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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
DATE OF REPORT (DATE OF EARLIEST EVENT REPORTED): SEPTEMBER 24, 1998
JONES APPAREL GROUP, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
PENNSYLVANIA 06-0935166
(STATE OR OTHER JURISDICTION 1-10746 (IRS EMPLOYER
OF INCORPORATION (COMMISSION FILE NUMBER) IDENTIFICATION NUMBER)
250 RITTENHOUSE CIRCLE
BRISTOL, PA 19007
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES AND ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (215) 785-4000
NOT APPLICABLE
(FORMER NAME OR FORMER ADDRESS, IF CHANGED FROM LAST REPORT)
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ITEM 5. OTHER EVENTS
On September 10, 1998, Jones Apparel Group, Inc., a Pennsylvania
corporation (the "Company" or "Jones"), Sun Apparel, Inc., a Texas corporation
("Sun"), the shareholders of Sun (the "Shareholders") and SAI Acquisition Corp.,
a wholly-owned subsidiary of Jones ("SAI"), entered into an Agreement and Plan
of Merger. A copy of the Merger Agreement is attached as Exhibit 2.1 hereto and
is incorporated herein by reference. The Merger Agreement contains customary
representations, warranties, covenants (including certain non-competition and
non-interference provisions for Eric Rothfeld and Mindy Grossman) and conditions
and certain indemnification provisions.
The Merger Agreement provides for Sun to be merged into SAI (which will
change its name to Sun Apparel, Inc.), thus becoming a wholly-owned subsidiary
of Jones (the "Acquisition"). At closing Jones will (i) pay approximately $125
million in cash, (ii) issue approximately 4.8 million shares of Jones common
stock to the Shareholders, valued at the closing price of Jones common stock on
the date the Merger Agreement was signed and announced, subject to final
adjustment in the proportions of cash and stock, depending upon the price at
which Jones common stock trades immediately preceding the closing, and (iii)
refinance approximately $232 million of Sun debt. In addition, the Shareholders
will be entitled to receive $2 for each $1 by which Sun's earnings before
interest and taxes exceed the amounts in the table below (the "Contingent
Payments"). Contingent Payments, if any, will be paid 59% in cash and 41% in
Jones common stock (the value of which will be determined by the prices at which
Jones common stock trades in a defined period preceding delivery in each year).
TARGET YEAR THRESHOLD AMOUNT
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(IN MILLIONS)
1998................................................. $57.0
1999................................................. 58.0
2000................................................. 63.0
2001................................................. 85.0
Jones believes that the Acquisition provides the following benefits to both
Jones and Sun:
- provides complementary product lines over similar distribution channels,
through the Polo Jeans licensed brand;
- introduces Jones to the mass merchandise market distribution channel
through Sun's private and branded label business;
- combines experienced management teams;
- further solidifies Jones' position as one of the largest licensees of the
Polo Ralph Lauren Corporation;
- provides vertical manufacturing expertise in the jeanswear business; and
- leverages Jones' existing infrastructure.
A copy of the Press Release, dated September 10, 1998, issued by the
Company relating to the Merger Agreement, is attached as Exhibit 99.1 hereto and
is incorporated herein by reference.
In connection with the Acquisition, employment agreements which will take
effect at the closing have been entered into between SAI and Eric Rothfeld, the
controlling shareholder of Sun and its Chairman, Chief Executive Officer and
President, and between a subsidiary of Sun and Mindy Grossman, Executive Vice
President of Sun and President and Chief Executive Officer of the Polo Jeans
Company Division of Sun. Copies of the employment agreements are attached hereto
as Exhibit 10.1 and Exhibit 10.2, respectively, and are incorporated herein by
reference. Both employment agreements run through December 31, 2001, and contain
significant incentive compensation awards based on Sun's and the Polo Jeans
Company Division's earnings, respectively, through the employment period. Both
employment agreements also contain certain non-competition and non-interference
obligations while the individuals are employed by Sun, and for certain periods
thereafter. Upon consummation of the Acquisition, Eric Rothfeld will become a
member of the Jones board of directors.
Jones and the Shareholders also have entered into a Registration Rights
Agreement, which provides for the registration under the Securities Act of 1933
(the "Securities Act") of resales of the Jones common stock
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issued to the Shareholders at the closing, and the Jones common stock which may
be issued as part of the Contingent Payments. The Registration Rights Agreement
requires Jones to maintain for five years from the closing a shelf registration
statement covering resales of such common stock, and gives each of the two
principal Shareholders a right to one registration for an underwritten stock
offering. Shares of Jones common stock issued at the closing to Eric Rothfeld
and certain other Shareholders may not be sold until after six months from the
closing, and thereafter may be sold in amounts equal to 20% of the number of
such shares in each succeeding six-month period. After 30 months from the
closing, all such restrictions on transfer will expire. A copy of the
Registration Rights Agreement is attached hereto as Exhibit 4.1 and is
incorporated herein by reference.
Jones expects to use a combination of borrowings under its Senior Credit
Facilities (defined below), together with the net proceeds of an offering (the
"Offering") of $300 million principal amount of senior unsecured notes (the
"Notes") to be issued in an unregistered offering pursuant to exemptions under
Rule 144A and Regulation S of the Securities Act, to finance the cash portion of
the purchase price for Sun (approximately $125 million), to refinance existing
indebtedness of Sun (approximately $232 million), to pay related expenses
(approximately $10 million) and for general corporate purposes, including
working capital and stock repurchases. The Offering of the Notes has not been
registered under the Securities Act and may not be offered or sold in the United
States absent registration or an applicable exemption from registration
requirements.
In connection with the Acquisition, Jones intends to replace its existing
credit lines and enter into new term and revolving credit facilities in an
aggregate principal amount of up to $850 million (the "Senior Credit
Facilities"). The Senior Credit Facilities will consist of (i) an aggregate $600
million of 364-day credit facilities, to be allocated between a $300 million
364-day revolving credit facility (to be available for trade letters of credit)
and a $300 million 364-day term loan facility (which term loan facility will
only be utilized to the extent the Offering is not completed), and (ii) an
aggregate of $250 million of three-year credit facilities, to be allocated
between a $100 million term loan facility and a $150 million revolving credit
facility.
Jones may utilize a portion of the proceeds under the three-year revolving
credit facility to execute repurchases under its common stock repurchase
program. The repurchase program authorizes Jones to purchase shares in the open
market and the repurchased shares are held as treasury shares. Jones has
repurchased $195.1 million of its shares as of September 18, 1998, since the
program's inception in December 1995. An additional $100 million was approved by
the Jones Board of Directors on September 16, 1998, to provide for additional
repurchases. Jones may authorize additional share repurchases in the future
depending on, among other things, market conditions and Jones' financial
condition.
Set forth below is additional information for security holders about Sun,
the Acquisition and related transactions.
1. STRATEGY
In addition to its nationally recognized brand names, Jones believes it
enjoys a number of competitive strengths, including its design team, worldwide
network of manufacturers and reputation for customer service. Jones seeks to
capitalize on these competitive advantages and the benefits of the Acquisition
through the following growth strategies:
EXPAND LAUREN BY RALPH LAUREN LINE. The Acquisition will allow Jones to
capitalize on the success of the Lauren by Ralph Lauren line by introducing
jeanswear products under the brand. Jones' previous licensing arrangement with
Polo Ralph Lauren precluded Jones from doing so. Jones believes that Sun's
expertise in the jeanswear manufacturing and finishing process, coupled with
Jones' marketing strengths, will provide an opportunity to create a significant
denim business. Jones also plans to introduce large sizes under the Lauren by
Ralph Lauren label for the Fall 1999 season.
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EXPAND DISTRIBUTION CHANNELS. The acquisition of the Sun Apparel business
introduces Jones to new distribution channels, such as moderate department
stores and specialty stores, as well as to mass-market distribution chains such
as Wal-Mart. Jones has historically not distributed its products through these
channels. Jones believes that Sun's sales expertise in these markets provides an
opportunity for the newly combined entity to introduce brand names (other than
their current brand names) to these new channels.
EXPAND EXISTING PRIMARY PRODUCT LINES. Jones intends to increase the
number of department store locations that sell its four major brands and the
amount of retail space devoted to those brands within existing department store
locations. The combination of two major Ralph Lauren product resources (Lauren
by Ralph Lauren and Polo Jeans Company) complemented by Jones' existing array of
labels will further enhance Jones' status as one of the primary apparel
resources for many of its retail accounts. The Acquisition will also increase
Jones' leverage with its department store customers. As a primary apparel
resource, Jones can influence the mix and timing of orders, which allows Jones
to more effectively market complete product lines and minimize excess inventory.
EXPAND POLO JEANS COMPANY RALPH LAUREN BRAND. Jones believes that there
are many opportunities to grow the Polo Jeans brand licensed by Sun, including:
- expanding existing and installing additional in-store shops. In-store
shops are areas within department stores dedicated to Polo Jeans Products
utilizing signature Polo Jeans fixtures;
- increasing the number of department and specialty stores carrying Polo
Jeans Products;
- increasing sales to Polo Ralph Lauren retail stores, which Jones believes
will augment Polo Jeans Products sales and enhance consumer recognition
of the brand; and
- broadening product offerings within the Polo Jeans collection, such as
new jeanswear products, as well as casual bottoms, knitwear, sweaters and
outerwear.
EXPAND SUN DIVISION BUSINESS. Jones believes that there are many
opportunities to grow the Sun Division business, including:
- further penetrating Sun's existing customer base by distributing its
products in new departments and offering additional merchandise within
existing departments;
- expanding its account base by capitalizing on Sun's reputation as a
manufacturer and distributor of quality jeanswear and on the success of
the Polo Jeans business; and
- broadening Sun's offerings of jeanswear and casual bottoms.
ADD NEW PRODUCT LINES AND BRAND NAMES. Jones has announced that it will
introduce a new brand for the Fall 1999 season, Ralph by Ralph Lauren, licensed
from Polo Ralph Lauren Corporation. The label will cover a new sportswear
collection, at better price points, targeting 16- to 25-year old women, a market
which Jones does not directly target with any other brands. Additionally, Jones
seeks to introduce new product lines under its existing brands, such as the
Jones New York men's sportswear line launched for the Fall 1998 season and the
recently introduced, more moderately priced Todd Oldham jeanswear and sportswear
line under the TO(2) brand name for the junior market.
CAPITALIZE ON VERTICAL MANUFACTURING EXPERTISE. Sun has devoted
substantial resources to the development of low-cost, high-quality manufacturing
and sourcing and is vertically integrated in manufacturing jeanswear and casual
bottoms. Additionally, Sun plans to shift cutting and portions of its other
operations from the United States to Mexico to further reduce manufacturing
costs. Sun's vertical manufacturing expertise and cost efficiency in this area
will provide Jones with a more efficient source for its Jones Jeans line, and
will offer the opportunity to expand other lines (such as Lauren by Ralph
Lauren) into denim.
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2. PROPOSED REORGANIZATION
Jones is considering a corporate reorganization that it believes would have
certain tax benefits. If Jones consummates the reorganization, a new subsidiary
of Jones would become the primary obligor under the Notes, with Jones
guaranteeing the Notes. The target date for implementation is January 1, 1999.
Jones is currently the parent and primary operating company. It has three
principal subsidiaries: one which conducts its retail outlet business, another
which owns its Canadian and other international subsidiaries and a third which
holds Jones' trademarks and collects licensing income. Following consummation of
the Acquisition, Sun will also be a subsidiary of Jones.
Under the proposed reorganization, Jones would transfer all operations now
directly conducted by Jones to a newly created Pennsylvania subsidiary. Jones
would be the ultimate holding company, with a new Delaware holding company
(itself the only direct subsidiary of Jones) as an intermediate holding company
that directly holds the interest in the new operating subsidiary and the other
subsidiaries. In addition, at the time the reorganization is implemented, the
newly created Delaware holding company may form two new subsidiaries: one to
provide retail consultant and fixture services and another for factoring certain
receivables.
If Jones proceeds with the reorganization, the new operating subsidiary
would become the primary obligor under the Notes, with both Jones and the new
Delaware holding company guaranteeing the Notes on a full and unconditional
basis. At the same time, the new operating subsidiary would become the borrower
under the Senior Credit Facilities, with both Jones and the new Delaware holding
company providing guarantees.
3. RISK FACTORS
COMPETITION; CHANGES IN FASHION TRENDS
The apparel industry is highly competitive. Competition in this industry
takes many forms, including the following:
- establishing and maintaining favorable brand recognition;
- developing products sought by consumers;
- implementing appropriate pricing;
- providing strong marketing support; and
- obtaining access to retail outlets and sufficient floor space.
There is intense competition in the sectors of the apparel industry in
which Jones and Sun participate. Jones and Sun each compete with many other
manufacturers, some of which are larger and have greater resources. Any
increased competition could result in reduced sales or prices, or both, which
could have a material adverse effect on Jones. Additionally, customer tastes and
fashion trends can change rapidly. Jones may not be able to anticipate, gauge or
respond to such changes in a timely manner. If Jones misjudges the market for
its products or product groups, it may be faced with a significant amount of
unsold finished goods inventory, which could have a material adverse effect on
Jones.
CONCENTRATION OF CUSTOMERS
Jones' ten largest customers (typically department stores) accounted for
approximately 67% of sales in each of 1997 and the first half of 1998. Sun's ten
largest customers accounted for 48% of its sales in 1997 and 60% of its sales in
the first half of 1998. While no single department or specialty store accounted
for more than 10% of net sales for either Jones or Sun, certain of Jones' and
Sun's customers are under common ownership. Department stores owned by the
following entities accounted for the following percentages of Jones' sales:
JONES CUSTOMER 1997 FIRST HALF OF 1998
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Federated Department Stores, Inc. .......................... 20% 18%
May Department Store Company................................ 19% 17%
Remainder of ten largest customers.......................... 28% 32%
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Department stores owned by the following entities accounted for the
following percentages of Sun's sales:
SUN CUSTOMER 1997 FIRST HALF OF 1998
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Federated Department Stores, Inc. .......................... 13% 12%
Remainder of ten largest customers.......................... 35% 48%
Jones believes that purchasing decisions are generally made independently
by individual department stores within a commonly-controlled group. There has
been a trend, however, toward more centralized purchasing decisions. As such
decisions become more centralized, the risk to Jones of such concentration
increases. The loss of any of Jones' or Sun's largest customers, or the
bankruptcy or material financial difficulty of any customer or any of the
companies above, could have a material adverse effect on Jones. Jones and Sun do
not have long-term contracts with any of their customers, and sales to customers
generally occur on an order-by-order basis. As a result, customers can terminate
their relationships with Jones or Sun at any time or under certain circumstances
cancel or delay orders.
SIGNIFICANT DEPENDENCE ON LICENSE AGREEMENTS WITH POLO RALPH LAUREN CORPORATION
The termination or non-renewal of Jones' and Sun's exclusive licenses to
manufacture and market clothing under the Lauren by Ralph Lauren and Polo Jeans
Company trademarks in the United States and elsewhere would have a material
adverse effect upon Jones. Jones' Lauren by Ralph Lauren line and Sun's Polo
Jeans business represent material portions of each company's sales and profits.
Jones and Sun sell products bearing those trademarks under exclusive licenses
from affiliates of Polo Ralph Lauren Corporation. The Acquisition increases
Jones' dependence on Polo Ralph Lauren. On a pro forma basis, net sales by Jones
and Sun of products bearing these trademarks would have been 27.1% of the
consolidated entity's total net sales for the year ended December 31, 1997 and
30.3% of the consolidated entity's total net sales for the six-month period
ending June 28, 1998. In addition, Jones has announced that it will introduce
for Fall 1999 a line of sportswear directed to younger women under the trademark
Ralph by Ralph Lauren, under an additional exclusive license from Polo Ralph
Lauren.
The Lauren by Ralph Lauren license expires on December 31, 2001, subject to
Jones' right to renew through December 31, 2006 if sales of that product line
for the year 2000 exceed a specified level. Although such sales in 1997 and 1998
exceeded the renewal minimum, Jones' sales are made season-to-season, with
customers having no obligation to buy products beyond what they have already
ordered for a particular season.
The initial term of the Polo Jeans license expires on December 31, 2000 and
may be renewed by Sun in five-year increments for up to 30 additional years, if
certain minimum sales levels in certain years are met. Although Sun's Polo Jeans
sales in 1997 exceeded the renewal minimum which would be required to extend the
term of the license through December 31, 2005, Sun's sales are made
season-to-season with customers having no obligation to buy products beyond what
they have already ordered. In addition, renewal of the Polo Jeans license after
2010 requires a one-time payment by Sun of $25 million or, at Sun's option, a
transfer of a 20% interest in its Polo Jeans business to Polo Ralph Lauren (with
no fees required for subsequent renewals). Polo Ralph Lauren also has an option,
exercisable on or before June 1, 2010, to purchase the Polo Jeans business at
the end of 2010 for 80% of the then fair value of the business as a going
concern, assuming the continuation of the Polo Jeans license through December
31, 2030, payable in cash.
In addition to the provisions described above, both licenses (and the Ralph
by Ralph Lauren license) contain provisions common to trademark licenses which
could result in termination of a license, such as failure to meet payment or
advertising obligations.
CYCLICALITY OF APPAREL INDUSTRY; SEASONALITY
Negative economic trends over which Jones has no control which depress the
level of consumer spending could have a material adverse effect on Jones.
Purchases of apparel and related goods often decline during recessionary periods
when disposable income is low. In such an environment, Jones and Sun may
increase the number of promotional sales which could adversely impact Jones'
gross profit margins. Additionally, Jones's sales and profit levels fluctuate
significantly by quarter, resulting primarily from the timing of shipments for
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each season; Jones principally ships spring merchandise in the first quarter and
fall merchandise in the third quarter. An increase in sales of jeans and casual
apparel, which Sun sells, generally occurs during the third and fourth quarter.
Accordingly, Jones' operating results will fluctuate significantly from quarter
to quarter.
ACQUISITION RISKS
In order to realize the profit potential of the Acquisition, Jones will
need to successfully integrate Sun's business into its existing operations. To
do so, Jones may need to implement enhanced operational, distribution, financial
and information systems and may require additional employees and management,
operational and financial resources. The Acquisition is Jones' first acquisition
of another company. Jones may not be able to integrate Sun's operations into its
existing operations without significant expense or interruption to its existing
business. Jones may not achieve revenue growth or operational synergies in
integrating jeanswear or other product lines presently offered by Sun. Jones may
also not be able to retain important Sun employees. The acquisition of Sun, and
any future acquisition which Jones may pursue, involves certain special risks,
including:
- initial reductions in Jones' reported operating results;
- diversion of management's attention;
- unanticipated problems or legal liabilities; and
- possible reduction in reported earnings due to amortization of acquired
intangible assets.
Some or all of the above items could have a material adverse effect on
Jones. Sun or any other acquired company may not achieve sales and profitability
in the future that justify Jones' investment therein.
FOREIGN OPERATIONS AND MANUFACTURING
In 1997, approximately 70% of Jones' products were manufactured outside the
United States, primarily in Asia, while the remainder were manufactured in the
United States and Mexico. Substantially all of Sun's jeanswear assembly and most
of its finishing occur in Mexico. Sun also plans to shift cutting and portions
of its other operations from the United States to Mexico. The following may
adversely affect foreign operations:
- political instability in countries where contractors and suppliers are
located;
- imposition of regulations and quotas relating to imports;
- imposition of duties, taxes and other charges on imports;
- significant fluctuation of the value of the dollar against foreign
currencies; and
- restrictions on the transfer of funds to or from foreign countries.
As a result of its substantial foreign operations, Jones' domestic business
(including the domestic business of Sun) is subject to the following risks:
- quotas imposed by bilateral textile agreements between the United States
and certain foreign countries;
- reduced manufacturing flexibility because of geographic distance between
Jones and its foreign manufacturers, increasing the risk that Jones may
have to mark down unsold inventory as a result of misjudging the market
for a foreign-made product; and
- violations by foreign contractors of labor and wage standards and
resulting adverse publicity.
FLUCTUATING PRICE AND AVAILABILITY OF RAW MATERIALS
Fluctuations in the price, availability and quality of the fabrics or other
raw materials used by Jones and Sun in their manufactured apparel could have a
material adverse effect on Jones' cost of sales or its ability to meet its
customers' demands. Jones and Sun mainly use cotton twill, wool, denim and
synthetic and blended fabrics. The prices for such fabrics depend largely on the
market prices for the raw materials used to produce them, particularly cotton.
The price and availability of such raw materials and, in turn, the fabrics used
in Jones' and Sun's apparel may fluctuate significantly, depending on many
factors, including crop yields and weather patterns. Sun generally enters into
denim purchase order contracts at specified prices for three to six months at a
time. Higher cotton prices would directly affect Jones' costs and earnings.
Jones may not be able to pass all or a portion of such higher prices on to its
customers.
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RELIANCE ON INDEPENDENT MANUFACTURERS
Jones relies upon independent third parties for the manufacture of most of
its products. Sun relies on independent third parties for the manufacture of
some of its products. A manufacturer's failure to ship products in a timely
manner or to meet the required quality standards could cause Jones or Sun to
miss the delivery date requirements of their customers for those items. The
failure to make timely deliveries may drive customers to cancel orders, refuse
to accept deliveries or demand reduced prices, any of which could have a
material adverse effect on Jones' business. Jones and Sun do not have long-term
written agreements with any of their third party manufacturers. As a result, any
of these manufacturers may unilaterally terminate their relationships with Jones
or Sun at any time.
DEPENDENCE UPON KEY PERSONNEL
The success of Jones depends upon the personal efforts and abilities of
Sidney Kimmel (Chairman), Jackwyn Nemerov (President), Irwin Samelman (Executive
Vice President, Marketing) and, upon consummation of the Acquisition, Eric
Rothfeld (President of Sun) and Mindy Grossman (Executive Vice President of Sun
and President of Sun's Polo Jeans Company Division). Jones does not have
employment agreements with Mr. Kimmel, Ms. Nemerov and Mr. Samelman. If any of
these individuals become unable or unwilling to continue in their present
positions, Jones' business and financial results could be materially adversely
affected.
INCREASED LEVERAGE
Following the Acquisition, Jones will be substantially more leveraged on a
consolidated basis than it has historically been, as a result of borrowings to
finance the Acquisition. On a pro forma basis, Jones would have had $440.9
million of long-term debt (including the Notes) outstanding as of June 28, 1998,
compared to $40.9 million of long-term debt on an historical basis.
Historically, Jones has operated with almost no leverage, and has not been
subject to any type of materially restrictive covenants. Certain covenants
contained in the Indenture for the Notes and the Senior Credit Facilities, as
well as the increased leverage, may reduce Jones' flexibility in responding to
adverse changes in economic, business or market conditions. The financial
covenants and other restrictions contained in the Senior Credit Facilities will
require Jones to meet certain financial tests and will restrict its ability to,
among other things, borrow additional funds, make certain investments, dispose
of assets and make material amendments to debt instruments, including the
Indenture for the Notes. The additional leverage will also reduce funds
available for operations, capital expenditures, acquisitions and future business
opportunities.
RISK OF YEAR 2000 NON-COMPLIANCE
Certain functions in various types of technology used by Jones and Sun are
designed to use only two digits to identify a year. Therefore, these programs
may fail or create erroneous results on or before January 1, 2000 if not
corrected. Jones and Sun have assessed and are updating their own systems to
insure that they are Year 2000 compliant. Jones and Sun anticipate substantial
completion of this process by early 1999. Jones and Sun may not be able,
however, to complete these plans in time. Additionally, vendors, customers and
other third parties with which Jones and Sun do business may not make their
systems Year 2000 compliant. Jones' and Sun's business and results of operations
could suffer if either of them or such third parties fail to make necessary
technological adjustments. See "Year 2000" below.
4. FORWARD-LOOKING STATEMENTS
This Current Report includes "forward-looking statements" within the
meaning of the securities laws. All statements regarding our expected financial
position, business and financing plans are forward-looking statements.
Forward-looking statements also include representations of Jones' expectations
or beliefs concerning future events that involve risks and uncertainties,
including those associated with the effect of national and regional economic
conditions, the overall level of consumer spending, the performance of Jones'
products within the prevailing retail environment, customer acceptance of both
new designs and newly-introduced product lines, financial difficulties
encountered by customers and the integration of Sun's business with Jones'
existing operations. Although we believe that the expectations reflected in such
forward-looking statements are reasonable, such expectations may prove to be
incorrect. Important factors that could cause actual results
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to differ materially from such expectations ("cautionary statements") are
disclosed in this Current Report, in conjunction with the forward-looking
statements included in this Current Report and under "Risk Factors." All
subsequent written and oral forward-looking statements attributable to us or
persons acting on our behalf are expressly qualified in their entirety by the
cautionary statements.
5. BUSINESS OF SUN
Sun is a designer, manufacturer and distributor of jeanswear, sportswear,
and related apparel for men, women and children under licensed brands, private
label brands and Sun-owned brands, the most prominent of which is the Polo Jeans
Company licensed brand. Sun markets and distributes its products nationally
through a broad array of distribution channels, including department stores,
specialty stores and mass merchandisers. Through its brand marketing and
development expertise, diversified product offerings, manufacturing capabilities
and comprehensive distribution network, Sun reaches a broad range of consumers.
Sun conducts its business through two divisions, the Polo Jeans Company Division
and the Sun Division.
In late 1995, Sun entered into exclusive long-term license and design
agreements with Polo Ralph Lauren Corporation for the design, manufacture and
distribution of men's and women's jeanswear, sportswear and related apparel
under the Polo Jeans trademark in the United States and its territories. Polo
Ralph Lauren is a widely recognized consumer brand and has been a leader in the
design, marketing and distribution of premium lifestyle products for over 30
years. The Polo Jeans collection targets youthful, brand conscious consumers,
capitalizing on the distinctive name recognition and lifestyle image created by
Polo Ralph Lauren. Polo Jeans Products maintain the quality standards and
prestige of Polo Ralph Lauren at price points that are competitive with other
denim-based designer collections and lower than most apparel collections bearing
the "Polo" name. Sun markets its Polo Jeans line in leading department stores,
specialty stores and Polo Ralph Lauren retail stores. Launched at retail for
Fall 1996, the Polo Jeans collection is currently distributed to more than 3,500
department and specialty store locations and generated $198.0 million in net
sales in 1997, the first full fiscal year of distribution of Polo Jeans
Products.
Since its inception in 1979, Sun has focused primarily on the design,
manufacture and distribution of jeanswear and casual bottoms for all size
ranges, at various price points under private label brands, contract
manufacturing programs, licensed brands and Sun-owned brands. Sun manufactures
Sun Division Products for leading retailers and manufacturers such as Wal-Mart,
The Limited, J.C. Penney, Federated and Sara Lee. While manufacturing quality
jeanswear and casual bottoms in diverse styles, fits and finishes, Sun's
strategy is to distinguish itself from other denim-based apparel manufacturers
by providing value-added services in design, merchandising, production and
inventory management. The Sun Division products are currently distributed
nationwide to more than 18,000 store locations. In fiscal 1997, Sun Division
products generated $161.7 million in net sales.
Primarily as a result of the launch of the Polo Jeans line in fiscal 1996,
Sun has experienced rapid growth, with net sales increasing from $205.7 million
in fiscal 1995 to $359.7 million in fiscal 1997. During the same period,
operating income increased from $16.0 million to $36.0 million, and the
operating margin increased from 7.8% to 10.0%. In the first six months of fiscal
1998, net sales and operating income increased from $160.2 million and $13.4
million to $206.8 million and $23.9 million, respectively, while operating
margin increased from 8.4% to 11.6% compared to the corresponding period of
fiscal 1997.
Sun believes that its success is due to a number of fundamental strengths,
including: proven success in brand marketing and development, full service
design and merchandising expertise, modern and vertically integrated jeanswear
manufacturing and distribution facilities, international sourcing capabilities
and customer inventory management.
Sun's senior management has an average of over 14 years of experience in
the apparel industry. Eric A. Rothfeld, Sun's President, has been leading Sun's
operations for over 15 years. Sun has built an experienced management team with
expertise in all facets of the apparel business.
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POLO JEANS COMPANY BUSINESS
Polo Jeans Products. Sun's Polo Jeans Products consist primarily of men's
and women's jeanswear, sportswear and related apparel. The Polo Jeans line is
designed to maximize in-store impact while minimizing fashion risk. A major
portion of the Polo Jeans line is comprised of core, recurring styles which Sun
believes are less susceptible to fashion obsolescence and less seasonal in
nature than fashion products.
Polo Jeans Products are categorized into three groups: automatic
replenishment, basics and fashion merchandise. The automatic replenishment
merchandise consists of Polo Jeans Company core products and their styles
reflect little variation from season to season. These products include jeans,
shorts, T-shirts and caps and are shipped daily under Sun's quick response
automatic replenishment program, whereby customer orders are generally shipped
within 24 hours to one week from receipt of the orders (the "Replenishment
Program"). Automatic replenishment merchandise represented approximately 40% of
Sun's Polo Jeans Products net sales in 1997. Polo Jeans complements automatic
replenishment merchandise with its key item basics, which include items with
similar styles to the automatic replenishment merchandise but with a broader
range of colors and fabrics. These basics also consist of selected casual
bottoms and tops that are generally seasonal in nature and are carried on the
sales floor by retailers for an entire season. Certain best-selling basics may
ultimately be added to Sun's Replenishment Program. Basics represented
approximately 35% of Polo Jeans Products net sales in 1997. To appeal to fashion
conscious consumers, Polo Jeans continually updates its product assortment by
offering fashion merchandise which reflects current trends in color, fabrication
and styling. Fashion merchandise is sold and shipped on a monthly basis and is
generally ordered by customers well in advance of the selling season. Fashion
merchandise represented approximately 25% of Polo Jeans Products net sales in
1997.
Through the Polo Jeans line, Sun intends to leverage and further develop
the name recognition and lifestyle image created by Polo Ralph Lauren, in order
to capture the increasing buying power of youthful, brand conscious consumers.
The Polo Jeans business is focused primarily on a younger market and serves to
introduce this generation to the distinctive lifestyle image of Polo Ralph
Lauren in a contemporary manner. Polo Jeans Products maintain the high quality
standards and prestige of Polo Ralph Lauren at price points that are competitive
with other denim based designer collections and lower than most apparel
collections bearing the "Polo" name.
Sun employs its own in-house Polo Jeans design staff, which travels
throughout the United States and internationally in order to monitor and
interpret fashion trends and discover new fabrics. Designs of Polo Jeans
Products are influenced by contemporary music, television, cinema and other
forms of artistic expression. The design staff collaborates with Ralph Lauren
and his design team on many of the Polo Jeans Products. In addition, as Polo
Ralph Lauren has launched the Polo Jeans line internationally, many of the Polo
Ralph Lauren international licensees have used Sun's designs of Polo Jeans
Products. Sun receives a design fee in connection with Polo Jeans international
sales.
Sales. Sun markets its Polo Jeans line in leading department stores,
specialty stores and Polo Ralph Lauren retail stores. Key customers include
Federated (including Macy's and Bloomingdale's), May (including Lord & Taylor
and Foley's), Dillard's and Dayton Hudson. In addition, Polo Ralph Lauren
currently owns and operates more than 70 Polo Ralph Lauren Factory Outlets, all
of which carry certain Polo Jeans Products, and seven Polo Jeans Company Factory
Outlets. In late 1997, Polo Ralph Lauren opened its first full-price Polo Jeans
Company retail store dedicated to Sun's Polo Jeans Products. Polo Ralph Lauren
has opened two additional such stores in 1998 and expects to open 10 full-price
Polo Jeans Company retail stores and 18 Polo Jeans Company Factory Outlets
during 1999. Sun believes that the continued roll-out of outlet and retail
stores by Polo Ralph Lauren will augment Polo Jeans Products sales and enhance
consumer recognition of the Polo Jeans brand. Although products for Polo Ralph
Lauren full-price and outlet stores are generally sold at a discount to Sun's
wholesale prices, Sun does not have any royalty, advertising or markdown
expenses with respect to such sales.
Men's Line. The Polo Jeans men's line is sold in approximately 1,400
department store locations and 1,500 specialty store locations. By the end of
1998 Sun expects to have over 600 in-store shops in department stores. Menswear
products accounted for approximately 60% of net sales of Polo Jeans Products in
1997.
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Women's Line. The Polo Jeans women's line is sold in over 900 department
store locations and over 900 specialty store locations. By the end of 1998 Sun
expects to have approximately 600 in-store shops in department stores.
Womenswear represented approximately 40% of net sales of Polo Jeans Products in
1997. Sun anticipates that womenswear will represent a greater percentage of
Polo Jeans Products sales by the end of 1998.
Sun employs a staff of in-house account managers and regional account
executives for both men's and women's sales who manage the department store,
specialty store and Polo Ralph Lauren retail store business. Each account
manager interfaces with a retail analyst to evaluate and plan growth for each
customer by door. The sales and retail planning group is integrated into the
merchandise planning process to ensure correct inventory flow. Sun believes this
team integration approach maximizes sales and manages inventory throughout the
product development, sales and distribution process.
Retail Development. In-store shops and fixtured environments are a
critical component of the Polo Jeans marketing strategy as they are designed to
effectively display and merchandise Polo Jeans Products. Sun believes that, in
addition to maximizing sales per square foot, in-store shops and fixtured
environments enhance the consumer's shopping experience, promote the Polo Jeans
lifestyle image and build loyalty among consumers. These shops also serve to
differentiate the youthful lifestyle image of Polo Jeans Products from other
Polo Ralph Lauren products through the use of distinctive fixturing and visuals.
Sun anticipates spending approximately $12.5 million in 1998 both on expanding
existing shops and adding new in-store shops. Sun believes that in-store shops
stimulate long term commitments from retailers as well as significantly improve
sales productivity. Sun currently expects to have over 1,100 in-store shops
covering more than 500,000 square feet of fixtured retail selling space in
department stores by the end of 1998. Approximately 50% of the department store
locations will have fixtured environments, increasing the amount of Polo Jeans
fixtured retail real estate in one year by approximately 140%.
Sun has developed a sophisticated retail development program that
encompasses in-house shop planning and visual merchandising, state-of-the-art
shop imaging systems, a coordinator team of regional merchandisers, and in-store
specialists. Coordinators cover approximately 70% of the Polo Jeans department
store locations and seek to ensure that the Polo Jeans Products are merchandised
in the best available locations and are prominently displayed to maximize sales
volume. The coordinators train the department store sales associates about the
Polo Jeans Products brand image and merchandising standards. The continued
expansion of retail development is a key element in Sun's growth strategy.
Marketing and Advertising. Sun has focused on creating exciting marketing
and advertising campaigns for Polo Jeans to build brand awareness and appeal to
its target market of youthful, brand conscious consumers. Sun spent over $22
million on launch advertising during 1996 and 1997 to establish the Polo Jeans
Products brand image. While Polo Ralph Lauren maintains final authority in
creating, producing and placing the advertising, Sun works closely with Polo
Ralph Lauren to develop innovative advertising and integrated marketing efforts
to heighten brand awareness. In addition to advertising in a broad range of
fashion magazines, Sun has expanded Polo Jeans advertising into lifestyle
publications, outdoor advertising and radio advertising. Further, Sun has
created the "Polo Jeans Outdoor Cinema" to showcase independent films, developed
at-counter movie promotions with retailers in conjunction with Miramax Film
Corp. and Entertainment Weekly, among others, and run a nationwide movie-short
in Sony Retail Entertainment's Loews theaters and other major theater chains.
These advertising and promotional venues are aimed to differentiate the brand
and reach the target customer. In addition, Sun benefits from the advertising
campaigns of Polo Ralph Lauren and its other licensees.
SUN DIVISION BUSINESS
Sun Division Products. Sun's Sun Division Products consist of jeanswear
and casual bottoms for men, women, and children, in all sizes ranging from
toddlers to men's big and tall and women's plus sizes. More than 40% of the Sun
Division Products business consists of basic five pocket jeans in core denim
fabrics distributed through Sun's Replenishment Program, with the balance
representing basic and fashion jeanswear and casual bottoms produced on a
cut-to-order basis only. The fashion component is derived from a broad
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range of silhouettes, fabrications and finishes intended to appeal to younger,
more style conscious consumers. Sun is able to quickly produce fashion items on
a cut-to-order basis because of its flexible manufacturing process, thus
reducing inventory risk and enabling Sun to respond to fashion trends.
Sales. Sun markets its Sun Division Products nationally to major retailers
across numerous channels of distribution. The Sun Division Products are
currently distributed nationwide to more than 18,000 store locations. Sun
manufactures its products for such leading retailers and manufacturers as
Wal-Mart, The Limited, J.C. Penney, Federated and Sara Lee, each targeting
different channels of distribution. Sun believes its reputation as a
manufacturer and distributor of quality jeanswear and casual bottoms, together
with the success of the Polo Jeans business, has fostered the expansion of Sun's
Sun Division Products account base. Sun is continuing to explore opportunities
to develop additional accounts with department stores, specialty stores, mass
merchandisers and manufacturers as well as further penetrate its existing
customer base.
Within the Sun Division, private label sales have become an increasingly
important component and currently represent over 80% of Sun's Sun Division
business. The balance of the Sun Division business consists primarily of
licensed brand sales under the Todd Oldham, Sasson and Robert Stock labels,
sales under Sun-owned Code Bleu brand and contract manufacturing, including Just
My Size jeans for Sara Lee.
In its Sun Division, Sun concentrates on maintaining a balance of customers
across different distribution channels. In 1997, department stores represented
approximately 27% of sales, speciality stores represented approximately 26%,
mass merchandisers represented approximately 41% of net sales, and manufacturers
represented approximately 6% of net sales.
Sun employs a sales staff of in-house account managers with strong
backgrounds in retail, design and merchandising, production and distribution.
These highly trained specialists are able to respond to the diverse needs of the
buying, production and logistical staffs of retailers and manufacturers,
offering the technical expertise to facilitate and expedite the rapid conversion
of fashion concepts into samples, production, and retail sales. With respect to
the Replenishment Program, the account managers work closely with retail
analysts and production coordinators to ensure there are appropriate inventory
levels to meet consumer demands. For the fashion cut-to-order business, the
account managers interface with the design and merchandising staff to create
innovative, affordable merchandise.
Todd Oldham Jeans Business. Sun is the exclusive worldwide licensee for
Todd Oldham Jeans, a collection of jeanswear and sportswear targeted toward the
sophisticated, fashion forward consumer and distributed to better department
stores and specialty stores, at price points that are higher than Polo Jeans but
significantly lower than Todd Oldham's couture collection.
In the Fall 1998 season, Sun introduced a more moderately priced Todd
Oldham jeanswear and sportswear line under the TO(2) brand name for the junior
market at Nordstrom, Wet Seal and other select department and specialty stores.
MANUFACTURING, SOURCING AND DISTRIBUTION
Sun has devoted substantial resources to the development of low-cost,
high-quality and versatile manufacturing and sourcing. Sun believes its modern
and vertically integrated manufacturing and distribution facilities in the
United States and Mexico, combined with the global sourcing capabilities
developed through its Polo Jeans business, provide Sun with the flexibility and
efficiency necessary to offer its customers a broad variety of products tailored
to their specific design, pricing and delivery requirements.
Sun believes it has distinguished itself from many of its jeanswear
competitors by virtue of its extensive control of the manufacturing process. Sun
is vertically integrated in manufacturing jeanswear and casual bottoms,
beginning with the design and merchandising process, through cutting, assembly,
finishing and distribution. Approximately 80% of Sun's jeanswear products are
cut in Sun-owned facilities, 40% are assembled in Sun-owned facilities, and 70%
are finished in Sun-owned facilities. Virtually all of the remaining jeanswear
is assembled and finished through Sun's network of Mexican contractors developed
over the last ten years. In fiscal 1997, approximately 40% of Polo Jeans
Products consisting of jeanswear and casual bottoms
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were made at Sun-owned and Mexican contract facilities. All other Polo Jeans
non-jeanswear products are sourced from a broad range of domestic and
international manufacturers.
Raw Material. Sun's primary raw material in its jeanswear business is
denim, of which approximately 95% is purchased from leading domestic mills,
including Swift Denim USA, Cone Mills Corp. and Thomaston Mills Inc. Denim
purchase commitments and prices are negotiated on a quarterly or semi-annual
basis. Sun has no long term supply contracts with any of its suppliers, but has
been conducting business with its primary denim suppliers for more than five
years. Sun performs its own extensive testing of denim, cotton twill and other
fabrics to insure consistency and durability. Most non-jeanswear products are
sourced on a finished product basis with raw materials furnished by the
suppliers.
Pre-production, Cutting, Assembly and Finishing of Jeanswear and Casual
Bottoms. Beginning with the pre-production stage of jeanswear sample
development, Sun's in-house manufacturing staff is able to quickly develop
jeanswear and casual bottoms styles that satisfy customer specifications and can
be produced efficiently to meet customer pricing guidelines. Quality assurance
is built into all phases of Sun's jeanswear manufacturing process, with the
careful monitoring of cutting, assembly and finishing by inspectors and
auditors.
Sun utilizes a sophisticated computer aided design ("CAD") marking system
to maximize fabric utilization for jeanswear and casual bottoms production. All
of the fabric is warehoused and most of the cutting is done in a Sun-owned
100,000 square foot facility in El Paso, Texas.
The six Sun-owned assembly and finishing facilities, comprising
approximately 380,000 square feet (five in Mexico and one in El Paso, Texas),
assemble approximately 200,000 jeans and casual bottoms and finish approximately
350,000 jeans and casual bottoms per week. These modern facilities, when
combined with Sun's network of Mexican contractors, provide significant capacity
for the quick turnaround of basic jeans and casual bottoms and are able to
rapidly execute small tests and large production runs of fashion designs and
finishes. Over the last ten years, Sun has moved substantially all of its
jeanswear assembly and most of its finishing from the United States to Mexico,
maintaining its quality standards and timely delivery while significantly
reducing manufacturing costs. In addition, Sun plans to shift cutting and
portions of its other operations from the United States to Mexico to further
reduce manufacturing costs.
Sourcing of Non-Jeanswear Polo Jeans Products. While virtually all
jeanswear and most casual bottoms are produced in Sun-owned or contract
facilities in Mexico, the remaining Polo Jeans Products are sourced from a
variety of domestic and foreign manufacturers using sourcing agents and direct
representatives. The Polo Jeans Company Division has developed an international
and domestic sourcing network of core vendors to ensure timely delivery,
superior quality and competitive pricing. In certain cases, Sun uses the same
agent and suppliers as Polo Ralph Lauren.
Replenishment Inventory Management. Sun's Replenishment Program is a vital
component of the Polo Jeans Company and Sun Division businesses. Approximately
40% of both the Polo Jeans Company Division business and the Sun Division
business is generated through such inventory Replenishment Program. A staff of
retail analysts and production coordinators monitor and proactively respond to
retail sales trends by SKU for each program to maximize sales and minimize
inventory risks.
Warehousing and Distribution. All Polo Jeans Products are distributed
through a 190,000 square foot leased modern warehouse facility in El Paso,
Texas. In 1997, this warehouse implemented a state-of-the-art computerized
warehouse management system to efficiently control inventory by SKU from receipt
into the warehouse through shipping and billing. In conjunction with this
system, Sun has developed a scan pack auditing procedure to ensure the correct
merchandise is being shipped.
All Sun Division Products are distributed through a Sun-owned 80,000 square
foot modern warehouse facility also in El Paso. This facility is implementing
the same computerized warehouse management system as in the Polo Jeans
warehouse.
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LICENSE AGREEMENTS
Polo Jeans Company License. In August 1995, Sun entered into design and
license agreements with Polo Ralph Lauren (together and each as amended, the
"Polo Jeans License"). Under the Polo Jeans License, Polo Ralph Lauren granted
Sun an exclusive, long-term license for the design, manufacture and sale of
men's and women's jeanswear, sportswear, and related apparel under the Polo
Jeans trademarks in the United States and its territories. The Polo Jeans
License requires Sun to pay certain royalties to Polo Ralph Lauren and to make
certain expenditures for advertising, in each case based on Sun's net sales of
Polo Jeans Products. In addition, the Polo Jeans License requires that certain
activities of Sun under the Polo Jeans License, including, among others, design,
advertising and distribution of Polo Jeans Products, are subject to review and
approval by Polo Ralph Lauren.
The initial term of the Polo Jeans License expires on December 31, 2000 and
may be renewed by Sun in five year increments for up to 30 additional years if
certain minimum sales requirements are met. Beginning in the first renewal term,
Sun is required to make certain minimum royalty payments. Renewal of the Polo
Jeans License by Sun after 2010 requires a one-time payment of $25.0 million or,
at Sun's option, a transfer of a 20.0% interest in its Polo Jeans Company
Division business to Polo Ralph Lauren, with no fees required for subsequent
renewals. Polo Ralph Lauren has an option exercisable on or before June 1, 2010,
to purchase Sun's Polo Jeans Company Division business at the end of 2010 for
80.0% of the then fair value of the business as a going concern, assuming the
continuation of the Polo Jeans License through December 31, 2030, payable in
cash. Sun's Polo Jeans Products sales during fiscal 1997 exceeded the minimum
contractual threshold for renewal through 2005, however, such threshold must
also be met at time of renewal. There can be no assurance that Sun will continue
to meet or exceed the minimum contractual threshold.
Sun's ability to produce and distribute Polo Jeans Products is dependent
upon the retention of the Polo Jeans License, which contains provisions that,
under certain circumstances, could permit Polo Ralph Lauren to terminate the
Polo Jeans License. Such provisions include, among others, (i) the failure to
meet specified minimum levels of annual sales for the licensed products after
the initial term; and (ii) a default in the payment of certain amounts payable
under the Polo Jeans License, such as royalties, annual advertising and shop
expenditures.
Pursuant to the terms of the Polo Jeans License, Sun is prohibited, during
the term of the license, from selling, advertising or promoting the sale of any
items which are comparable to and/or competitive with the Polo Jeans Products
and which bear the name of any fashion apparel designer (other than Todd Oldham
or Robert Stock), subject to certain limited exceptions. The Polo Jeans License
specifically prohibits Sun from, directly or indirectly, acting as a
manufacturer, contractor or supplier of or for merchandise comparable or
competitive with the Polo Jeans Products bearing or associated with certain
specified designer and brand names.
Pursuant to the terms of the Polo Jeans License, Polo Ralph Lauren is
prohibited from the use of or licensing others to use the "Polo" or "Ralph
Lauren" name in connection with men's or women's denim jean pants or shorts
(excluding the "Chaps" trademark), provided, however, that (i) Polo Ralph Lauren
may include such products in its "Polo" lines so long as the wholesale prices
for such products are at least 40% higher than the wholesale prices for
comparable Polo Jeans Products and (ii) Polo Ralph Lauren may include such
products in its "RRL" jeanswear line at price points that are higher than the
suggested retail prices for comparable Polo Jeans Products.
Todd Oldham License. In March 1995, Sun entered into an exclusive license
agreement with L7 Designs, Inc., the owner of the Todd Oldham trademark (as
amended, the "Todd Oldham License") for the design, merchandising, manufacturing
and sale of men's and women's jeanswear, casual bottoms and tops under the Todd
Oldham Jeans name (or other Todd Oldham name identification selected by L7
Designs, Inc.). Although the Todd Oldham License is scheduled to expire on
December 31, 1999, it is renewable at the option of Sun for a series of two-year
periods for a total of 40 years in the aggregate, if certain minimum sales
requirements are met or minimum royalty payments are made. Sun is the exclusive,
worldwide licensee of Todd Oldham Jeans Products.
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The Todd Oldham License contains provisions that, under certain
circumstances, could permit the licensor to terminate the Todd Oldham License.
Such provisions include, among other things, (i) a default in the payment of
certain amounts payable under the Todd Oldham License that continues beyond the
specified grace period; and (ii) the failure to comply with the covenants
contained in the Todd Oldham License. Sun does not believe that the loss or
termination of the Todd Oldham License, or the decline in popularity of Todd
Oldham Jeans Products, would have a material adverse effect on Sun's financial
condition.
MANAGEMENT INFORMATION SYSTEMS & TECHNOLOGY
Over the past three years, Sun has invested over $5.0 million in upgrading
its management information systems to support the rapid growth of the Polo Jeans
Company Division business. Sun has implemented and continues to add systems to
be more proactive to customer needs, to improve internal communication flow, to
increase process efficiency, and to support management decisions.
Sun's systems provide, among other things, comprehensive order processing,
production, accounting and management information for the marketing, sales,
manufacturing, and distribution functions of Sun. Sun has developed advanced
software programs to track customer orders, manufacturing schedules and sales.
Sun also utilizes an advanced computerized warehouse management system, as well
as other warehouse management technology, to efficiently manage inventory from
receipt into the warehouses through shipping and billing.
BACKLOG
A large portion of sales are booked in advance of each season, and it is
therefore normal for Sun to maintain a significant order backlog. As of March
31, 1998, Sun had booked orders amounting to approximately $204 million compared
with $140 million at March 31, 1997. Order backlog at December 31, 1997 was
approximately $129 million. Automatic replenishment orders, which are generally
shipped within one week of receipt of order and therefore excluded from the
order backlog, have also increased for both the Polo Jeans Products and Sun
Division Products. Accordingly, a comparison of backlog orders from period to
period is not necessarily meaningful and may not be indicative of eventual
actual shipments.
FACTORING OF ACCOUNTS RECEIVABLE
Sun factors approximately 25% of its trade receivables with three
commercial financial companies. These receivables are factored without recourse
as to credit risk, but with recourse for any claims by customers for adjustment
in the normal course of business relating to pricing errors, shortages, and
damaged goods. Upon collection of the receivables or 120 days after payment is
due, the factors forward the related payment to Sun. Under this arrangement, Sun
is charged a factoring commission ranging from 0.50% to 0.75% of factored sales.
The factor approves the credit for those orders submitted by Sun prior to sale.
If the factor disapproves a sale to a customer and Sun decides to proceed with
the sale, Sun bears the credit risk.
SEASONALITY
Demand for Sun's products and its level of sales fluctuate during the
course of the calendar year as a result of seasonal buying trends. An increase
in sales of jeans and casual apparel generally occurs during the Fall and
Holiday selling seasons (Jones' third and fourth quarter, respectively).
Accordingly, Sun's operating results will fluctuate from quarter to quarter.
COMPETITION
The apparel industry is highly competitive and Sun competes with numerous
manufacturers of jeanswear, sportswear and casual apparel, including both brand
name and private label producers. Sun's Polo Jeans Products compete with a
number of designer product lines, including Calvin Klein, Tommy Hilfiger, Donna
Karan and Guess?, as well as certain brand name products, including those
manufactured by Levi Strauss & Co. and VF Corporation. Sun's Sun Division
Products compete with products manufactured by numerous brand name and private
label producers, as well as retailers that have established, or may establish,
internal product development and sourcing capabilities. Certain of Sun's
competitors have greater financial, manufac-
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turing and other resources than Sun. Although factors may differ by product
line, Sun believes that it competes primarily on the basis of brand image,
quality of design and workmanship, price, advertising and its ability to respond
quickly to the needs of retail customers. Any increased competition could result
in reduced sales or prices, or both, which could have a material adverse effect
on Sun's business, results of operations and financial condition.
GOVERNMENT REGULATION
Apparel products are subject to regulation by the Federal Trade Commission
in the United States. Regulations relate principally to the labeling of Sun's
products. Sun's import operations are also subject to constraints imposed by
bilateral textile agreements between the United States and a number of foreign
countries. These agreements which have been negotiated bilaterally either under
the framework established by the Arrangement Regarding International Trade in
Textiles, known as the Multifiber Agreement, or other applicable statutes,
impose quotas on the amounts and types of merchandise which may be imported into
the United States from these countries. These agreements also allow the
signatories to adjust the quantity of imports for categories of merchandise
that, under the terms of the agreements, are not currently subject to specific
limits. Sun's imported apparel products are also subject to United States
customs duties which are included in the cost of the merchandise.
ENVIRONMENTAL LAWS
Sun's manufacturing process, particularly the finishing process, uses
laundering agents, softeners, dyes and other chemicals. Compliance with federal,
state and local and foreign laws enacted for the protection of the environment
has to date had no material effect upon Sun's capital expenditures, earnings, or
competitive position. Although Sun does not anticipate any material adverse
effects in the future based on the nature of its operations and the thrust of
such laws, no assurance can be given that such laws, or any future laws enacted
for the protection of the environment, will not have a material adverse effect
on Sun.
EMPLOYEES
At December 31, 1997, Sun employed approximately 5,050 people, of which
approximately 3,715 are employed in Mexico. Of the 1,335 United States
employees, approximately 1,015 are hourly employees and 320 are salaried
employees. 105 of the United States employees, all of whom work in Sun's cutting
facility in El Paso, Texas, are covered by a collective bargaining agreement
with Local 360, Union of Needletrades, Industrial and Textile Employees,
AFL-CIO, which expires December 31, 1999. Under this Agreement, Sun can relocate
portions or all of its cutting operations to Mexico. Management believes its
employee relations are satisfactory.
PROPERTIES
Sun's headquarters are located at 11201 Armour Drive, El Paso, Texas. An
executive office and the design and sales office for the Sun Division Products
are located at 111 West 40th Street, New York, New York. The Polo Jeans Company
Division office and showroom is currently located at 115 Fifth Avenue, New York,
New York. The lease for the office and showroom space formerly occupied at 595
Madison Avenue,
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New York, New York, which expires in October 2006, has been assigned for the
remainder of its term. The general location, use and approximate size of Sun's
principal owned and leased properties are set forth below:
APPROXIMATE
LOCATION OWNED/LEASED USE SQUARE FEET
-------- ------------ ------------------------------------------------ -----------
El Paso, Texas owned Corporate headquarters and pre-production
facility 50,000
El Paso, Texas owned Warehousing and cutting 100,000
El Paso, Texas owned Finishing 170,000
El Paso, Texas owned Warehousing and distribution 80,000
El Paso, Texas leased Warehousing and distribution 190,000
New York, New York leased Executive office, design and sales office for
Sun Division Products 11,500
New York, New York leased Polo Jeans Company Division office and showroom 43,000
New York, New York leased Todd Oldham Jeans division office and showroom 2,900
Durango, Mexico owned Finishing 86,000
Durango, Mexico owned Assembly 38,600
Durango, Mexico owned Assembly 34,500
Durango, Mexico owned Assembly 34,500
Durango, Mexico owned Finishing 16,000
LEGAL MATTERS
Sun is involved from time to time in various routine legal and
administrative proceedings and threatened legal and administrative proceedings
incidental to its business. In the opinion of Sun's management, the resolution
of such matters will not have a material adverse effect on its business,
financial condition or results of operations.
6. YEAR 2000
(A) JONES
Jones uses various types of technology in the operations of its business.
Some of this technology incorporates date identification functions; however,
many of these date identification functions were developed to use only two
digits to identify a year. These date identification functions, if not
corrected, could cause their relating technology to fail or create erroneous
results on or before January 1, 2000.
Jones is continuing to assess, with both internal and external resources,
the impact of Year 2000 issues on its information and non-information technology
systems. As part of this process, Jones retained the services of an independent
consultant that specializes in Year 2000 evaluation and remediation work. In
addition, Jones has developed a plan with respect to the Year 2000 readiness of
its internal technology systems. This plan involves (i) creating awareness
inside Jones of Year 2000 issues, (ii) analyzing Jones' Year 2000 state of
readiness, (iii) testing, correcting and updating systems and computer software
as needed, and (iv) incorporating the corrected or updated systems and software
into Jones' business. Jones is currently finalizing the assessment phase of this
plan, and has moved into the testing and correcting phase with respect to those
technology systems that have been identified by Jones as having Year 2000
issues. Jones anticipates substantially completing the implementation of this
plan by early 1999; however, Jones may revise the estimated date of completion
of this plan based upon any unforeseen delays or costs in implementing such
plan.
In a continuing effort to become more productive and competitive, Jones
replaces portions of its software and hardware when warranted by significant
business and/or technology changes. While these replacements are not
specifically intended to resolve the Year 2000 issue, the new software and
hardware is designed to function properly with respect to dates related to the
Year 2000 and beyond. Jones also has initiated discussions with its significant
suppliers, customers and financial institutions to ensure that those parties
have appropriate plans to remediate Year 2000 issues when their systems
interface with Jones's systems or may
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otherwise impact operations. Jones anticipates substantially completing the
implementation of this plan by early 1999; however, there can be no assurances
that such plan will be completed by the estimated date or that the systems and
products of other companies on which Jones relies will not have an adverse
effect on its business, operations or financial condition.
As of August 30, 1998, Jones had incurred approximately $125,000 in costs
related to the Year 2000 issue. Jones believes that additional costs related to
the Year 2000 issue will not be material to its business, operations or
financial condition. However, estimates of Year 2000 related costs are based on
numerous assumptions and there is no certainty that estimates will be achieved
and actual costs could be materially greater than anticipated. Jones anticipates
that it will fund its additional Year 2000 costs from current working capital.
(B) SUN
Sun uses various types of technology in the operations of its business.
Some of this technology incorporates date identification functions; however,
many of these date identification functions were developed to use only two
digits to identify a year. These date identification functions, if not
corrected, could cause their relating technology to fail or create erroneous
results on or before January 1, 2000.
Sun is continuing to assess, with both internal and external resources, the
impact of Year 2000 issues on its information and non-information technology
systems. A substantial portion of Sun's systems are presently Year 2000
compliant and Sun anticipates that the implementation of Sun's Year 2000 plan
will be complete by early 1999. However, Sun may revise the estimated date of
completion of this plan based upon any unforeseen delays or costs in
implementing its plan. Although Sun believes that Year 2000 compliance will not
have a material adverse effect on financial results, Sun is uncertain as to the
extent its customers and suppliers may be affected by Year 2000 issues.
As of July 31, 1998, Sun has incurred approximately $400,000 of costs
related to Year 2000 issues. Sun believes that additional costs related to Year
2000 issues will not be material to its business, operations or financial
condition. However, estimates of Year 2000 costs are based on numerous
assumptions and there is no certainty that estimates will be achieved. Actual
costs could be materially greater than anticipated.
18
19
ITEM 7. FINANCIAL STATEMENTS, PRO FORMA FINANCIAL INFORMATION AND EXHIBITS
(A) FINANCIAL STATEMENTS OF SUN
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Shareholders
Sun Apparel, Inc.
We have audited the accompanying consolidated balance sheets of Sun
Apparel, Inc. as of December 28, 1996 and December 31, 1997, and the related
consolidated statements of income, shareholders' equity (deficit), and cash
flows for the years ended December 30, 1995, December 28, 1996, and December 31,
1997. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Sun Apparel, Inc. as of December 28, 1996 and December 31, 1997 and the
consolidated results of its operations and its cash flows for the years ended
December 30, 1995, December 28, 1996, and December 31, 1997 in conformity with
generally accepted accounting principles.
ERNST & YOUNG LLP
San Antonio, Texas
March 26, 1998, except for
Note 17, as to which the date
is September 10, 1998
19
20
SUN APPAREL, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
DECEMBER 28 DECEMBER 31 JUNE 30
1996 1997 1998
------------ ------------ -----------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents........................... $ 3,674 $ 3,751 $ 1,354
Due from factors.................................... 32,969 15,879 17,224
Trade receivables................................... 26,215 46,822 44,455
Inventories......................................... 54,960 57,704 75,345
Advances to contractors............................. 387 1,670 242
Other receivables................................... 2,237 1,619 2,932
Prepaid expenses.................................... 891 1,299 4,651
-------- --------- ---------
Total current assets.................................. 121,333 128,744 146,203
Property, plant, and equipment........................ 47,615 59,249 63,727
Less accumulated depreciation......................... 19,222 25,167 27,106
-------- --------- ---------
Net property, plant, and equipment.................... 28,393 34,082 36,621
Loan origination costs, net........................... 109 7,305 6,759
Deferred income taxes................................. -- 2,503 2,026
Other assets.......................................... 2,780 1,607 1,820
-------- --------- ---------
Total assets.......................................... $152,615 $ 174,241 $ 193,429
======== ========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable -- trade........................... $ 24,062 $ 23,228 $ 27,457
Current portion of long-term debt................... 6,330 3,000 4,228
Accrued liabilities................................. 8,681 13,552 19,309
Due to related parties.............................. 100 1,607 1,607
Taxes payable....................................... 1,310 4,645 5,033
-------- --------- ---------
Total current liabilities............................. 40,483 46,032 57,634
Debt:
Long-term debt, net of current portion.............. 27,299 156,611 153,709
Bank Credit Facility................................ 34,250 27,000 28,900
Subordinated debt, net of current portion........... 2,507 30,000 30,000
Deferred income taxes................................. -- 1,028 1,075
Shareholders' equity (deficit):
Common stock, no par value; 1,000,000 shares
authorized; 101,000 shares issued; 101,000 shares
issued and outstanding at December 28, 1996 and
3,780 shares issued and outstanding at December
31, 1997 and June 30, 1998 (unaudited)........... 417 417 417
20
21
DECEMBER 28 DECEMBER 31 JUNE 30
1996 1997 1998
------------ ------------ -----------
(UNAUDITED)
Preferred stock:
Series A Preferred Stock, $1 par value; 215,000
shares authorized, issued and outstanding...... -- 44,475 47,270
Series B Preferred Stock, $1 par value; 201,065
shares authorized, issued and outstanding...... -- 41,593 44,207
Series C Preferred Stock, $1 par value; 8,935
shares authorized, issued and outstanding...... -- 1,848 1,964
Paid-in capital..................................... -- 15,582 15,582
Retained earnings (deficit)......................... 47,659 (190,345) (187,329)
-------- --------- ---------
Total shareholders' equity (deficit).................. 48,076 (86,430) (77,889)
-------- --------- ---------
Total liabilities and shareholders' equity
(deficit)........................................... $152,615 $ 174,241 $ 193,429
======== ========= =========
See accompanying notes.
21
22
SUN APPAREL, INC.
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS)
YEARS ENDED SIX MONTHS ENDED
----------------------------------------- --------------------
DECEMBER 30 DECEMBER 28 DECEMBER 31 JUNE 30 JUNE 30
1995 1996 1997 1997 1998
----------- ----------- ----------- -------- --------
(UNAUDITED)
Net sales....................... $205,657 $281,668 $359,672 $160,182 $206,865
Cost of goods sold.............. 155,830 194,192 236,203 108,401 129,636
-------- -------- -------- -------- --------
Gross profit.................... 49,827 87,476 123,469 51,781 77,229
Operating expenses:
Selling, general, and
administrative expenses.... 33,295 64,329 84,044 37,007 50,753
Depreciation and
amortization............... 529 4,062 3,424 1,396 2,588
-------- -------- -------- -------- --------
Operating income................ 16,003 19,085 36,001 13,378 23,888
Other (income) and expenses:
Interest income............... (17) (31) (227) (41) (27)
Interest and bank charges..... 3,228 4,213 10,375 2,630 12,051
Other income, net............. (1,701) (435) (1,753) (456) (417)
-------- -------- -------- -------- --------
Income before taxes and
extraordinary item............ 14,493 15,338 27,606 11,245 12,281
Income tax expense.............. 542 863 3,674 756 5,326
-------- -------- -------- -------- --------
Income before extraordinary
item.......................... 13,951 14,475 23,932 10,489 6,955
Loss on early extinguishment of
debt,
net of tax benefit of $291
in 1997....................... -- -- 566 -- --
-------- -------- -------- -------- --------
Net income...................... $ 13,951 $ 14,475 $ 23,366 $ 10,489 $ 6,955
======== ======== ======== ======== ========
Unaudited pro forma data
(Note 11):
Income before taxes and
extraordinary item......... $ 14,493 $ 15,338 $ 27,606 $ 11,245
Pro forma adjustments to
reflect federal, state, and
foreign income taxes....... 6,087 6,442 11,595 4,723
-------- -------- -------- --------
Pro forma income before
extraordinary item......... 8,406 8,896 16,011 6,522
Loss on early extinguishment
of debt, net of tax benefit
of $291 in 1997............ -- -- 566 --
-------- -------- -------- --------
Pro forma net income............ $ 8,406 $ 8,896 $ 15,445 $ 6,522
======== ======== ======== ========
See accompanying notes.
22
23
SUN APPAREL, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
COMMON STOCK PREFERRED STOCK RETAINED
----------------- ------------------- PAID-IN EARNINGS
SHARES AMOUNT SHARES AMOUNT CAPITAL (DEFICIT) TOTAL
------- ------ -------- ------- ------- --------- ---------
Balance at December 31, 1994.... 101,000 $417 -- $ -- $ -- $ 30,685 $ 31,102
Issuance of Satellite Companies
common stock.................. -- -- -- -- -- 8 8
Distributions to shareholders... -- -- -- -- -- (8,055) (8,055)
Net income...................... -- -- -- -- -- 13,951 13,951
------- ---- -------- ------- ------- --------- ---------
Balance at December 30, 1995.... 101,000 417 -- -- -- 36,589 37,006
Issuance of Satellite Companies
common stock.................. -- -- -- -- -- 4 4
Distributions to shareholders... -- -- -- -- -- (3,409) (3,409)
Net income...................... -- -- -- -- -- 14,475 14,475
------- ---- -------- ------- ------- --------- ---------
Balance at December 28, 1996.... 101,000 417 -- -- -- 47,659 48,076
Cash distributions to
shareholders.................. -- -- -- -- -- (45,737) (45,737)
Noncash distributions to
shareholders.................. -- -- -- -- -- (557) (557)
Preferred stock exchanged for
Sun stock..................... (30,072) -- 198,891 39,778 -- (39,778) --
Repurchase of interests in
common stock of Sun and
Satellite Companies........... (67,337) -- -- -- -- (147,411) (147,411)
Preferred and common stock
exchanged for Sun and
Satellite Companies stock..... 189 -- 11,109 2,222 -- (2,222) --
Preferred stock issued for
cash.......................... -- -- 215,000 43,000 -- -- 43,000
Recapitalization fees........... -- -- -- -- (7,167) (7,167)
Transfer of undistributed S
corporation earnings to
paid-in capital............... -- -- -- -- 15,582 (15,582) --
Preferred stock dividends....... -- -- -- 2,916 -- (2,916) --
Net income...................... -- -- -- -- -- 23,366 23,366
------- ---- -------- ------- ------- --------- ---------
Balance at December 31, 1997.... 3,780 417 425,000 87,916 15,582 (190,345) (86,430)
Preferred stock dividends....... -- -- -- 5,525 -- (5,525) --
Distributions to shareholders... -- -- -- -- -- (241) (241)
Contributions from
shareholders.................. -- -- -- -- -- 1,827 1,827
Net income (unaudited).......... -- -- -- -- -- 6,955 6,955
------- ---- -------- ------- ------- --------- ---------
Balance at June 30, 1998
(unaudited)................... 3,780 $417 425,000 $93,441 $15,582 $(187,329) $ (77,889)
======= ==== ======== ======= ======= ========= =========
See accompanying notes.
23
24
SUN APPAREL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
YEARS ENDED SIX MONTHS ENDED
--------------------------------------- -------------------
DECEMBER 30 DECEMBER 28 DECEMBER 31 JUNE 30 JUNE 30
1995 1996 1997 1997 1998
----------- ----------- ----------- -------- --------
(UNAUDITED)
OPERATING ACTIVITIES
Net income....................................... $ 13,951 $ 14,475 $ 23,366 $ 10,489 $ 6,955
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation................................... 2,800 6,578 5,703 2,701 3,496
Amortization................................... 123 275 881 241 646
Loss on debt extinguishment.................... -- -- 857 -- --
Federal income taxes -- deferred............... -- -- (1,475) -- 524
Changes in operating assets and liabilities:
Due from factors............................ 5,625 (13,759) 17,090 14,726 (1,345)
Trade receivables........................... (1,599) (14,776) (20,607) (18,310) 2,367
Inventories................................. 5,254 (28,943) (2,744) (3,925) (17,641)
Advances to contractors..................... 542 611 (1,283) (555) 1,428
Other receivables........................... (594) (1,643) 618 (621) (1,313)
Prepaid expenses............................ (1,052) 569 (408) (664) (3,352)
Other assets................................ (669) 285 (724) 11 (313)
Accounts payable -- trade................... 531 12,756 (834) 3,909 4,229
Accrued liabilities......................... 1,818 3,858 4,871 2,713 5,757
Taxes payable............................... 170 371 3,335 68 388
--------- -------- --------- -------- --------
Net cash provided by (used in) operating
activities..................................... 26,900 (19,343) 28,646 10,783 1,826
INVESTING ACTIVITIES
Purchases of property, plant, and equipment...... (5,655) (15,374) (10,525) (6,468) (6,035)
Proceeds from sales of property, plant, and
equipment...................................... -- 2,130 -- -- --
--------- -------- --------- -------- --------
Net cash used in investing activities............ (5,655) (13,244) (10,525) (6,468) (6,035)
FINANCING ACTIVITIES
Proceeds from long-term debt and Bank Credit
Facility....................................... 487,859 120,467 193,000 5,202 1,900
Payments on long-term debt and Bank Credit
Facility....................................... (502,607) (84,200) (75,135) (400) (1,674)
Issuance of subordinated debt.................... -- -- 30,000 -- --
Payments of subordinated debt.................... (100) -- (1,000) -- --
Issuance of preferred stock...................... -- -- 43,000 -- --
Recapitalization fees............................ -- -- (7,167) -- --
Loan origination fees............................ -- -- (7,594) -- --
Issuance of Satellite Companies common stock..... 8 4 -- -- --
Repurchase of interests in common stock of Sun
and Satellite Companies........................ -- -- (147,411) -- --
Contributions from shareholders.................. -- -- -- -- 1,827
Distributions paid............................... (8,055) (3,409) (45,737) (11,913) (241)
--------- -------- --------- -------- --------
Net cash (used in) provided by financing
activities..................................... (22,895) 32,862 (18,044) (7,111) 1,812
--------- -------- --------- -------- --------
Net (decrease) increase in cash and cash
equivalents.................................... (1,650) 275 77 (2,796) (2,397)
Cash and cash equivalents at beginning of
period......................................... 5,049 3,399 3,674 3,674 3,751
--------- -------- --------- -------- --------
Cash and cash equivalents at end of period....... $ 3,399 $ 3,674 $ 3,751 $ 878 $ 1,354
========= ======== ========= ======== ========
Supplemental disclosures:
Interest and bank charges paid................. $ 3,295 $ 4,831 $ 8,066 $ 2,580 $ 9,252
Income taxes paid.............................. 790 779 1,326 728 4,938
Assets acquired under capital leases........... -- -- 867 -- --
Preferred stock exchanged for Satellite
Companies stock............................. -- -- 42,000 -- --
See accompanying notes.
24
25
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 30, 1995, DECEMBER 28, 1996, AND DECEMBER 31, 1997 AND
SIX MONTHS ENDED JUNE 30, 1997 AND 1998
(INFORMATION AS TO THE SIX MONTHS ENDED JUNE 30, 1997 AND 1998 IS UNAUDITED)
1. SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation/Combination
The consolidated/combined financial statements include the operations of
the affiliated entities described below which were under common control prior to
the Reorganization (as defined) effected in September 1997 (see Note 2).
Sun Apparel, Inc. (Sun), a Texas corporation, is engaged in the manufacture
and sale of jeanswear and other apparel under its own labels, licensed labels,
and private labels.
Greater Texas Finishing Corporation (GTX), a Texas corporation, is engaged
in the business of processing and finishing jeanswear and other apparel for Sun.
Maquilas Pami S.A. de C.V. (Pami), a corporation organized and operating in
Mexico, sews, processes, and finishes jeanswear for Sun at agreed-upon prices
(see Note 12). Although the operations of Pami are located in Mexico, management
decisions are centralized with the management of Sun.
CNC West, Inc. (CNC), a Texas corporation, is a producer of chemicals used
in the apparel washing process. CNC is consolidated with CNC de Mexico, S.A. de
C.V., a Mexican corporation which was incorporated under the laws of Mexico in
1997 to support operations in Mexico. Substantially all products are sold to
Sun, GTX, and Pami.
Import Technology of Texas, Inc. (Import Technology), a Texas corporation,
is a holding company which has a 99% ownership interest in Pami. CNC holds the
remaining 1% interest in Pami.
Sun City Realty Group, Inc. (Sun City), a Texas corporation, is a real
estate holding company for Sun properties.
R.L. Management, Inc. (R.L.), a Delaware corporation, provides general and
administrative support related to the Polo line (see Note 14).
Lone Star Selling Group, Inc. (Lone Star), a New York corporation, provides
general and administrative support related to all apparel lines other than Polo.
GTX, Pami, CNC, Import Technology, Sun City, R.L., and Lone Star are
collectively referred to as the "Satellite Companies." As a result of the
Reorganization, the Satellite Companies became wholly-owned subsidiaries of Sun.
The financial statements of Sun have been consolidated with those of the
Satellite Companies for 1997. For 1995 and 1996, the financial statements of Sun
are combined with those of the Satellite Companies, and the equity of the
Satellite Companies is included in retained earnings. All intercompany balances,
sales, and transactions have been eliminated in the consolidated/combined
financial statements. The consolidated/combined entity is collectively referred
to as the Company.
Fiscal Years
During 1997, the Company changed its fiscal year from a 52 or 53 week
period ending on the Sunday closest to December 31 to a twelve calendar month
period ending on December 31. All references to 1995, 1996, and 1997 herein are
to the fiscal years ended December 30, 1995, December 28, 1996, and December 31,
1997, respectively, which are 52 week periods.
25
26
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Use of Estimates
In preparing financial statements in conformity with generally accepted
accounting principles, management is required to make estimates and assumptions
that affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the date of the financial statements and
revenues and expenses during the reporting period. Actual results could differ
from these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments readily convertible to
known cash amounts and with a maturity of three months or less at the date of
purchase to be cash equivalents.
Trade Receivables
The allowance for doubtful accounts, if any, is established through a
provision charged to expense. Receivables are charged against the allowance when
management believes that collection is unlikely. Collections of previously
written-off receivables are credited to the allowance. The Company performs
periodic credit evaluations of its customers' financial condition and ability to
satisfy their obligations. The allowance, if any, is based upon management's
evaluation of the collectibility of outstanding receivables, including such
factors as credits, claims, prior experience, and economic conditions. The
Company's credit losses for the periods presented are insignificant and have not
exceeded management's estimates. The Company generally does not require
collateral or letters of credit when extending credit. However, from time to
time, the Company requires customer deposits or letters of credit as a condition
of extending credit. The allowance for doubtful accounts totaled approximately
$102,000, $205,000, and $199,000 at December 28, 1996, December 31, 1997, and
June 30, 1998, respectively.
Trade receivables are stated net of estimated chargebacks related to such
items as damaged goods, returns, markdowns, and any applicable trade discounts.
Inventories
Inventories are stated at the lower of cost (determined on a first-in,
first-out basis) or market.
Cost of inventory represents the aggregate cost of direct materials, direct
labor, and manufacturing overhead. The manufacturing overhead included in the
inventories is based on the ratio of manufacturing expenses to direct labor for
each period. Purchased finished goods are recorded at invoice cost, including
duty, freight, and insurance.
Advances to Contractors
Periodically, the Company advances funds to sewing contractors located in
Mexico against specific cuts in order to provide those contractors with
sufficient cash to fund a portion of the costs of their sewing operations.
Advances are deducted from contractors' invoices when they are presented for
payment.
Property, Plant, and Equipment
Property, plant, and equipment is stated at cost. Major renewals and
betterments are charged to property accounts while replacements, maintenance,
and repairs which do not improve or extend the lives of the respective assets
are expensed currently. Depreciation is calculated on the straight-line method
over the estimated useful economic lives of the assets. Leasehold improvements
are amortized on a straight-line method over the lease term.
26
27
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Included in office furniture and other equipment (see Note 5) are
Company-owned displays and fixtures located in certain customer-owned retail
facilities. These displays and fixtures are amortized over their useful lives,
generally five years.
Trademark
Sun purchased a trademark for $1,500,000 plus the unamortized portion of a
license fee for approximately $348,000, which aggregates to a total basis of
approximately $1,848,000. This amount is being amortized over fifteen years. At
December 28, 1996, December 31, 1997, and June 30, 1998 accumulated amortization
amounted to approximately $522,000, $645,000, and $707,000, respectively.
Revenue Recognition
Sales are recorded at the time the product is shipped. Sales in the
consolidated statements of income are recorded net of a provision for trade,
volume, and other discounts, as well as for returns and allowances.
Sales to Major Customers and Concentration of Credit Risk
During 1995, 1996, and 1997, respectively, approximately 13%, 13%, and 9%
of consolidated net sales were made to one large discount retailer. During 1995,
1996, and 1997, respectively, approximately 4%, 13%, and 14% of consolidated net
sales were made to a group of affiliated retailers. Amounts due from these
customers at December 30, 1995, December 28, 1996, and December 31, 1997 totaled
approximately $6,691,000, $13,915,000, and $10,732,000, respectively,
substantially all of which was collected after year-end.
Sun purchases the majority of its piece goods inventory from five principal
suppliers. While these suppliers provide a significant share of the piece goods
used by Sun, piece goods used are substantially generic products and can be
provided by a number of other suppliers on comparable terms. Sun believes its
relationship with its existing suppliers is satisfactory.
Advertising Costs
Advertising expenses of Sun include costs related to print media, including
magazines, newspapers and industry publications, and television advertising.
Total advertising expense amounted to approximately $4,936,000, $12,143,000, and
$16,176,000 for the years ended 1995, 1996, and 1997, respectively, and
$6,562,000 and $5,666,000 for the six months ended June 30, 1997 and 1998.
Advertising costs are expensed as incurred.
Loan Origination Costs
In connection with the refinancing transaction (see Note 7), the Company
incurred approximately $7,600,000 in loan origination costs. Accumulated
amortization of these loan origination costs was approximately $292,000 and
$876,000 at December 31, 1997 and June 30, 1998, respectively. Loan origination
costs, which are being amortized using a method that approximates the effective
interest method over the term of the related debt, are included in other assets
in the balance sheet.
Loan origination costs totaling approximately $857,000 were expensed and
reported as an extraordinary item in the statement of income when the related
debt was retired concurrent with the Recapitalization (see Note 2).
Income Taxes
Effective September 26, 1997, the Company terminated its Subchapter S tax
status (see Note 9). The Company became subject to the provisions of Financial
Accounting Standards Board (FASB) Statement
27
28
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
No. 109, "Accounting for Income Taxes," on September 26, 1997. Under this
method, deferred tax assets and liabilities are determined based on differences
between financial reporting bases and tax bases of assets and liabilities, and
are measured using the enacted tax rates and laws which will be in effect when
the differences are expected to reverse. Prior to the termination of its
Subchapter S tax status, federal income tax expense was not recognized in the
financial statements of the Company. The federal tax liability was the
shareholders' rather than the Company's.
Interim Financial Data
The consolidated financial statements and related information as of June
30, 1998, and for the six months ended June 30, 1997 and 1998, have been
prepared without audit pursuant to the rules and regulations of the Securities
and Exchange Commission. Accordingly, such consolidated financial statements
reflect all adjustments (consisting of normal recurring entries) which are, in
the opinion of management, necessary for a fair presentation of the financial
position, results of operations, cash flows, and changes in shareholders' equity
of the Company for such periods. Interim period results are not necessarily
indicative of the results to be achieved for the entire year.
Reclassifications
Certain prior year amounts in the financial statements have been
reclassified to conform to current year presentation.
Comprehensive Income
In June 1997, the FASB issued Statement No. 130, "Reporting Comprehensive
Income" (FAS 130). FAS 130 establishes new rules for the reporting and display
of comprehensive income and its components. These disclosures are required for
the first quarter of 1998. FAS 130 requires changes such as unrealized gains or
losses on available-for-sale securities and foreign currency translation
adjustments, which currently are reported in shareholders' equity, to be
included in other comprehensive income and the disclosure of total comprehensive
income. Currently, the Company has no transactions that generate items of other
comprehensive income, and the adoption of FAS 130 is not expected to have a
significant impact on the financial statement disclosures.
Business Segments
In June 1997, the FASB issued Statement No. 131, "Financial Reporting for
Segments of a Business Enterprise" (FAS 131). FAS 131 specifies the computation,
presentation, and disclosure requirements for business segment information, and
requires that segments be identified based on internal financial reporting at
the level reported to the chief operating decision maker. FAS 131 supersedes FAS
14, "Financial Reporting for Segments of a Business Enterprise," but retains the
requirement to report information about major customers. FAS 131 is effective
for financial statements for periods beginning after December 15, 1997. The
Company will adopt FAS 131 for its December 31, 1998 financial statements, and
expects to disclose financial information for two operating segments, the Polo
Jeans division and the Sun division.
Derivative Instruments and Hedging Activities
In June 1998, the FASB issued Statement No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (FAS 133). FAS 133 establishes new rules for
the accounting and reporting standards for derivative instruments, including
certain derivative instruments embedded in other contracts, and for hedging
activities. FAS 133 is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. The adoption of FAS 133 is not expected to have a
significant impact on the financial statement disclosures.
28
29
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
2. REORGANIZATION AND RECAPITALIZATION
On September 26, 1997, the shareholders of Sun reorganized certain entities
under their common control (the Reorganization) as a result of which the
Satellite Companies became wholly-owned subsidiaries of Sun. The Reorganization
involved exchanging all of the outstanding stock of the Satellite Companies for
stock of Sun (consisting of 189 shares of common stock, 2,174 shares of Series B
Preferred Stock totaling approximately $435,000, and 8,935 shares of Series C
Preferred Stock totaling $1,787,000) and cash. These transactions have been
accounted for as a combination of entities under common control, and
accordingly, the Satellite Companies are reflected at their historical
carry-over basis in the consolidated financial statements.
Also on September 26, 1997, the Company completed a recapitalization
transaction (the Recapitalization) under which Sun redeemed 67,336.67 shares of
its common stock held by an individual and his related family interests (the
Selling Shareholders) and exchanged 30,072.33 shares of its common stock held by
the former minority shareholder and his family interests (the Continuing
Shareholders) for 198,891 shares of Series B Preferred Stock totaling
$39,778,000. Additionally, Sun issued 215,000 shares of Series A Preferred Stock
to Vestar/Sun Holding Company, LLC (Vestar) for $43,000,000 in cash and Vestar
purchased 1,512 shares of Sun common stock directly from the Continuing
Shareholders such that, after the Recapitalization, Vestar owned 40% and the
Continuing Shareholders owned 60% of the common equity interests of the Company.
The above transactions have been accounted for as a recapitalization, and as
such, there was no change in the carrying values of the Company's net assets.
As a result of the Reorganization and Recapitalization, the Selling
Shareholders and the Continuing Shareholders received total cash of $147,411,000
and $30,000,000, respectively. These distributions and related fees and expenses
were financed by using the proceeds from equity issuances, bank debt, and
subordinated debt (see Notes 7 and 8).
3. DUE FROM FACTORS
Sun has agreements with three commercial finance companies which provide
for the factoring of certain trade receivables of its selling divisions. These
receivables are factored without recourse as to credit risk, but with recourse
for any claims by the customers for chargebacks in the normal course of business
relating to damaged goods, returns, markdowns, and any applicable trade
discounts. Such receivables sold without recourse are reflected in the
accompanying financial statements as due from factors. Sun is charged a
factoring commission ranging from .50% to .60% of factored sales. The factoring
commissions are included in factoring charges in the accompanying financial
statements. Upon collection of the receivables, the factors forward the related
payment to Sun's primary lender for credit to Sun's account.
4. INVENTORIES
Inventories consist of the following (in thousands):
DECEMBER 28 DECEMBER 31 JUNE 30
1996 1997 1998
----------- ----------- -------
Finished goods................................... $31,501 $33,646 $42,684
Work-in-process.................................. 10,274 12,746 20,702
Piece goods...................................... 7,297 5,303 4,916
Trim and supplies................................ 5,888 6,009 7,043
------- ------- -------
$54,960 $57,704 $75,345
======= ======= =======
29
30
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
5. PROPERTY, PLANT, AND EQUIPMENT
Property, plant, and equipment consists of the following balances (in
thousands):
ESTIMATED
DECEMBER 28 DECEMBER 31 JUNE 30 USEFUL LIFE
1996 1997 1998 IN YEARS
----------- ----------- ------- -------------
Land................................. $ 1,418 $ 1,560 $ 1,560 -
Building and improvements............ 12,599 13,203 12,439 30 - 31.5
Production and processing
equipment.......................... 18,995 19,907 18,915 5 - 7
Computer equipment................... 4,236 6,586 7,601 5
Office furniture and other
equipment.......................... 7,977 15,040 19,714 5 - 7
Leasehold improvements............... 2,138 2,564 3,061 Life of Lease
Autos and truck...................... 252 389 437 5 - 10
------- ------- -------
47,615 59,249 63,727
Less accumulated depreciation........ 19,222 25,167 27,106
------- ------- -------
$28,393 $34,082 $36,621
======= ======= =======
Depreciation expense for 1995, 1996, and 1997 was approximately $2,800,000,
$6,578,000, and $5,703,000, respectively. Fully depreciated assets have been
written off the books, although some may still be in use. Computer equipment at
December 31, 1997 and June 30, 1998 includes $867,000 of assets held under
capital leases, and amortization of these leases is included in depreciation
expense.
6. GROUP HEALTH INSURANCE
The Company maintains self-insurance group health plans for U.S. employees.
The plans provide medical benefits coverage for qualified and participating
employees. For protection against significant claims, the Company has obtained
coverage for claims in excess of $20,000 per employee. The amount charged to
health insurance expense is based upon benefits paid and expected liabilities
and includes the insurance premiums. Management believes that the accrued
liability as of December 31, 1997 is adequate to cover future benefit payments
for claims that occurred prior to year-end.
7. BANK CREDIT COMMITMENT AND FACILITY
On September 26, 1997, Sun entered into a new Loan Agreement (the Facility)
that provides for up to $235,000,000 in committed credit by a group of
participating banks. A Swingline Loan facility of $10,000,000 is provided within
the Facility to accommodate zero balance banking. The Facility provides for
aggregate term debt, consisting of two term loans, of $155,000,000. The first
Term Loan (Term Loan A) provides for $45,000,000 payable in escalating quarterly
payments beginning March 31, 1998 at $500,000 and increasing to $1,250,000,
$1,750,000, $2,500,000, and $3,650,000 for the years 1999, 2000, 2001 -- 2002,
and 2003, respectively, with the final payment of $3,700,000 being due on
September 30, 2003. The second Term Loan (Term Loan B) provides $110,000,000
payable in sixteen quarterly payments of $250,000 from March 31, 1999 to
December 31, 2002, four quarterly payments of $4,000,000 from March 31, 2003 to
December 31, 2003, and three quarterly payments of $30,000,000 from March 31,
2004 to September 30, 2004. Interest is payable quarterly on the outstanding
term loans at interest rate options selected by Sun. The interest rate options
for all outstanding amounts (term loans and revolving credit loans) are based
upon the Prime Rate, the Federal Funds Effective Rate, or LIBOR (plus applicable
margin based on the leverage ratio as of the determination date) as defined by
the Facility. At December 31, 1997, Sun's interest rate was 8.74%, 9.24%, and
8.74% for Term Loan A, Term Loan B, and the revolving credit loans,
respectively. Borrowings under the
30
31
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Facility are secured by factor receivable balances, trade receivables,
inventories, machinery and equipment, real property, and intangibles.
In addition to the term loans, the Facility provides for revolving credit
loans (Revolving Loans) to Sun from September 26, 1997 to September 30, 2003, in
aggregate amount outstanding at any one time up to $80,000,000. The aggregate
amount of all Revolving Loans (plus Swingline Loans) at any time outstanding
shall not exceed the Borrowing Base (as hereinafter defined) then in effect. The
Borrowing Base is defined as the sum of (i) eighty-five percent (85%) of (a) all
eligible nonpurchased accounts; plus (b) the lesser of (1) $3,000,000 or (2) all
eligible collectible chargebacks less collectible chargeback reserve; plus (c)
all eligible factored credit balances; and (ii) the lesser of (a) $1,000,000 or
(b) fifty percent (50%) of accrued settlements; and (iii) the lesser of (a) the
inventory cap or (b) the sum of (1) fifty-five percent (55%) of all eligible
inventory and (2) thirty-five percent (35%) of eligible inventory related to
"unwashed" finished goods; and (iv) an amount equal to (a) fifty percent (50%)
of the face amount of all issued and outstanding trade letters of credit less
(b) a reserve for estimated costs and expenses required to be paid in order to
take possession of any inventory which is then in transit. At December 31, 1997,
Sun had approximately $70,427,000 ($88,305,000 at June 30, 1998) available under
the Borrowing Base, of which $27,000,000 ($28,900,000 at June 30, 1998) was
utilized under the Revolving Credit Facility.
The Facility also provides for irrevocable letters of credit to be issued
against credit loans on behalf of Sun up to $30,000,000, subject to certain
borrowing limitations.
The Facility contains restrictive covenants relating to, among other
things, additional borrowings, additional liens, additional guarantees, the
declaration or payment of dividends, transactions with subsidiaries, mergers or
acquisitions, investments, asset sales, and capital expenditures. The Facility
includes certain financial covenants including, but not limited to, minimum
interest coverage, minimum fixed charge coverage, and a minimum leverage ratio.
As required by the Facility, the Company has entered into certain interest
rate protection agreements covering $77,500,000 (50%) of its borrowings under
the Facility. As of December 31, 1997, these agreements were in a net
unfavorable position with a fair market value of approximately $222,000.
Under its prior credit agreement as of December 28, 1996, Sun's interest
rate was 7.56% and 8.06% for a $25,000,000 term loan and a $34,250,000 revolving
credit loan, respectively. All amounts outstanding under the prior credit
agreement were repaid using proceeds from the new Facility.
8. DEBT
Long-Term Debt
Long-term debt consisted of the following (in thousands):
DECEMBER 28 DECEMBER 31 JUNE 30
1996 1997 1998
----------- ----------- --------
Term Loan A -- term note portion of the
September 26, 1997 Loan Agreement (see Note
7) -- payable in graduating quarterly
principal installments........................ $ -- $ 45,000 $ 44,000
Term Loan B -- term note portion of the
September 26, 1997 Loan Agreement (see Note
7) -- payable in graduating quarterly
principal installments........................ -- 110,000 110,000
31
32
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DECEMBER 28 DECEMBER 31 JUNE 30
1996 1997 1998
----------- ----------- --------
Mortgages payable, secured by real property,
payable in monthly installments of $34,403
beginning in 1994 through 2006 plus interest
at .5% below prime (8% at December 31,
1997)......................................... 2,723 2,490 2,381
Note payable -- term note portion of the March
27, 1997 Loan Agreement (see Note
7) -- payable in quarterly installments of
$1,250,000 beginning in 1997 through 2002 plus
interest at the interest rate option selected
by Sun........................................ 25,000 -- --
Note payable -- trademark -- payable in four
annual principal installments of $250,000
beginning in 1995 through 1998 plus interest
at Bank of America's prime (7.5% at December
28, 1996)..................................... 500 --
Mortgage payable, secured by real property,
payable in monthly installments of $27,550
including interest at 11% per annum with a
final installment due on November 1, 2001..... 1,267 1,066 957
Note payable to bank, secured by equipment,
payable in monthly installments of $95,007
through year 2000 plus interest at 2.54% over
the federal funds rate (8.06% at December 28,
1996)......................................... 3,432 -- --
Capital lease for computer and related equipment
and software, with interest rates varying from
3.39% to 4.9%, payable in monthly installments
of $19,666 over five years, beginning April
1997.......................................... -- 713 415
Other........................................... 707 342 184
------- -------- --------
33,629 159,611 157,937
Less current portion............................ 6,330 3,000 4,228
------- -------- --------
$27,299 $156,611 $153,709
======= ======== ========
Subordinated Debt
As a part of the Recapitalization (Note 2) on September 26, 1997, Sun and
all subsidiaries (through intercompany advances from Sun) repaid a majority of
third-party debt and all subordinated debt outstanding, except a
noninterest-bearing note payable to an affiliated entity for approximately
$1,607,000 which is subordinated through September 30, 1998.
Subordinated debt at December 28, 1996 included another note to a
shareholder for $700,000, with interest payable at 12% per annum, and a
shareholder note of $300,000, bearing interest at the rate of 10% per annum. As
of December 28, 1996, all interest had been paid, and $100,000 of the
subordinated debt was current.
Also as a part of the Recapitalization, Sun entered into two notes payable
to Vestar (the Vestar Notes) in the aggregate amount of $30,000,000, bearing
interest at 17.9%. A portion of interest (as defined in the agreement) is
payable annually in cash prior to September 25, 2003, but only to the extent
that payment of interest does not violate any senior obligations (any unpaid
interest accumulates as additional principal). After September 25, 2003,
interest is payable annually in arrears. The Vestar Notes have been subordinated
to all
32
33
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
creditors until their due dates at September 25, 2007 and are subject to
prepayment penalties prior to maturity as follows:
PERIOD OF PREPAYMENT PENALTY AMOUNT
- -------------------- --------------
Prior to September 26, 1998................................. $15,000,000
September 26, 1998 -- September 25, 1999.................... 25,000,000
September 26, 1999 -- September 25, 2000.................... 35,000,000
September 26, 2000 -- September 25, 2001.................... 45,000,000
These penalty amounts are considered to include accrued but unpaid
interest, and would be reduced by any cash interest paid.
The Vestar Notes are subject to mandatory redemption (including applicable
prepayment penalties) upon the occurrence of certain events as defined in the
note agreement, including changes in equity interests, a public offering of
equity securities, and the payment of dividend on any securities in any form
other than a dividend of similar equity securities.
Accrued interest on the Vestar Notes totaled $1,343,000 and $4,028,000 at
December 31, 1997 and June 30, 1998, respectively.
Capital Leases
In April 1997, Sun entered into two capital leases for computer equipment.
The minimum monthly lease payment, including interest, for both leases is
approximately $20,000 through March 2001.
Principal Maturities
Scheduled principal payments on all debt and capital leases as of December
31, 1997 are as follows (in thousands):
CAPITAL LEASE
SUBORDINATED PRINCIPAL LONG-TERM
DEBT PAYMENTS DEBT TOTAL DEBT
------------ ------------- --------- ----------
1998................................ $ 1,607 $214 $ 2,787 $ 4,608
1999................................ -- 216 6,492 6,708
2000................................ -- 223 8,540 8,763
2001................................ -- 60 11,594 11,654
2002................................ -- -- 11,306 11,306
2003 and thereafter................. 30,000 -- 145,179 175,179
------- ---- -------- --------
$31,607 $713 $185,898 $218,218
======= ==== ======== ========
Fair Value
Substantially all debt is floating rate or has been issued in the near
term, and the carrying value approximates market value.
9. INCOME TAXES
On September 26, 1997, the Company terminated its Subchapter S tax status
and converted to a C corporation for federal income tax purposes.
Simultaneously, the Company became subject to the provisions of the FASB
Statement No. 109, "Accounting for Income Taxes" (FAS 109). FAS 109 requires
that the deferred tax effects of a change in tax status be included in income
from continuing operations at the date of
33
34
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
the change in tax status. The effect of the change from S corporation to C
corporation status as of September 26, 1997 was to increase net income by
approximately $1,958,000.
The Company provides for all foreign income taxes. No federal income taxes
have been provided for the earnings of its Mexican subsidiary, Pami. These
earnings are limited by its Maquiladora arrangement, and the Company considers
these earnings to be permanently reinvested.
Deferred income taxes reflect the net tax effects of the temporary
differences between the carrying amounts of the assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes.
Components of the Company's net deferred tax assets and liabilities are as
follows (in thousands):
DECEMBER 31 JUNE 30
1997 1998
----------- -------
Deferred tax liabilities:
Depreciable property...................................... $ 768 $ 632
Display costs............................................. 48 49
Polo royalty waiver....................................... 212 394
------ ------
Total deferred tax liabilities.............................. 1,028 1,075
Deferred tax assets:
Depreciable property...................................... 577 594
Transaction fees, loan costs.............................. 937 887
Inventory................................................. 398 410
Allowance for doubtful accounts........................... 70 72
Patent costs.............................................. 34 36
Fixture installation costs................................ 460 --
Other..................................................... 27 27
------ ------
Total deferred tax assets................................... 2,503 2,026
------ ------
Net deferred tax asset...................................... $1,475 $ 951
====== ======
The current and deferred income tax provisions (benefits) included in
income tax expense are as follows:
YEARS ENDED SIX MONTHS ENDED
----------------------------------------- ------------------
DECEMBER 30 DECEMBER 28 DECEMBER 31 JUNE 30 JUNE 30
1995 1996 1997 1997 1998
----------- ----------- ----------- ------- -------
Current:
Federal................... $ -- $ -- $3,247 $ -- $4,256
State..................... 542 706 1,297 756 219
Foreign................... -- 157 605 -- 327
Deferred federal............ -- -- (1,475) -- 524
---- ---- ------ ---- ------
$542 $863 $3,674 $756 $5,326
==== ==== ====== ==== ======
34
35
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The reconciliation of income tax attributable to continuing operations
computed at U.S. federal statutory rates to income tax expense is as follows (in
thousands):
DECEMBER 31 JUNE 30
1997 1998
----------- -------
Tax at statutory rate (34% for December 31, 1997 and 35% for
June 30, 1998)............................................ $9,095 $4,298
Effect of S corporation status through September 25, 1997... (5,053) --
Effect of change in tax status as of September 26, 1997..... (1,958) --
Permanent differences....................................... 62 52
State tax expense, net of federal benefit................... 857 142
Excess of foreign over U.S. tax rate........................ 380 327
Tax effect of loss on debt extinguishment -- separately
stated.................................................... 291 --
Fixture installation costs.................................. -- 550
Effect of increase in statutory rates on existing temporary
differences............................................... -- (43)
------ ------
$3,674 $5,326
====== ======
10. PREFERRED STOCK
Series A Cumulative Participating Preferred Stock (Series A) is senior to
the Company's common stock and other preferred stock with respect to dividends,
distributions of assets, or liquidation. Series B Cumulative Participating
Preferred Stock (Series B) and Series C Cumulative Participating Preferred Stock
(Series C) are of equal parity, are junior to Series A, and are senior to the
Company's common stock with respect to dividends, distributions of assets, or
liquidation. Dividends accrue at 13% on Series A, B, and C, are cumulative, and
are payable in cash when dividends are declared. At December 31, 1997 and June
30, 1998, accumulated unpaid dividends on all preferred stock totaled
approximately $2,916,000 ($6.86 per share) and $8,441,000 ($19.86 per share),
respectively.
The Series A shares are redeemable at the option of the Company at any time
at a price of $200 per share (Redemption Price) plus any accumulated and unpaid
dividends.
If the Company or any of its subsidiaries enters into an agreement which
constitutes a change of control as defined in the Statement of Designation of
Series A, the Company must offer to redeem the outstanding shares of Series A at
the Redemption Price plus any accumulated and unpaid dividends.
If the Company undergoes an initial public offering (IPO), the Company must
offer to redeem the outstanding shares of Series A, B, and C at the Redemption
Price plus any accumulated and unpaid dividends. Shares of Series A, B, or C not
redeemed will be converted to shares of common stock. The number of shares of
common stock issued will be determined by dividing the Redemption Price by the
IPO price.
The Redemption Price is subject to adjustment for any stock splits or
combinations.
Series A participates at a rate of 20%, payable in cash, of any dividends
declared on the common stock. Series B and C participate at a rate of 30%,
payable in cash, of any dividends declared on the common stock.
11. PRO FORMA DATA (UNAUDITED)
Pro forma net income for the years ended December 30, 1995, December 28,
1996, and December 31, 1997, and for the six months ended June 30, 1997, have
been determined assuming that the Company had been taxed as a C corporation for
federal and certain state income tax purposes for such periods.
35
36
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
12. LEASES AND LEASE ARRANGEMENTS
On June 24, 1994, Lone Star entered into a ten year operating lease for
sales offices in New York City. The agreement provides for annual rentals of
approximately $266,000.
On November 17, 1995, R.L. entered into a ten year operating lease for
sales offices in New York with a graduating minimum annual rental of
approximately $383,000 for the first five years and approximately $435,000 for
the second five years. Additionally, R.L. has month-to-month arrangements
totaling approximately $34,000 per month.
On December 5, 1995, Sun entered into a three year operating lease for a
warehouse in El Paso. The agreement, as amended, provides for minimum annual
payments of $404,000.
On June 30, 1996, Lone Star entered into a five year operating lease for
sales offices in New York City for approximately $90,000 per month.
The minimum rental under all operating leases as of December 31, 1997 with
initial or remaining terms of more than one year are as follows:
TOTAL
------
1998.............................................. $1,276
1999.............................................. 823
2000.............................................. 743
2001.............................................. 705
2002.............................................. 701
2003 and thereafter............................... 2,354
------
$6,602
======
The total rent expense for Sun for the years ended December 28, 1996 and
December 31, 1997 was $2,033,000 and $2,773,000, respectively.
13. COMMITMENTS AND CONTINGENCIES
Approximately 9% and 5% of Sun's sales were made under trademark licensing
agreements, other than Polo/Ralph Lauren Companies (see Note 14), for the years
1996 and 1997, respectively. One such royalty agreement is currently in a
renewal term of forty-eight months ending December 31, 1999, and provides for
the payment of graduating royalties from 5.0% to 3.8% if certain net sales
levels are achieved. The other agreements call for minimum royalties and
advertising costs ranging from .75% to 1.5% of net sales. The total royalty and
advertising payments per these agreements in 1996, 1997, and for the six months
ended June 30, 1997 and 1998 amounted to approximately $1,444,000, $1,174,000,
$520,000, and $461,000, respectively, and are included in selling, general, and
administrative expenses. During the current renewal term of the principal
trademark licensing agreement, the minimum annual royalties are $800,000,
$600,000, and $400,000 for 1997 through 1999, respectively.
In 1990, GTX entered into an agreement with the owners of the Ricci acid
wash patent, under which GTX is licensed to use the process and to produce
products under a royalty arrangement, and pursuant to which GTX has undertaken a
licensing and patent protection program. GTX is required to pay royalties to the
patent owners on its own production and to make payments to them of a defined
portion of amounts generated through the licensing and patent protection
program. A number of companies have entered into licensing and settlement
agreements with GTX, and GTX has been involved in several lawsuits regarding
patent validity and recovery of damages from infringement. In October 1997, a
settlement was reached on all outstanding lawsuits related to patent
infringement, and GTX received a settlement of $1,386,000 which is included in
36
37
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
other income for 1997. GTX's and its licensees' use of the patented acid wash
process has declined significantly and was minimal in 1997.
The Company is party to several lawsuits in the normal course of business.
Management believes that the outcome of these claims is not determinable at
December 31, 1997, and that ultimate resolution will not have a material adverse
effect on the Company's financial position or results of operations.
14. LICENSE AGREEMENT WITH POLO/RALPH LAUREN COMPANIES
In September 1995, Sun entered into a license agreement and a design
services agreement covering men's apparel products with the Polo/Ralph Lauren
Companies (Polo), which were expanded in October 1995 to include women's apparel
products. Under the agreements, Polo has granted Sun an exclusive license to use
certain Polo trademarks. The initial term of the license agreement is from
August 1, 1995 to December 31, 2000 and may be renewed by Sun in five year
increments for up to 30 additional years if certain sales requirements are met.
Under the agreements, Sun is required to pay Polo royalties equal to 7% of
net sales of the licensed products. Approximately 35% and 55% of Sun's sales
were made under this agreement for the years 1996 and 1997, respectively. The
total royalty payment per this agreement amounted to $7,035,000 and $11,504,000
for the years 1996 and 1997, respectively. Commencing in 2001, certain minimum
annual royalty payments are required if Sun exercises its renewal options.
For the six months ended June 30, 1997 and 1998, approximately 53% and 60%
of Sun's sales were made under the Polo agreement. Polo royalty expenses
aggregated approximately $3,857,000 and $6,635,000, respectively, for these
periods.
Sun is obligated to spend on advertising an annual amount equal to 3% of
net sales of licensed products, but not less than $20,000,000 for the launch of
the lines through December 31, 1997. Sun incurred launch advertising expense for
the two years ended December 28, 1996 and December 31, 1997 of approximately
$9,639,000 and $12,861,000, respectively, meeting the two year minimum launch
advertising requirements.
Renewal by Sun after 2010 requires a one-time payment of $25,000,000 or, at
Sun's option, a transfer of a 20% interest in its Polo jeanswear business to
Polo. Polo has the one-time right, in blockage of such renewal, to purchase
Sun's Polo jeanswear business at the end of 2010 for 80% of its then fair market
value, as defined, payable in cash.
15. YEAR 2000 ISSUE (UNAUDITED)
The Company has developed a plan to modify its information technology to be
ready for the year 2000 and has begun converting critical data processing
systems. The Company currently expects the project to be substantially complete
by early 1999 and to cost between $750,000 and $1,000,000. This estimate
includes internal costs as well as consulting help. It also includes the cost of
software purchases where applicable. The Company does not expect this project to
have a significant effect on operations. This project started in early 1998. The
Company will continue to implement systems with strategic value simultaneously
with Year 2000 development.
37
38
SUN APPAREL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
16. VALUATION AND QUALIFYING ACCOUNTS
Valuation and qualifying accounts included the following (in thousands):
BALANCE CHARGED TO BALANCE
BEGINNING OF COSTS AND NET END OF
YEAR EXPENSES WRITE-OFFS YEAR
------------ ---------- ---------- -------
1997
Allowance for doubtful accounts........ $102 $269 $166 $205
1996
Allowance for doubtful accounts........ 78 89 65 102
1995
Allowance for doubtful accounts........ - 78 - 78
17. SUBSEQUENT EVENT
On September 10, 1998, the Company entered into an agreement to merge with
a wholly-owned subsidiary of Jones Apparel Group, Inc. (Jones). Under the terms
of the merger, the shareholders of the Company will exchange all the outstanding
shares of the Company's common stock for approximately $125 million in cash and
approximately 4.8 million shares of Jones common stock (subject to final
adjustment on closing).
Under the terms of the merger agreement, the preferred stock will be
treated as if converted to common stock and will be exchanged for cash and Jones
common stock as described above. Additionally, all existing bank debt of the
Company will be assumed and refinanced by Jones. The merger transaction, if
consummated, will trigger mandatory redemption of the Vestar Notes, including
applicable prepayment penalties.
38
39
(B) PRO FORMA FINANCIAL INFORMATION
Jones has included the following unaudited pro forma consolidated financial
statements to illustrate the estimated effects of the Acquisition and related
transactions, including the Offering, as if they had occurred as of January 1,
1997, for purposes of the pro forma consolidated statements of operations, and
as of June 28, 1998, for purposes of the pro forma consolidated balance sheet.
Management believes that the assumptions used provide a reasonable basis for
presenting the estimated effect directly attributable to the Acquisition and
related transactions, including the Offering and the entering into the Senior
Credit Facilities (but excluding any potential future payments by Jones based on
Sun's operating performance). The pro forma consolidated financial statements do
not purport to represent what the results of operations or financial position of
Jones would actually have been if the Acquisition and related transactions had
in fact occurred on such dates, nor do they purport to project the results of
operations or financial position of Jones for any future period or date. You
should read these statements together with the Sun historical consolidated
financial statements and the discussion of the Acquisition set forth above and
the Jones historical consolidated financial statements previously filed.
The Acquisition will be accounted for using the purchase method of
accounting. Under this method, tangible and identifiable intangible assets
acquired and liabilities assumed are recorded at their estimated fair values.
The excess of the purchase price (which is subject to certain closing
adjustments as defined in the Merger Agreement), including estimated fees and
expenses related to the Acquisition, over the net assets acquired ("goodwill")
is classified with intangibles on the accompanying unaudited pro forma
consolidated balance sheet. In addition to the purchase price, there will be
contingent payments payable in the future as defined in the Merger Agreement,
which amounts cannot be determined presently and are not included herein. The
estimated fair values and useful lives of assets acquired and liabilities
assumed are based on a preliminary valuation and are subject to final valuation
adjustments.
39
40
JONES APPAREL GROUP, INC.
UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
JUNE 28, 1998
JONES SUN PRO FORMA
HISTORICAL HISTORICAL ADJUSTMENTS PRO FORMA
---------- ---------- ----------- ----------
(IN THOUSANDS)
ASSETS
CURRENT:
Cash and cash equivalents.............................. $ 45,567 $ 1,354 $ 33,150(c) $ 80,071
Due from factors....................................... -- 17,224 17,224
Accounts receivable.................................... 93,367 44,455 137,822
Inventories............................................ 259,498 75,345 1,850(b) 336,693
Receivable from and advances to contractors............ 12,978 242 13,220
Prepaid and refundable income taxes.................... 4,705 -- 4,705
Deferred taxes......................................... 28,333 -- 9,315(b) 37,648
Prepaid expenses and other current assets.............. 10,434 7,583 18,017
--------- -------- --------- ----------
TOTAL CURRENT ASSETS.......................... 454,882 146,203 44,315 645,400
PROPERTY, PLANT AND EQUIPMENT.......................... 111,387 36,621 (3,000)(b) 145,008
CASH RESTRICTED FOR CAPITAL ADDITIONS.................. 3,754 -- 3,754
INTANGIBLES............................................ 29,539 -- 331,657(b) 361,196
LOAN ORIGINATION COSTS................................. -- 6,759 (6,759)(b) --
OTHER ASSETS........................................... 20,023 3,846 4,750(c) 28,619
--------- -------- --------- ----------
$ 619,585 $193,429 $ 370,963 $1,183,977
========= ======== ========= ==========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Short-term borrowings.................................. $ 881 $ -- $ 127,775(b) $ --
(128,656)(c)
Current portion of long-term debt...................... 1,529 4,228 (4,228)(c) 1,529
Current portion of capital lease obligations........... 3,753 -- 3,753
Accounts payable....................................... 78,800 27,457 106,257
Taxes payable.......................................... -- 5,033 7,500(b) 12,533
Due to related parties................................. -- 1,607 (1,607)(c) --
Accrued expenses and other current liabilities......... 18,246 19,309 33,500(b) 56,055
(15,000)(c)
--------- -------- --------- ----------
TOTAL CURRENT LIABILITIES..................... 103,209 57,634 19,284 180,127
--------- -------- --------- ----------
NONCURRENT LIABILITIES:
Obligations under capital leases....................... 28,195 -- 28,195
Bank credit facility................................... -- 28,900 (28,900)(c) --
Subordinated debt...................................... -- 30,000 (30,000)(c) --
Term loan.............................................. -- -- 100,000(c) 100,000
Notes.................................................. -- -- 300,000(c) 300,000
Long-term debt......................................... 12,719 153,709 (153,709)(c) 12,719
Other.................................................. 6,107 1,075 7,182
--------- -------- --------- ----------
TOTAL NONCURRENT LIABILITIES.................. 47,021 213,684 187,391 448,096
--------- -------- --------- ----------
TOTAL LIABILITIES............................. 150,230 271,318 206,675 628,223
--------- -------- --------- ----------
EXCESS OF NET ASSETS ACQUIRED OVER COST................ 614 -- 614
--------- -------- ----------
- ---------------
(see footnotes on following page)
40
41
JONES APPAREL GROUP, INC.
UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
JUNE 28, 1998 (CONTINUED)
JONES SUN PRO FORMA
HISTORICAL HISTORICAL ADJUSTMENTS PRO FORMA
---------- ---------- ----------- ----------
(IN THOUSANDS)
STOCKHOLDERS' EQUITY (DEFICIT):
Preferred stock........................................ -- 93,441 (93,441)(b) --
Common stock........................................... 1,099 417 (369)(b) 1,147
Additional paid in capital............................. 135,688 15,582 70,769(b) 222,039
Retained earnings (deficit)............................ 502,565 (187,329) 187,329(b) 502,565
Accumulated other comprehensive income................. (1,800) -- -- (1,800)
--------- -------- --------- ----------
637,552 (77,889) 164,288 723,951
Less treasury stock.................................... (168,811) -- -- (168,811)
--------- -------- --------- ----------
TOTAL STOCKHOLDERS' EQUITY (DEFICIT)........ 468,741 (77,889) 164,288 555,140
--------- -------- --------- ----------
$ 619,585 $193,429 $ 370,963 $1,183,977
========= ======== ========= ==========
- ---------------
(a) A purchase accounting valuation of Sun's assets and liabilities has not been
completed. Upon completion of such valuation, Jones will allocate the
purchase price to Sun's assets and liabilities, both tangible and
intangible, with the excess of the cost over the fair value of the net
assets acquired allocated to goodwill. Management expects that, based on
such allocation, additional purchase accounting adjustments will be made to
Sun's assets and liabilities.
(b) To record the purchase of Sun for approximately $214.2 million, comprised of
the following: cash -- $125.0 million; the issuance of 4.8 million shares of
Jones common stock valued at $86.4 million; and transaction costs -- $2.8
million. For accounting purposes, the common stock was valued at $18.00 per
share (the closing price on September 10, 1998, the date the Merger
Agreement was signed and announced). The deferred tax asset adjustment of
$9.3 million reflects deferred taxes associated with the acquired
identifiable assets other than goodwill. The purchase price was allocated to
the fair value of the net assets acquired as summarized below (in millions,
with all amounts preliminary and subject to revision upon closing of the
Acquisition):
Inventory................................................... $ 1.9
Deferred taxes.............................................. 9.3
Loan origination costs...................................... (6.8)
Property, plant and equipment............................... (3.0)
Intangibles, including goodwill............................. 331.7
Taxes payable............................................... (7.5)
Loan prepayment penalty..................................... (15.0)
Accrued expenses and other current liabilities.............. (18.5)
Elimination of Sun's historical stockholders' deficit....... (77.9)
------
Total purchase price.............................. $214.2
======
These adjustments do not include future payments under Sun's Polo Jeans
license which would not materially impact the purchase price.
(c) Reflects the funding of the cash portion of the purchase price, transaction
costs, Sun loan prepayment penalties and the refinancing of all Sun's
long-term debt and Jones' short-term borrowings using $300.0 million of
Notes and $100.0 million of the Senior Credit Facilities.
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42
JONES APPAREL GROUP, INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 28, 1998
JONES SUN PRO FORMA
HISTORICAL HISTORICAL ADJUSTMENTS PRO FORMA
---------- ---------- ----------- ---------
(IN THOUSANDS EXCEPT PER SHARE DATA)
Net sales.......................................... $685,512 $206,865 $ $892,377
Licensing income................................... 6,816 -- 6,816
-------- -------- --------
Total revenues................................... 692,328 206,865 899,193
Cost of goods sold................................. 453,647 129,636 (50)(a) 583,233
-------- -------- ------- --------
Gross profit..................................... 238,681 77,229 50 315,960
Selling, general and administrative expenses....... 133,599 52,924 186,523
Amortization of intangibles........................ -- -- 5,528(b) 5,528
-------- -------- ------- --------
Operating income................................. 105,082 24,305 (5,478) 123,909
Interest expense and finance costs................. 2,446 12,051 820(d) 15,450
133(c)
Interest income.................................... (856) (27) (883)
-------- -------- ------- --------
Income before provision for income taxes......... 103,492 12,281 (6,431) 109,342
Provision for income taxes......................... 39,844 5,326 (348)(e) 44,822
-------- -------- ------- --------
Net income......................................... $ 63,648 $ 6,955 $(6,083) $ 64,520
======== ======== ======= ========
Earnings Per Share
Basic............................................ $ 0.63 $ 0.61
Diluted.......................................... $ 0.61 $ 0.59
Weighted Average Common Shares Outstanding
Basic............................................ 100,788 4,800(f) 105,588
Diluted.......................................... 104,707 4,800(f) 109,507
- ---------------
(a) Represents adjustments to depreciation and amortization relating to purchase
price writedowns of property to estimated market values.
(b) Reflects amortization of acquired intangible assets, including goodwill,
over a 30-year period.
(c) Represents the incremental amortization of loan origination costs and
related fees under the Notes and the Senior Credit Facilities over the
amounts historically recorded by Sun.
(d) Reflects interest expense and other expenses related to the Notes and the
Senior Credit Facilities. Interest expense associated with the Notes and the
Senior Credit Facilities was calculated based on an average interest rate of
6.25% per year.
Interest expense includes the following:
SIX MONTHS
ENDED
JUNE 28, 1998
-------------
(IN MILLIONS)
Notes....................................................... $ 9.4
Senior Credit Facilities.................................... 3.1
Capital Leases and Other.................................... 2.3
-----
14.8
Amortization of loan origination costs...................... 0.7
-----
$15.5
=====
An increase or decrease of 25 basis points ( 1/4%) per year represents a
change in annual interest expense of approximately $1 million.
(e) Records the income tax effects for the applicable pro forma adjustments.
(f) Represents the incremental shares of common stock of Jones that are issued
as part of the purchase price of the Acquisition.
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43
JONES APPAREL GROUP, INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 1997
JONES SUN PRO FORMA
HISTORICAL HISTORICAL ADJUSTMENTS PRO FORMA
---------- ---------- ----------- ----------
(IN THOUSANDS EXCEPT PER SHARE DATA)
Net sales................................. $1,372,458 $359,672 $ $1,732,130
Licensing income.......................... 15,013 -- 15,013
---------- -------- ----------
Total revenues.......................... 1,387,471 359,672 1,747,143
Cost of goods sold........................ 940,149 236,203 (100)(a) 1,176,252
---------- -------- ------- ----------
Gross profit............................ 447,322 123,469 100 570,891
Selling, general and administrative
expenses................................ 250,685 85,715 336,400
Amortization of intangibles............... -- -- 11,055(b) 11,055
---------- -------- ------- ----------
Operating income........................ 196,637 37,754 (10,955) 223,436
Interest expense and finance costs........ 3,584 10,375 15,470(e) 30,105
676(d)
Interest income........................... (1,556) (227) (1,783)
---------- -------- ------- ----------
Income before provision for income
taxes................................ 194,609 27,606 (27,101) 195,114
Provision for income taxes................ 72,884 3,674 7,921(c) 78,462
(6,017)(f)
---------- -------- ------- ----------
Income before extraordinary item........ 121,725 23,932 (29,005) 116,652
Loss on early extinguishment of debt...... -- 566 (566)(d) --
---------- -------- ------- ----------
Net income................................ $ 121,725 $ 23,366 $28,439 $ 116,652
========== ======== ======= ==========
Earnings Per Share
Basic................................... $1.17 $1.07
Diluted................................. $1.13 $1.04
Weighted Average Common Shares Outstanding
Basic................................... 103,797 4,800(g) 108,597
Diluted................................. 107,810 4,800(g) 112,610
- ---------------
(a) Represents adjustments to depreciation and amortization relating to purchase
price writedowns of property to estimated market values.
(b) Reflects amortization of acquired intangible assets, including goodwill,
over a 30-year period.
(c) For the period from January 1, 1997 to September 26, 1997, Sun elected to be
treated as an S Corporation. The tax provision has been adjusted assuming
that Sun had been taxed as a C Corporation for federal and certain state
income tax purposes for all of 1997.
(d) Represents the incremental amortization of loan origination costs and
related fees under the Notes and the Senior Credit Facilities over the
amounts historically recorded by Sun and eliminates the loss on early
extinguishment of debt.
(e) Reflects interest expense and other expenses related to the Notes and the
Senior Credit Facilities. Interest expense associated with the Notes and the
Senior Credit Facilities was calculated based on an average interest rate of
6.25% per year.
43
44
Interest expense includes the following:
YEAR ENDED
DECEMBER 31, 1997
-----------------
(IN MILLIONS)
Notes....................................................... $18.8
Senior Credit Facilities.................................... 6.2
Capital leases and Other.................................... 3.7
-----
28.7
Amortization of loan origination costs...................... 1.4
-----
$30.1
=====
An increase or decrease of 25 basis points ( 1/4%) per year represents a
change in annual interest expense of approximately $1 million.
(f) Records the income tax effects for the applicable pro forma adjustments.
(g) Represents the incremental shares of common stock of Jones that are issued
as part of the purchase price of the Acquisition.
(C) EXHIBITS
The following exhibits are filed with this Current Report:
2.1 Agreement and Plan of Merger dated September 10, 1998, by
and among the Company, SAI Acquisition Corp., Sun Apparel,
Inc. and the shareholders of Sun Apparel, Inc.
4.1 Registration Rights Agreement dated September 10, 1998, by
and among the Company and the shareholders of Sun Apparel,
Inc.
10.1 Employment Agreement dated September 10, 1998, by and
between SAI Acquisition Corp. and Eric A. Rothfeld.
10.2 Employment Agreement dated September 10, 1998, by and
between R.L. Management, Inc. and Mindy Grossman.
99.1 Press Release dated September 10, 1998, announcing the
Merger Agreement.
44
45
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
JONES APPAREL GROUP, INC.
--------------------------------------
Registrant
By: /s/ WESLEY R. CARD
------------------------------------
Wesley R. Card
Chief Financial Officer
September 24, 1998
45