -- 152,045
Accounts receivable--Affiliates,
net............................. -- -- 26,703 2,358 -- 29,061
Inventories....................... -- 1,521 42,429 14,761 -- 58,711
Prepaid expenses and deferred
taxes........................... 263 335 27,786 9,156 -- 37,540
--------- --------- --------- -------- -------- ---------
270 8,758 206,214 74,125 -- 289,367
Property, plant and equipment, at
cost............................ -- 5,231 219,591 46,417 -- 271,239
Less accumulated depreciation..... -- (2,220) (79,234) (5,488) -- (86,942)
--------- --------- --------- -------- -------- ---------
-- 3,011 140,357 40,929 -- 184,297
Other assets:
Goodwill, net..................... -- 14,816 316,323 40,215 -- 371,354
Other intangibles, net............ 3,974 1,868 5,842
Net investment in and advances to
(from) subsidiaries and
affiliates...................... (88,818) 586,266 (417,900) (48,087) (31,461) --
Investment in and advances to
affiliates...................... -- -- -- 15,468 -- 15,468
Debt issuance costs, net and other
assets.......................... 156 20,652 13,412 2,579 -- 36,799
--------- --------- --------- -------- -------- ---------
(88,662) 621,734 (84,191) 12,043 (31,461) 429,463
--------- --------- --------- -------- -------- ---------
Total assets...................... $ (88,392) $ 633,503 $ 262,380 $127,097 $(31,461) $ 903,127
========= ========= ========= ======== ======== =========
Liabilities and Stockholders'
(Deficit) Equity
Current liabilities:
Current portion of long-term
obligations..................... $ -- $ 18,658 $ 64 $ 11,136 $ -- $ 29,858
Accounts payable.................. -- 327 51,078 23,179 -- 74,584
Accrued interest.................. -- 741 13,884 285 -- 14,910
Accrued incentives and
advertising..................... -- 1,496 35,789 4,164 -- 41,449
Accrued compensation.............. -- 372 10,464 4,073 -- 14,909
Other accrued expenses............ 51 1,614 20,073 11,588 -- 33,326
--------- --------- --------- -------- -------- ---------
51 23,208 131,352 54,425 -- 209,036
Long-term obligations, net........ 40,038 698,350 80 9,785 -- 748,253
Other noncurrent liabilities...... 6,124 15,853 23,569 4,339 -- 49,885
Deferred income taxes............. (1,699) 703 21,656 7,159 -- 27,819
Minority interest................. -- -- -- 1,040 -- 1,040
Stockholders' (deficit) equity.... (132,906) (104,611) 85,723 50,349 (31,461) (132,906)
--------- --------- --------- -------- -------- ---------
Total liabilities and
stockholders'(deficit) equity... $ (88,392) $ 633,503 $ 262,380 $127,097 $(31,461) $ 903,127
========= ========= ========= ======== ======== =========
15
SEALY CORPORATION
Supplemental Consolidating Condensed Statements of Operations
Three Months Ended March 3, 2002
(in thousands)
Sealy Combined Combined
Sealy Mattress Guarantor Non-Guarantor
Corporation Company Subsidiaries Subsidiaries Eliminations Consolidated
----------- -------- ------------ ------------- ------------ ------------
Net sales--Non-Affiliates........... $ -- $ 12,059 $204,235 $47,856 $ (2,429) $261,721
Net sales--Affiliates............... -- -- 35,788 3,387 -- 39,175
------- -------- -------- ------- -------- --------
Total net sales.................. -- 12,059 240,023 51,243 (2,429) 300,896
Costs and expenses:.................
Cost of goods sold--
Non-Affiliates................. -- 7,624 109,316 29,450 (2,429) 143,961
Cost of goods sold--
Affiliates..................... -- -- 18,885 2,164 -- 21,049
------- -------- -------- ------- -------- --------
Total cost of goods sold..... 7,624 128,201 31,614 (2,429) 165,010
Selling, general and
administrative................. 45 3,000 83,589 16,175 -- 102,809
Stock based compensation......... 574 -- -- -- -- 574
Amortization of intangibles...... -- -- 72 101 -- 173
Royalty income, net.............. -- -- (2,657) 170 -- (2,487)
------- -------- -------- ------- -------- --------
Income from operations.............. (619) 1,435 30,818 3,183 -- 34,817
Interest expense................. 1,270 17,487 (795) 242 -- 18,204
Other (income) expense........... -- -- 12 2,256 -- 2,268
Loss (income) from equity
investees...................... (8,784) (7,664) -- -- 16,448 --
Loss (income) from
nonguarantor equity
investees...................... -- (938) 1,071 -- (133) --
Capital charge and
intercompany interest
allocation..................... (1,315) (16,362) 16,767 910 -- --
------- -------- -------- ------- -------- --------
Income (loss) before income taxes... 8,210 8,912 13,763 (225) (16,315) 14,345
Income tax expense (benefit)........ (236) 127 6,100 (92) -- 5,899
------- -------- -------- ------- -------- --------
Net income (loss)................... $ 8,446 $ 8,785 $ 7,663 $ (133) $(16,315) $ 8,446
======= ======== ======== ======= ======== ========
16
SEALY CORPORATION
Supplemental Consolidating Condensed Statements of Operations
Three Months Ended February 25, 2001
(in thousands)
Combined
Sealy Combined Non-
Sealy Mattress Guarantor Guarantor
Corporation Company Subsidiaries Subsidiaries Eliminations Consolidated
----------- -------- ------------ ------------ ------------ ------------
Net sales--Non-Affiliates........... $ -- $ 11,915 $193,935 $25,501 $ (3,094) $228,257
Net sales--Affiliates............... -- -- 35,547 2,034 -- 37,581
------- -------- -------- ------- -------- --------
Total net sales.............. -- 11,915 229,482 27,535 (3,094) 265,838
Costs and expenses:
Cost of goods sold--
Non-Affiliates................... -- 7,890 105,183 16,380 (3,094) 126,359
Cost of goods sold--Affiliates... -- -- 18,607 1,266 -- 19,873
------- -------- -------- ------- -------- --------
Total cost of goods sold 7,890 123,790 17,646 (3,094) 146,232
Selling, general and
administrative................. 45 3,480 78,243 8,866 -- 90,634
Stock based compensation......... 500 -- -- -- -- 500
Restructuring charge............. -- -- 1,183 -- -- 1,183
Amortization of intangibles...... -- 90 3,080 256 -- 3,426
Royalty income, net.............. -- -- (3,470) -- -- (3,470)
------- -------- -------- ------- -------- --------
Income from operations.............. (545) 455 26,656 767 -- 27,333
Interest expense, net............ 1,116 15,661 354 (139) -- 16,992
Other (income) expense........... -- -- -- 1,283 -- 1,283
Loss (income) from equity
investees...................... (5,200) (4,349) -- -- 9,549 --
Loss (income) from
nonguarantor equity
investees...................... -- (873) 342 -- 531 --
Capital charge and
intercompany interest
allocation..................... (1,161) (14,878) 16,151 (112) -- --
------- -------- -------- ------- -------- --------
Income (loss) before income taxes
and cumulative effect of change
in accounting principle........... 4,700 4,894 9,809 (265) (10,080) 9,058
Income tax expense (benefit)........ (235) (154) 4,194 470 -- 4,275
------- -------- -------- ------- -------- --------
Income (loss) before cumulative
change in accounting principle.... 4,935 5,048 5,615 (735) (10,080) 4,783
Cumulative effect of change in
accounting principal.............. -- (152) -- -- -- (152)
------- -------- -------- ------- -------- --------
Net income (loss)................... $ 4,935 $ 5,200 $ 5,615 $ (735) $(10,080) $ 4,935
======= ======== ======== ======= ======== ========
17
SEALY CORPORATION
Supplemental Consolidating Condensed Statements of Cash Flows
Three Months Ended March 3, 2002
(in thousands)
Combined
Sealy Combined Non-
Sealy Mattress Guarantor Guarantor
Corporation Company Subsidiaries Subsidiaries Eliminations Consolidated
----------- -------- ------------ ------------ ------------ ------------
Net cash provided by (used in)
operating activities............... $ --. $(1,340) $ 22,054 $ 5,556 $ -- $ 26,270
Cash flows from investing activities:
Purchase of property, plant and
equipment, net.................. -- (50) (3,056) (338) -- (3,444)
Advances to affiliate............. -- -- -- (12,500) -- (12,500)
Other............................. -- -- -- 92 -- 92
Net activity in investment in
and advances to (from)
subsidiaries and affiliates..... 485 1,741 (10,785) 8,559 -- --
----- ------- -------- -------- --- --------
Net cash provided by (used in)
investing activities............ 485 1,691 (13,841) (4,187) -- (15,852)
Cash flows from financing
activities:
Treasury stock repurchase, including
direct expenses.................... (801) -- -- -- -- (801)
Proceeds from (payments on)
long-term obligations, net.......... -- (374) (53) 2,532 -- 2,105
Equity issuances .................... 316 -- -- -- -- 316
----- ------- -------- -------- --- --------
Net cash provided by (used in)
financing activities............... (485) (374) (53) 2,532 -- 1,620
Change in cash and cash equivalents.. -- (23) 8,160 3,901 -- 12,038
Cash and cash equivalents:
Beginning of period............... -- 55 6,442 5,513 -- 12,010
----- ------- -------- -------- --- --------
End of period..................... $ --. $ 32 $ 14,602 $ 9,414 $-- $ 24,048
===== ======= ======== ======== === ========
18
SEALY CORPORATION
Supplemental Consolidating Condensed Statements of Cash Flows
Three Months Ended February 25, 2001
(in thousands)
Combined
Sealy Combined Non-
Sealy Mattress Guarantor Guarantor
Corporation Company Subsidiaries Subsidiaries Eliminations Consolidated
----------- -------- ------------ ------------ ------------ ------------
Net cash used in operating
activities...................... $ --. $ (1,946) $(21,434) $(5,896) $ -- $(29,276)
Cash flows from investing
activities:
Purchase of property, plant and
equipment, net................ -- (218) (1,569) (670) -- (2,457)
Net activity in investment in
and advances to (from)
subsidiaries and affiliates... 10,174 (37,307) 23,714 3,419 -- --
-------- -------- -------- ------- ----- --------
Net cash provided by (used in)
investing activities.......... 10,174 (37,525) 22,145 2,749 -- (2,457)
Cash flows from financing
activities:
Treasury stock repurchase,
including direct expenses..... (11,416) -- -- -- -- (11,416)
Proceeds from (payments on)
long-term obligations,
net........................... -- 39,650 (80) -- -- 39,570
Equity issuances................ 1,242 -- -- -- -- 1,242
-------- -------- -------- ------- ----- --------
Net cash provided by (used in)
financing activities............. (10,174) 39,650 (80) -- -- 29,396
Change in cash and cash
equivalents...................... -- 179 631 (3,147) -- (2,337)
Cash and cash equivalents:
Beginning of period............. -- 354 6,672 11,088 -- 18,114
-------- -------- -------- ------- ----- --------
End of period................... $ --. $ 533 $ 7,303 $ 7,941 $ -- $ 15,777
======== ======== ======== ======= ===== ========
19
SEALY CORPORATION
Management's Discussion and Analysis
of Financial Condition and Results of Operations
Item 2. Quarter Ended March 3, 2002 compared with Quarter Ended February 25,
2001
Net Sales. Net sales for the quarter ended March 3, 2002, were $300.9
million, an increase of $35.1 million, or 13.2% from the quarter ended February
25, 2001. Total domestic sales were $248.7 million for the first quarter of
2002 compared to $235.7 million for the first quarter of 2001. Domestic sales
growth of $13.0 million was attributable to a 3.1% increase in average unit
selling price and a 2.4% increase in volume. Total international sales were
$52.2 million in the first quarter of 2002 compared to $30.1 in the first
quarter of 2001. Growth of $17.8 million in the international operations was
attributable to the acquisition of Sapsa Bedding S.A. in Europe in the second
quarter of 2001. Existing international operations also experienced sales
growth of $4.3 million.
Cost of Goods Sold. Cost of goods sold for the quarter, as a percentage of
net sales, decreased 0.2 percentage points to 54.8%. Cost of goods sold for the
domestic business decreased 1.1 percentage points to 53.3%. This decrease is
primarily due to the fact that sales of Sealy Posturepedic and Stearns & Foster
products represented a greater percentage of total sales. Cost of goods sold
for the international business increased 2.5 percentage points to 62.0%. This
increase is primarily due to the Sapsa business, which currently carries a
lower gross margin rate than the Company's other international businesses, and
the deteriorating economic environment in Argentina.
Selling, General, Administrative. Selling, general, and administrative
expense increased $12.2 million to $102.8 million, or 34.2% of net sales,
compared to $90.6 million, or 34.1% of net sales in 2001. This increase is
primarily due to $6.1 million in additional costs associated with the
acquisition of Sapsa Bedding S.A. in April 2001 in the international
operations. Promotional and advertising expenses increased $2.5 million due to
Sealy Posturepedic and Stearns & Foster product introduction costs and higher
sales volumes, partially offset by lower national advertising. Bad debt expense
increased $2.1 million as the Company continued to increase the bad debt
reserves as a result of the impact on customers of the general slowdown in the
economy.
Stock Based Compensation. The Company has an obligation to repurchase
certain securities of the Company held by an officer at the greater of fair
market value or original cost. The Company recorded a $0.6 million and $0.5
million charge during the quarters ended March 3, 2002 and February 25, 2001,
respectively, to revalue this obligation to reflect an increase in the fair
market value of the securities.
Restructuring Charges. During the first quarter of 2001, the Company
shutdown its Memphis facility and recorded a $0.5 million charge primarily for
severance. Additionally, the Company recorded a $0.7 million charge for
severance due to a management reorganization.
Amortization Expense. Amortization expense was $0.2 million and $3.4
million for the quarters ended March 3, 2002 and February 25, 2001,
respectively. The decrease of $3.2 million is due to the adoption of FAS 142
during the first quarter of 2002, as the Company no longer records amortization
expense for indefinite lived goodwill.
Interest Expense. Interest expense increased $1.2 million as a result of
higher average debt balances and higher effective interest rates. The Company
has entered into interest rate swap agreements that effectively converts all of
the floating-rate debt to a fixed-rate basis through March 2002 and $235.6
million of floating-rate debt to a fixed-rate basis through December 2006,
thereby hedging against the impact of interest rate changes on future interest
expense (forecasted cash flows). The Company is required under its credit
agreements to hedge at least 50% of its floating rate term debt.
20
Income Tax. The Company's effective income tax rates in 2002 and 2001
differ from the Federal statutory rate principally because of the effect of
certain foreign tax rate differentials, state and local income taxes and the
application of purchase accounting in 2001. The Company's effective tax rate
for the quarter ended March 3, 2002 is approximately 41.1% compared to 47.0%
for quarter ended February 25, 2001. The lower effective tax rate is primarily
the result of the Company's adoption of FAS 142, as the Company no longer
records amortization expense for indefinite lived goodwill that was not
deductible for tax purposes.
Net Income. For the reasons set forth above, the Company recorded net
income of $8.4 million for the quarter ended March 3, 2002 versus net income of
$4.9 million for the quarter ended February 25, 2001.
Liquidity and Capital Resources
The Company's principal sources of funds are cash flows from operations and
borrowings under its Revolving Credit Facility. The Company's principal use of
funds consists of payments of principal and interest on its Senior Credit
Agreements, capital expenditures and interest payments on its outstanding
Notes. Capital expenditures totaled $3.4 million for the quarter ended March 3,
2002. Management believes that annual capital expenditure limitations in its
current debt agreements will not significantly inhibit the Company from meeting
its ongoing capital needs. At March 3, 2002, the Company had approximately
$89.3 million available under its Revolving Credit Facility including Letters
of Credit issued totaling approximately $10.7 million. The Company's net
weighted average borrowing cost was 9.1% for the three months ended March 3,
2002. The Tranche A Term Loan and the Revolving Credit Facility mature in
December 2002. The Company is currently negotiating to renew the Revolving
Credit Facility and expects it will have the ability to renew the existing
facility or have the ability to find new financing with comparable terms. The
Company is also evaluating other financing alternatives. If the Company is
unable to renew its existing arrangement or obtain new financing, this could
have an adverse affect on the Company's ability to fund its operations.
Currently, the Company has no borrowings under its Revolving Credit Facility.
The Company previously contributed cash and other assets to Mattress
Holdings International LLC ("MHI") in exchange for a non-voting interest. MHI
was formed to invest in domestic and international loans, advances and
investments in joint ventures, licensees and retailers and is controlled by the
Company's largest stockholder, Bain Capital, LLC. The investment in MHI was
made to fund its activities in order to enhance business relationships and
build incremental sales. MHI's investments are principally minority interests
in two retailers; one accounted for under the cost method and the other under
the equity method. The Company had sales of $17.8 million and $18.0 million for
the quarter ended March 3, 2002 and $20.5 million and $15.1 million for the
quarter ended February 25, 2001 of finished mattress products pursuant to
multi-year supply contracts to these affiliates, respectively. Various
operating factors combined with weak economic conditions during 2001, resulted
in a review by Company management of the equity values related to these
affiliates. The Company determined that the decline in the value of such
investments was other than temporary and, as a consequence, recognized a
non-cash impairment charge of $26.3 million to write-down the investments to
their estimated fair values as of the end of the third quarter of 2001.
One MHI affiliate successfully renegotiated the terms of its credit
agreement with its principal lenders. The Company is participating in the
renegotiated bank facility through a $12.5 million secured loan that was
disbursed in January 2002. The loan bears interest at either the applicable
Eurodollar rate plus 3.50% or the greater of (a) the Prime Rate, (b) the Base
CD Rate plus 1% or (c) the Federal Funds Effective Rate plus 1/2 of 1%, plus
2.50%. The interest rate in effect at March 3, 2002 was 5.35%. Principal is due
and payable on February 15, 2004. In exchange for this participation, the
Company received enhancements to the existing supply agreement including a
three-year extension to June 30, 2007. As of March 3, 2002, the affiliate owes
the Company $19.4 million in trade receivables. Except for a possible $2.0
million increase in participation in the credit agreement, the Company is not
obligated to fund additional amounts.
21
The other MHI affiliate is currently renegotiating its credit agreement with
its lenders. The affiliate is currently operating under a forbearance agreement
with one of its lenders. The Company believes that the affiliate will be
successful in renegotiating its credit agreement as negotiations continue
between the affiliate, its lenders and the Company. There can be no assurance
that agreements can be finalized. The Company is considering various and
changing alternatives including, among others, making further investments in
the affiliate and converting a portion of outstanding trade receivables owed by
the affiliate into a convertible note receivable. The Company may also modify
terms and conditions of its sales and accounts receivable. The Company is not
however obligated to enter into any agreement or fund additional investments.
As of March 3, 2002, the affiliate owes the Company $31.6 million in trade
receivables; of which $15.0 million was reclassified to investments in and
advances to affiliates in the fourth quarter of 2001 due to uncertainty on the
timing of collection of such amounts. The Company also has minority
representation on the affiliate's Board of Directors. In addition, a former
executive of the Company is an executive officer of this affiliate.
Based upon management's review of the available information and of the
financial condition of the investees, the Company believes that adequate
allowances ($8.6 million) have been established as of March 3, 2002 for
potential losses on the receivables with the affiliates. The Company
understands that these affiliates have experienced weakened results and is,
however, unable to predict the impact, if any, on these affiliates, should they
continue to be effected by a weakened economy or be unsuccessful in
renegotiating credit agreements or obtaining alternate additional financing. A
significant negative impact on these affiliates would adversely affect the
Company.
During the first quarter of fiscal 2001, the Company secured an additional
revolving credit facility with a separate banking group. This facility provides
for borrowing in Canadian currency up to C$25 million. The revolving credit
facility expires in fiscal 2004. At March 3, 2002, the Company had
approximately C$7.5 million available under this facility.
On April 6, 2001, the Company completed the acquisition of Sapsa Bedding
S.A., of Paris, France. The purchase price for the acquisition was $31.5
million, including costs associated with the acquisition. The acquisition was
funded through approximately $8.6 million of existing cash and $22.9 million
from available credit facilities.
The Company recorded expense of $0.6 million and $0.5 million in the first
quarter of 2002 and 2001 respectively, to revalue the right of one executive to
require the Company to repurchase certain securities of the Company at the
greater of fair market value or original cost. The expense associated with the
right was recorded in stock based compensation expense. During 2001, the
Company satisfied $10.7 million of the obligations through a cash payment in
return for the delivery of a portion of the executive's securities. At March 3,
2002, the Company has $5.2 million recorded as a long-term liability for the
remaining repurchase obligation.
In 2000, the Company signed a supply agreement with a retail mattress
company to be its sole branded supplier of mattress products through December
31, 2004. As part of securing this long-term distribution source, the Company
invested in the entity to help it grow and acquired a minority interest. This
entity operated with negative cash flows from operations for the year ended
December 31, 2001 due to its start-up nature. When this entity required
additional cash in the first quarter of 2002, the Company made an additional
investment and took control of the entity. This investment provided the Company
an opportunity to determine whether the entity can be a potentially viable
distribution source for the Company's products. It is not the Company's
strategy to own or control retail operations. Since the initial investment, the
Company has invested approximately $4.3 million in the entity and has recorded
approximately $5.0 million of indefinite lived goodwill. The Company is
actively monitoring the operations of the entity to assess its future
viability. Should the Company conclude that the entity is not a viable
business, future impairment charges of goodwill and other charges may be
necessary.
22
The Company's customers include furniture stores, national mass
merchandisers, specialty sleep shops, department stores, contract customers and
other stores. In the future, these retailers may consolidate, undergo
restructurings or reorganizations, or realign their affiliations, any of which
could decrease the number of stores that carry our products. These retailers
are also subject to changes in consumer spending and the overall state of the
economy both domestically and internationally. Any of these factors could have
a material adverse effect on our business, financial condition or results of
operations. In addition, the terrorist attacks of September 11, 2001 have
eroded consumer confidence and have had a negative impact on the retail
environment.
The Company's ability to make scheduled payments of principal, or to pay the
interest or liquidated damages, if any, on, or to refinance, our indebtedness,
or to fund planned capital expenditures will depend on the Company's future
performance, which, to a certain extent, is subject to general economic,
financial, competitive, legislative, regulatory and other factors that are
beyond our control. Based upon the current level of operations and certain
anticipated improvements, the Company believes that cash flow from operations
and available cash, together with available borrowings under the senior credit
agreement, will be adequate to meet our future liquidity needs throughout 2002.
The Company will, however, need to refinance all or a portion of the principal
of the notes on or prior to maturity. There can be no assurance that our
business will generate sufficient cash flow from operations, that anticipated
revenue growth and operating improvements will be realized or that future
borrowings will be available under the senior credit agreements in an amount
sufficient to enable us to service our indebtedness, including the notes, or to
fund our other liquidity needs. In addition, there can be no assurance that we
will be able to effect any such refinancing on commercially reasonable terms or
at all.
Management believes that the Company will have the necessary liquidity
through cash flow from operations, and availability under the existing
Revolving Credit Facility, and its anticipated renewal in December 2002, for
the next several years to fund its expected capital expenditures, obligations
under its credit agreement and subordinated note indentures, environmental
liabilities, and for other needs required to manage and operate its business.
On April 11, 2002, the Company announced that the President and Chief
Operating Officer, David J. McIlquham, assumed the duties of Chief Executive
Officer. Ronald L. Jones, will continue his duties as Chairman of the Company.
Forward Looking Statements
This document contains forward-looking statements within the meaning of the
safe harbor provisions of the Private Securities Litigation Report Act of 1995.
Although the Company believes its plans are based upon reasonable assumptions
as of the current date, it can give no assurances that such expectations can be
attained. Factors that could cause actual results to differ materially from the
Company's expectations include: general business and economic conditions,
competitive factors, raw materials pricing, and fluctuations in demand.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Information relative to the Company's market risk sensitive instruments by
major category at December 2, 2001 is presented under Item 7a of the
registrant's Annual Report on Form 10-K for the fiscal year ended December 2,
2001.
23
Foreign Currency Exposures
The Company's earnings are affected by fluctuations in the value of its
subsidiaries' functional currency as compared to the currencies of its foreign
denominated purchases. Foreign currency forward, swap and option contracts are
used to hedge against the earnings effects of such fluctuations. The result of
a uniform 10% change in the value of the U.S. dollar relative to currencies of
countries in which the Company manufactures or sells its products would not be
material to earnings or financial position. This calculation assumes that each
exchange rate would change in the same direction relative to the U.S. dollar.
In January 2002, the Argentine peso experienced a significant devaluation.
Previously pegged 1 to 1 to the U.S. dollar, the peso was trading at
approximately 2.13 pesos to the dollar at March 3, 2002. This devaluation did
not have a significant affect on the Company's financial statements due to the
relative immateriality of the operation as total assets at March 3, 2002 were
$6.5 million. Based upon the volatility of the Argentine peso, future inflation
charges may have to be recorded through the income statement due to
hyperinflation rules under FAS 52, "Foreign Currency Translation".
Interest Rate Risk
The Company has entered into interest rate swap agreements that effectively
converts $235.6 million of its floating-rate debt to a fixed-rate basis through
December 2006, thereby hedging against the impact of interest rate changes on
future interest expense (forecasted cash flows). Use of hedging contracts
allows the Company to reduce its overall exposure to interest rate changes,
since gains and losses on these contracts will offset losses and gains on the
transactions being hedged. The Company formally documents all hedged
transactions and hedging instruments, and assesses, both at inception of the
contract and on an ongoing basis, whether the hedging instruments are effective
in offsetting changes in cash flows of the hedged transaction. The fair values
of the interest rate agreements are estimated by obtaining quotes from brokers
and are the estimated amounts that the Company would receive or pay to
terminate the agreements at the reporting date, taking into consideration
current interest rates and the current creditworthiness of the counterparties.
A 10% increase or decrease in market interest rates that effect the Company's
interest rate derivative instruments would not have a material impact on
earnings during the next fiscal year.
At March 3, 2002, the fair value carrying amounts of these instruments,
which is included in other noncurrent liabilities, was a liability of $12.7
million. In addition, $3.1 million was recorded as income in accumulated other
comprehensive loss for the quarter ended March 3, 2002.
The Company has interest rate instruments in effect to provide protection on
the three month LIBOR rate upon which the Company's variable rate debt is based
(actual rate paid is LIBOR plus the respective margin). As of March 3, 2002,
the Company had a Forward Rate Agreement with a notional amount of $150.0
million, an interest rate of 5.82% and a period from December 2001 to March
2002 and an Interest Rate Amortizing Swap with a notional amount of $235.6
million, an interest rate of 6.08% and a period from December 2000 to December
2006.
24
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
See Note 11 to the Condensed Consolidated Financial Statements, Part I, Item
1 included herein.
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
(b) Reports on Form 8-K:
None
25
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Sealy Corporation has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
SEALY CORPORATION
Signature Title
--------- -----
/S/ DAVID J. MCILQUHAM Chief Executive Officer and
- ----------------------------- President
David J. McIlquham (Principal Executive Officer)
/S/ E. LEE WYATT Corporate Vice
- ----------------------------- President--Administration and
E. Lee Wyatt Chief Financial Officer
(Principal Accounting Officer)
Date: April 17, 2002
26