1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q/A
AMENDMENT NO. 2 TO FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the quarterly period ended October 31, 1998
or
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the transition period from _________________ to
_______________________.
Commission file number: 0-15077
SHOREWOOD PACKAGING CORPORATION
(Exact name of registrant as specified in its Charter)
DELAWARE 11-2742734
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
277 PARK AVENUE
NEW YORK, NEW YORK 10172
(Address of principal executive offices)
(212) 371-1500
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES |X| NO |_|
APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
DECEMBER 1, 1998 27,267,000
Date Number of Shares
Page 1 of 21
2
SHOREWOOD PACKAGING CORPORATION
AND SUBSIDIARIES
INDEX PAGE
Part I: Financial Statements
Consolidated Balance Sheets
October 31, 1998 (Unaudited) and
May 2, 1998 (Audited) 3
Consolidated Condensed Statements of Earnings
13 weeks ended October 31, 1998 (Unaudited) and
13 weeks ended November 1, 1997 (Unaudited) 4
Consolidated Condensed Statements of Earnings
26 weeks ended October 31, 1998 (Unaudited) and
26 weeks ended November 1, 1997 (Unaudited) 5
Consolidated Condensed Statements of Cash Flows
26 weeks ended October 31, 1998 (Unaudited) and
26 weeks ended November 1, 1997 (Unaudited) 6
Notes to Consolidated Condensed Financial Statements 7 - 11
Management's Discussion and Analysis of Financial
Condition and Results of Operations 12 - 18
Part II: Other Information 19
Certain statements under the caption "Management's Discussion and Analysis of
Financial Condition and Results of Operations," and elsewhere in this Form
10-Q/A, constitute "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. These statements are typically
identified by their inclusion of phrases such as "the Company anticipates," "the
Company believes" and other phrases of similar meaning. Such forward-looking
statements involve known and unknown risks, uncertainties, and other factors
that may cause the actual results, performance or achievements of the Company to
be materially different from any future results, performance or achievements
expressed or implied by such forward-looking statements. Such factors include,
among others: general economic and business conditions; competition; political
changes in international markets; raw material and other operating costs; costs
of capital equipment; changes in foreign currency exchange rates; changes in
business strategy or expansion plans; the results of continuing environmental
compliance testing and monitoring; quality of management; availability, terms,
and development of capital; fluctuating interest rates; and other factors
referenced in this Form 10-Q/A.
Page 2 of 21
3
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS EXCEPT SHARE DATA)
OCTOBER 31, MAY 2,
1998 1998
(UNAUDITED) (AUDITED)
--------- ---------
ASSETS
Current Assets:
Cash and cash equivalents $ 6,662 $ 7,268
Accounts receivable, net 74,151 32,054
Inventories 47,292 46,591
Deferred tax assets 317 317
Refundable income taxes -- 411
Prepaid expenses and other current assets 6,268 9,202
--------- ---------
Total Current Assets 134,690 95,843
Property, Plant and Equipment, net 244,901 200,293
Excess of Cost Over the Fair Value of Net Assets Acquired, net 113,404 18,295
Other Assets 9,119 11,553
--------- ---------
$ 502,114 $ 325,984
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 50,045 $ 33,100
Accrued expenses 23,888 13,887
Income taxes payable 4,134 2,864
Current maturities of long-term debt 20,000 15,000
--------- ---------
Total Current Liabilities 98,067 64,851
Long-Term Debt 258,827 126,437
Other Long-Term Liabilities 1,397 794
Deferred Income Taxes 22,015 21,395
--------- ---------
Total Liabilities 380,306 213,477
--------- ---------
Temporary Equity Relating to Put Options 1,246 2,710
Commitments and Contingencies
Stockholders' Equity:
Series A preferred stock, $10 par value; 50,000 shares
authorized, none issued -- --
Preferred stock, $10 par value; 5,000,000 shares authorized
none issued -- --
Common stock, $.01 par value; 60,000,000 shares authorized;
35,352,873 issued and 27,266,999 outstanding in October and
34,106,974 issued and 27,092,100 outstanding in May 354 341
Additional paid-in capital 70,274 52,448
Retained earnings 135,369 121,976
Cumulative foreign currency translation adjustment (8,808) (4,274)
Treasury stock (8,085,874 and 7,014,874 shares at
cost in August and May) (76,627) (60,694)
--------- ---------
Total Stockholders' Equity 120,562 109,797
--------- ---------
$ 502,114 $ 325,984
========= =========
The accompanying notes are an integral part of these financial statements.
Page 3 of 21
4
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF EARNINGS
(IN THOUSANDS EXCEPT PER SHARE DATA)
(UNAUDITED)
13 WEEKS 13 WEEKS
ENDED ENDED
OCTOBER 31, NOVEMBER 1,
1998 1997
--------- ---------
Net Sales $ 145,378 $ 114,828
--------- ---------
Costs and Expenses:
Cost of Sales 110,153 87,427
Selling, General and Administrative 16,440 11,888
--------- ---------
Earnings from Operations 18,785 15,513
Other Income, net 468 147
Interest Expense (3,005) (1,854)
--------- ---------
Earnings Before Provision for Income Taxes and Extraordinary
Item 16,248 13,806
Provision for Income Taxes 6,338 5,246
--------- ---------
Earnings Before Extraordinary Item 9,910 8,560
Extraordinary Item, net of Income Tax Benefit of $177 (277) --
--------- ---------
Net Earnings $ 9,633 $ 8,560
========= =========
EARNINGS PER SHARE INFORMATION:
BASIC
Earnings Before Extraordinary Item $ .37 $ .32
Extraordinary Item (0.01) --
--------- ---------
Net Earnings Per Common Share $ .36 $ .32
========= =========
DILUTED
Earnings Before Extraordinary Item $ .37 $ .31
Extraordinary Item (0.01) --
--------- ---------
Net Earnings Per Common Share $ .36 $ .31
========= =========
WEIGHTED AVERAGE SHARES OUTSTANDING
BASIC 26,451 27,132
========= =========
DILUTED 27,112 27,888
========= =========
The accompanying notes are an integral part of these financial statements.
Page 4 of 21
5
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF EARNINGS
(IN THOUSANDS EXCEPT PER SHARE DATA)
(UNAUDITED)
26 WEEKS 26 WEEKS
ENDED ENDED
OCTOBER 31, NOVEMBER 1,
1998 1997
--------- ---------
Net Sales $ 260,737 $ 215,424
--------- ---------
Costs and Expenses:
Cost of Sales 200,207 165,514
Selling, General and Administrative 28,903 22,912
--------- ---------
Earnings from Operations 31,627 26,998
Other Income, net 859 728
Interest Expense (5,091) (3,905)
--------- ---------
Earnings Before Provision for Income Taxes, Extraordinary Item
and Cumulative Effect of a Change in Accounting Principle 27,395 23,821
Provision for Income Taxes 10,685 9,052
--------- ---------
Earnings Before Extraordinary Item and Cumulative Effect of a
Change in Accounting Principle 16,710 14,769
Extraordinary Item, net of Income Tax Benefit of $177 (277) --
Cumulative Effect on Prior Years Related to the Adoption of
SOP 98-5 Reporting on the Cost of Start-Up Activities (3,040) --
--------- ---------
Net Earnings $ 13,393 $ 14,769
========= =========
EARNINGS PER SHARE INFORMATION:
BASIC
Earnings Before Extraordinary Item and Cumulative Effect of a
Change in Accounting Principle $ .63 $ .54
Extraordinary Item (0.01) --
Cumulative Effect of a Change in Accounting Principle (0.11) --
--------- ---------
Net Earnings Per Common Share $ .51 $ .54
========= =========
DILUTED
Earnings Before Extraordinary Item and Cumulative Effect of a
Change in Accounting Principle $ .62 $ .53
Extraordinary Item (0.01) --
Cumulative Effect of a Change in Accounting Principle (0.12) --
--------- ---------
Net Earnings Per Common Share $ .49 $ .53
========= =========
WEIGHTED AVERAGE SHARES OUTSTANDING
BASIC 26,473 27,137
========= =========
DILUTED 27,097 27,791
========= =========
The accompanying notes are an integral part of these financial statements.
Page 5 of 21
6
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
26 WEEKS 26 WEEKS
ENDED ENDED
OCTOBER 31, NOVEMBER 1,
1998 1997
--------- ---------
Cash flows from operating activities:
Net earnings $ 13,393 $ 14,769
Adjustments to reconcile earnings to net cash flows
provided from operations:
Non-cash cumulative effect of change in
accounting principle 3,040 --
Non-cash extraordinary item, net of tax 277
Depreciation and amortization 10,144 8,660
Deferred income taxes 1,353 3,171
Changes in operating assets and liabilities:
Accounts receivable (22,645) (9,606)
Inventories 4,202 1,163
Prepaid expenses and other current assets 2,023 (2,145)
Other assets 346 (129)
Accounts payable, accrued expenses and other
long term liabilities 7,527 4,099
--------- ---------
Net cash flows provided from operating activities 19,660 19,982
--------- ---------
Cash Flows from Investing Activities:
Capital expenditures (22,052) (36,888)
Business acquisitions, net of cash acquired (120,729) --
--------- ---------
Net cash flows used in investing activities (142,781) (36,888)
--------- ---------
Cash Flows from Financing Activities:
Net proceeds from revolver borrowings 120,699 25,465
Additions to long-term borrowings 100,000 --
Repayments of long-term borrowings (82,728) --
Purchase of treasury stock (15,933) (8,313)
Issuance of common stock 550 776
--------- ---------
Net cash flows provided from financing activities 122,588 17,928
--------- ---------
Effect of exchange rate changes on cash and cash equivalents (73) 45
--------- ---------
Decrease in cash and cash equivalents (606) 1,067
Cash and cash equivalents at beginning of period 7,268 3,153
--------- ---------
Cash and cash equivalents at end of period $ 6,662 $ 4,220
========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest paid, net of capitalized amounts $ 6,859 $ 1,925
========= =========
Income taxes paid $ 7,566 $ 5,563
========= =========
The accompanying notes are an integral part of these financial statements.
Page 6 of 21
7
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
1. BASIS OF PRESENTATION
In the opinion of the Company, the accompanying unaudited consolidated condensed
financial statements contain all adjustments (consisting only of normal
recurring adjustments) necessary to present fairly the financial position, the
results of operations, and the changes in cash flows at October 31, 1998 and for
all periods presented.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted. These financial statements should be read in
conjunction with the Consolidated Financial Statements and Notes included in the
Company's May 2, 1998 Annual Report to Stockholders on Form 10-K as filed with
the Securities and Exchange Commission ("1998 Form 10-K").
The results of operations for the 13 week period and 26 week period ended
October 31, 1998 are not necessarily indicative of the results for the full
year.
2. BUSINESS ACQUISITION
In October 1998, the Company purchased substantially all of the assets and
assumed substantially all of the liabilities of The Queens Group, Inc.
("Queens") for a purchase price of $129.5 million comprised of approximately
$113.7 million in cash including the assumption of debt, and 1.0 million shares
of Company common stock. In addition, the Company incurred expenses associated
with the transaction of approximately $2.5 million. Simultaneously with the
closing of the transaction, the Company repaid all outstanding bank debt of
Queens, approximating $19.0 million. Queens is engaged in the manufacture of
value added printed packaging primarily for the home entertainment industry. The
transaction was financed through a new credit facility as described below.
The acquisition was recorded using the purchase method of accounting and,
accordingly, the results of operations of Queens are included in the
consolidated results of operations of the Company since the date of acquisition.
The purchase price of the acquisition has been allocated to the net assets
acquired based upon the related fair values which is subject to refinement based
upon the receipt of final appraisals and other analyses. The excess of cost over
the fair value of net assets acquired approximated $96.2 million and is being
amortized over 40 years.
The following unaudited pro forma information for the twenty-six weeks ended
October 31, 1998 and November 1, 1997 includes the operations of the Company,
inclusive of the operations of Queens, as if the acquisition had occurred at the
beginning of the respective periods presented. The pro forma gives effect to the
amortization expense associated with the excess of cost over the fair value of
net assets acquired, adjustments related to the fair market value of the assets
and liabilities acquired (which is subject to further refinement), shares issued
in connection with the transaction, interest expense related to financing the
acquisition, and related income tax effects.
Page 7 of 21
8
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(continued)
26 WEEKS 26 WEEKS
ENDED ENDED
OCTOBER 31, NOVEMBER 1,
1998 1997
--------- --------
Revenues $ 326,240 $296,358
========= ========
Earnings from Operations $ 35,024 $ 30,428
========= ========
Net Earnings Before Extraordinary Items and Cumulative
Effect of a Change in Accounting Principle $ 16,902 $ 14,602
========= ========
Net Earnings Per Share Before Extraordinary Items and
Cumulative Effect of a Change in Accounting Principle
Basic $ .62 $ .52
========= ========
Diluted $ .61 $ .51
========= ========
3. NEW CREDIT FACILITY AND INTEREST RATE DERIVATIVES
In October 1998, in order to facilitate the acquisition of Queens as described
in Note 2 and other global opportunities which may arise over the next several
years, the Company entered into a new credit agreement with its lending banks to
replace its existing credit facility. The new credit facility provides for up to
$325 million of borrowings and consists of a $100 million term loan to be paid
in equal quarterly installments over five years and a $225 million revolving
credit facility maturing at the end of five years. The revolving credit is
available, in its entirety, without any borrowing base limitation. Borrowings
pursuant to the facility will bear interest at the discretion of the Company, at
either the Bank's prime rate (8.0% at October 31, 1998) or at the LIBOR rate
(three month term of 5.22% at October 31, 1998) plus 62.5 to 125 basis points
based upon financial ratios as defined in the underlying Agreement. Initially,
borrowings bear interest at 125 basis points above the LIBOR rate. Unused
commitment fees will range from 20 to 30 basis points (initially 30 basis points
based upon the same financial ratios).
In connection with the refinancing, the Company recorded a net of tax
extraordinary charge representing the write-off of previously deferred finance
costs incurred in connection with the former credit facility of approximately
$277 thousand.
The Company uses interest rate derivatives to manage its exposure to fluctuating
interest rates. These transactions effectively change a portion of the Company's
interest rate exposure from a floating-rate to a fixed-rate basis. The Company's
interest rate derivatives are generally structured for the Company to pay a
fixed rate and receive a floating rate based on LIBOR, as determined in
three-month intervals ( a "Vanilla Swap"). The Company has Vanilla Swap
agreements relating to $150.0 million of borrowings under the credit facility
expiring in the quarter ended January 2001 providing a weighted average LIBOR
rate of 5.044% throughout the period.
In July 1997, the Company entered into a reversion swap agreement relating to
$50.0 million of borrowings under the credit facility. Under the agreement, the
Company pays a fixed rate of 5.73% and receives a floating rate based upon
LIBOR, as determined in three month intervals. This agreement terminates in
April 2002. This transaction effectively changes a portion of the Company's
interest rate exposure from a floating-rate to a fixed-rate basis. After the
first year, however, the fixed rate reverts back to floating for any three month
period during which the LIBOR rate exceeds 6.625%. The rate reverts back to the
fixed rate of 5.73% for any subsequent period for which the LIBOR rate drops
below 6.625%.
Page 8 of 21
9
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(continued)
In October 1997, the Company entered into an intermediate-term interest rate
swap agreement relating to approximately $35.0 million of borrowings under the
credit facility. Under the agreement, the Company pays a fixed rate of 5.74% and
receives a floating rate based on LIBOR, as determined in three-month intervals.
This transaction effectively changes a portion of the Company's interest rate
exposure from a floating-rate to a fixed-rate basis. The agreement began on May
5, 1998 and terminates May 5, 1999. The agreement may be extended at the
discretion of the financial institution for an additional year.
On June 16, 1998, the Financial Accounting Standards Board adopted Statement on
Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities." Adoption of SFAS No. 133 is not required at
this time. The adoption of SFAS 133 is not expected to have a material impact on
the Company's financial statements.
4. INCOME TAXES
The effective income tax rate for the three and six month periods ended October
31, 1998 is 39.0% and was 38.0% for the corresponding prior periods. These rates
reflect a blend of domestic and foreign taxes and are adjusted periodically
based upon the estimated annual effective tax rate and any increase or decrease
in the provision for income taxes is reflected in the period in which the
estimate is changed. The effective income tax rate for the entire fiscal year
ended May 2, 1998 was 37.9%.
5. INVENTORIES
Inventories consist of the following:
OCTOBER 31, 1998 MAY 2, 1998
Raw materials and supplies $19,671 $17,862
Work in process 10,637 7,833
Finished goods 16,984 20,896
------- -------
$47,292 $46,591
======= =======
6. COMPREHENSIVE EARNINGS
Effective May 3, 1998 the Company adopted SFAS No. 130, "Reporting Comprehensive
Income" which requires that all items that are required to be recognized under
accounting standards as components of other comprehensive income be reported in
the financial statements. The Company's total comprehensive earnings were as
follows:
26 WEEKS ENDED 26 WEEKS ENDED
OCTOBER 31, 1998 NOVEMBER 1, 1997
Net earnings $ 13,393 $ 14,769
Other comprehensive earnings (losses):
Change in equity due to foreign currency translation adjustment (4,534) (533)
-------- --------
Comprehensive earnings $ 8,859 $ 14,236
======== ========
Page 9 of 21
10
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(continued)
7. COMMITMENTS AND CONTINGENCIES
a. Treasury Stock
The Company's Board of Directors has authorized the purchase of the Company's
common stock as follows:
DATE OF AUTHORIZATION AUTHORIZED SHARES
--------------------- -----------------
January 1993 3.0 million
December 1995 3.0 million
April 1997 1.86 million
Shares are authorized for purchase from time to time in the open market, subject
to the terms of the Company's credit facility. As of October 31, 1998,
approximately 1.6 million shares remain authorized for purchase.
b. Temporary Equity Relating to Put Options
The Company periodically sells common equity put options ("put options") on
shares of its common stock which are exerciseable six months from the date of
issuance. At October 31, 1998, 85,000 options were outstanding at strike prices
ranging from $13.86 to $15.22 per share.
Temporary equity relating to put options on the accompanying consolidated
balance sheets represent the amount the Company would be obligated to pay if all
unexpired put options were exercised.
c. China Facility
The Company has completed building a state-of-the-art manufacturing facility in
the city of Guangzhou, China (the "China Facility"), which commenced operations
in the third quarter of fiscal 1999. The facility and related equipment will
require an initial capital investment of approximately $45.0 million, including
working capital, which the Company has financed through the Company's existing
credit facility. Through November 1, 1998, the Company has invested
approximately $34.8 million representing costs associated with the lease of the
related land, construction of the manufacturing facility, purchase of the
necessary machinery and equipment and other expenses associated with the
start-up of the facility. The Company anticipates spending the remaining $10.2
million during the remainder of fiscal 1999 with funds generated from operations
as well as the existing credit facility and the Westvaco transaction described
below.
In connection with the start-up of the facility, the Company incurred and
capitalized certain start-up costs aggregating $3.0 million. On April 3, 1998,
Statement of Position Number 98-5, "Reporting on the Costs of Start-Up
Activities" was issued by the American Institute of Certified Public
Accountants, which requires the expensing of the start-up costs when incurred.
Although adoption is not required until fiscal 2000, the Company adopted this
Statement of Position on the first day of fiscal 1999. Accordingly, the Company
recorded a $3.0 million pre-tax charge in its first quarter of fiscal 1999 as a
cumulative effect of a change in accounting principle. This pre-tax charge has
not been offset by a corresponding tax benefit as these expenses relate to the
China Facility which will enjoy a tax holiday for its first three years of
profitable operation. The Company will not report the tax benefits until
realized. Included in selling, general and administrative expenses on the
consolidated statements of earnings for the three and six months ended October
31, 1998 is $650,000 and $950,000 relating to costs incurred for the China
Facility.
Page 10 of 21
11
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(continued)
On October 28, 1998, the Company entered into a definitive agreement with
Westvaco Corporation to sell to Westvaco a 45% minority interest in its China
Facility. Westvaco is a major producer of paper, paperboard, envelopes,
packaging and specialty chemicals, with manufacturing facilities in the United
States, Brazil and the Czech Republic. The final agreement provides for Westvaco
to pay Shorewood, in cash, 45% of the total costs of the China investment plus
an additional $5 million. Day-to-day management control of the operation will
remain with the Company; however, Shorewood will work closely with Westvaco on
marketing programs and new product development. The gain on the sale will be
recorded upon closing of the transaction, expected to take place before the end
of fiscal 1999.
d. Environmental Matters
On a continuing basis, the Company monitors its compliance with applicable
environmental laws and regulations. As part of this process the Company
cooperates with appropriate governmental authorities to perform any necessary
testing and compliance procedures. The Company is not currently aware of any
environmental compliance matters that it believes will have a material effect on
the consolidated financial statements.
e. 1995 Performance Bonus Plan
In July 1995, the Board of Directors approved the 1995 Performance Bonus Plan
(the "Plan"), applicable to its Chairman of the Board and President (the
"Executive"). Under the Plan, for each of the five fiscal years of the Company
commencing with fiscal year 1996, the Executive will be entitled to a graduated
bonus (the "Performance Bonus") based upon a comparison of the Company's
earnings from operations plus depreciation and amortization (the "Performance
Measure") in that award year with the immediately preceding fiscal year. The
size of the Performance Bonus, if any, is tied to the level of the Company's
performance, as measured by the Performance Measure. The maximum Performance
Bonus payable in respect of any award year under the Plan is $2.0 million. The
Board of Directors and shareholders have approved the extension of the Plan for
an additional three years.
f. New Employment Agreements
Effective May 3, 1998, the Company entered into new five year employment
agreements with the Executive and its Executive Vice President and Chief
Financial Officer ("EVP") providing for annual base salaries of $800 thousand
and $450 thousand, respectively. In connection with his agreement, the Company
paid to the Executive as a signing bonus the aggregate amount of $1 million,
payable in full although earned ratably over his five-year employment period,
provided that the Executive continues to be employed with the Company at the end
of each such year. Simultaneously with the authorization of the employment
agreements by the Board of Directors, the Company granted the Executive and the
EVP options to purchase 250 thousand and 100 thousand shares of stock,
respectively. The options are exerciseable at $13.75 per share (the fair market
value at the date of grant).
g. Related Party Transaction
In the second quarter of fiscal 1999 the Company temporarily advanced $800
thousand to the Executive. The advance bears interest at 6.5% and is due to be
repaid in the third quarter.
Page 11 of 21
12
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
OVERVIEW
In October 1998, the Company purchased substantially all of the assets and
assumed substantially all of the liabilities of The Queens Group, Inc.
("Queens") for a purchase price of $129.5 million comprised of approximately
$113.7 million in cash including the assumption of debt, and 1.0 million shares
of Company common stock. In addition, the Company incurred expenses associated
with the transaction of approximately $2.5 million. Simultaneously with the
closing of the transaction, the Company repaid all outstanding bank debt of
Queens, approximating $19.0 million. Queens is engaged in the manufacture of
value added printed packaging primarily for the home entertainment industry. The
transaction was financed through a new credit facility as described below.
The acquisition was recorded using the purchase method of accounting and,
accordingly, the results of operations of Queens are included in the
consolidated results of operations of the Company since the date of acquisition.
The purchase price of the acquisition has been allocated to the net assets
acquired based upon the related fair values which is subject to refinement based
upon the receipt of final appraisals and other analyses. The excess of cost over
the fair value of net assets acquired approximated $96.2 million and is being
amortized over 40 years.
The following unaudited pro forma information for the twenty-six weeks ended
October 31, 1998 and November 1, 1997 includes the operations of the Company,
inclusive of the operations of Queens, as if the acquisition had occurred at the
beginning of the respective periods presented. The pro forma gives effect to the
amortization expense associated with the excess of cost over the fair value of
net assets acquired, adjustments related to the fair market value of the assets
and liabilities acquired (which is subject to further refinement), shares issued
in connection with the transaction, interest expense related to financing the
acquisition, and related income tax effects.
26 WEEKS 26 WEEKS
ENDED ENDED
OCTOBER 31, 1998 NOVEMBER 1, 1997
Revenues $ 326,240 $296,358
========= ========
Earnings from Operations $ 35,024 $ 30,428
========= ========
Net Earnings Before Extraordinary Items and Cumulative
Effect of a Change in Accounting Principle $ 16,902 $ 14,602
========= ========
Net Earnings Per Share Before Extraordinary Items and
Cumulative Effect of a Change in Accounting Principle
Basic $ .62 $ .52
========= ========
Diluted $ .61 $ .51
========= ========
Page 12 of 21
13
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Net Sales
Net sales for the three and six month periods ended October 31, 1998 were $145.4
million and $260.7 million as compared to net sales of $114.8 million and $215.4
million for the corresponding prior periods, an increase of 26.6% and 21.0%,
respectively. Included in the 13 and 26 week periods ended October 31, 1998 are
sales produced by former Queens facilities of $18.3 million. In addition to the
sales increase related to the former Queens facilities, the Company experienced
increases in sales in the home entertainment and the tobacco industries. Based
upon current buying patterns and known increases in awarded market share in the
tobacco industry, the Company anticipates that its growth in sales as compared
to the prior year will continue throughout fiscal 1999.
The Company believes that future sales growth will be generated through
continued penetration of its existing markets, as well as its expansion into
China.
Cost of Sales
Cost of sales as a percentage of sales for the three and six month periods ended
October 31, 1998 were 75.8% and 76.8% as compared to 76.1% and 76.8% for the
corresponding prior periods. The decrease in cost of sales as a percentage of
sales in the quarter is primarily attributable to favorable product mix, and
favorable absorbtion of fixed overhead costs as a result of the higher sales
volume. These decreases were partially offset by increased costs attributable to
the learning curve related to new products and newly installed equipment which
began operating during the last nine months.
The Company remains sensitive to price competitiveness in the markets that it
serves, and in the areas that are targeted for growth and believes that the
installation of state-of-the-art printing and manufacturing equipment (and
related labor and production efficiencies) will enable it to compete
effectively.
Selling, General and Administrative Expenses
Selling, general and administrative expenses as a percentage of sales for the
three and six month periods ended October 31, 1998 were 11.3% and 11.1% as
compared to 10.4% and 10.6% for the corresponding prior periods. Included in
selling, general and administrative expenses in the three and six month periods
of the current year were $650,000 and $950,000, respectively, of costs relating
to the facility in Guangzhou, China (the "China Facility"). Selling, general and
administrative expense as a percentage of sales for the former Queens facilities
are greater than that of existing Shorewood facilities.
Other Income, net
Other income, net, for the three and six month periods ended October 31, 1998
was $468 thousand and $859 thousand, respectively. The net gain for the three
month period includes net foreign exchange gains of $353 thousand and
approximately $115 thousand of investment income. The net gain for the six month
period includes net foreign exchange gains of $848 thousand, and approximately
$223 thousand of investment income, offset by losses on disposal of fixed assets
of $212 thousand.
Page 13 of 21
14
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
Other income, net, for the three and six month periods ended November 1, 1997
was $147 and $728 thousand, respectively. The net gain for the three month
period was primarily due to net foreign exchange gains of $170 thousand and a
loss on the sale of equipment of $25 thousand. The net gain for the six month
period includes a net gain on the sale of equipment of $332 thousand, investment
income of $240 thousand and a net foreign exchange gains of $156 thousand.
The Company's exposure to foreign exchange transaction gains or losses primarily
relate to the Company's Canadian facilities which have U.S. dollar denominated
net assets. The Company believes that fluctuations in foreign exchange rates
will not have a material impact on the operations or liquidity of the Company,
based upon current and historical levels of working capital at the Canadian
facilities. Recently, several Asian currencies experienced weaknesses which had
the impact of reducing some demand for Company products produced in North
America intended for ultimate use in export markets. The Canadian dollar has
also experienced recent weakness against the U.S. dollar. The recent investments
in the China Facility will expose the Company to additional foreign exchange
risks related to the Renminbi ("Rmb"). Should the Canadian dollar or the Rmb
weaken, the Company would experience a reduction in the net worth of the
Company's investments in Canada and China (through the cumulative translation
adjustment account and other comprehensive income). In addition, the translation
of the net operating results for Canada and China (whether losses or profits)
would be reduced. Exposure to foreign exchange transaction gains or losses in
China is expected to be minimal as the Company will make purchases and sales in
both Rmb and the U.S. dollar, and settlement periods on both accounts receivable
and accounts payable are expected to be short.
Interest Expense
Interest expense for the three and six month periods ended October 31, 1998 was
$3.0 million and $5.1 million as compared to $1.9 million and $3.9 million for
the corresponding prior periods. The increase in interest costs is primarily
attributable to increased borrowings relating to financing the acquisition of
Queens and funding non-cash working capital. Capitalized interest increased from
$463 thousand to $508 thousand for the three month period and from $658 thousand
to $1.0 million for the six month period, primarily related to the Company's
construction of its facility in China. The Company anticipates that the amount
of interest to be capitalized in fiscal 1999 will begin to decrease during the
third quarter of fiscal 1999 as the China Facility commences operations.
The Company uses interest rate derivatives to manage its exposure to fluctuating
interest rates. These transactions effectively change a portion of the Company's
interest rate exposure from a floating-rate to a fixed-rate basis. The Company's
interest rate derivatives are generally structured for the Company to pay a
fixed rate and receive a floating rate based on LIBOR, as determined in
three-month intervals ( a "Vanilla Swap"). The Company has Vanilla Swap
agreements relating to $150.0 million of borrowings under the credit facility
expiring in the quarter ended January 2001 providing a weighted average LIBOR
rate of 5.044% throughout the period.
Page 14 of 21
15
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
In July 1997, the Company entered into a reversion swap agreement relating to
$50.0 million of borrowings under the credit facility. Under the agreement, the
Company pays a fixed rate of 5.73% and receives a floating rate based upon
LIBOR, as determined in three month intervals. This agreement terminates in
April 2002. This transaction effectively changes a portion of the Company's
interest rate exposure from a floating-rate to a fixed-rate basis. After the
first year, however, the fixed rate reverts back to floating for any three month
period during which the LIBOR rate exceeds 6.625%. The rate reverts back to the
fixed rate of 5.73% for any subsequent period for which the LIBOR rate drops
below 6.625%.
In October 1997, the Company entered into an intermediate-term interest rate
swap agreement relating to approximately $35.0 million of borrowings under the
credit facility. Under the agreement, the Company pays a fixed rate of 5.74% and
receives a floating rate based on LIBOR, as determined in three-month intervals.
This transaction effectively changes a portion of the Company's interest rate
exposure from a floating-rate to a fixed-rate basis. The agreement began on May
5, 1998 and terminates May 5, 1999. The agreement may be extended at the
discretion of the financial institution for an additional year.
On June 16, 1998, the Financial Accounting Standards Board adopted Statement on
Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities." Adoption of SFAS No. 133 is not required at
this time. The adoption of SFAS 133 is not expected to have a material impact on
the Company's financial statements.
The Company has used, and may continue to use, interest rate swaps and caps to
manage its exposure to fluctuating interest rates under its debt agreements.
Income Taxes
The effective income tax rate for the three and six month periods ended October
31, 1998 is 39.0% and was 38.0% for the corresponding prior periods. These rates
reflect a blend of domestic and foreign taxes and are adjusted periodically
based upon the estimated annual effective tax rate, which for the entire fiscal
year ended May 2, 1998 was 37.9%.
The China Facility will enjoy a tax holiday for the first three years of
profitable operations, and thereafter be taxed at lower rates than the Company's
North American operations. Anticipated losses during the early periods of
operation will not result in related tax benefits. Such benefits will be
recognized when realized. The Company anticipates that this situation will
temporarily result in an increase in its effective tax rate in fiscal 1999.
Page 15 of 21
16
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
China Facility
The Company has completed building a state-of-the-art manufacturing facility in
the city of Guangzhou, China (the "China Facility"), which commenced operations
in the third quarter of fiscal 1999. The facility and related equipment will
require an initial capital investment of approximately $45.0 million, including
working capital, which the Company has financed through the Company's existing
credit facility. Through November 1, 1998, the Company has invested
approximately $34.8 million representing costs associated with the lease of the
related land, construction of the manufacturing facility, purchase of the
necessary machinery and equipment and other expenses associated with the
start-up of the facility. The Company anticipates spending the remaining $10.2
million during the remainder of fiscal 1999 with funds generated from operations
as well as the existing credit facility and the Westvaco transaction described
below.
In connection with the start-up of the facility, the Company incurred and
capitalized certain start-up costs aggregating $3.0 million. On April 3, 1998,
Statement of Position Number 98-5, "Reporting on the Costs of Start-Up
Activities" was issued by the American Institute of Certified Public
Accountants, which requires the expensing of the start-up costs when incurred.
Although adoption is not required until fiscal 2000, the Company adopted this
Statement of Position on the first day of fiscal 1999. Accordingly, the Company
recorded a $3.0 million pre-tax charge in its first quarter of fiscal 1999 as a
cumulative effect of a change in accounting principle. This pre-tax charge has
not been offset by a corresponding tax benefit as these expenses relate to the
China Facility which will enjoy a tax holiday for its first three years of
profitable operation. The Company will not report the tax benefits until
realized. Included in selling, general and administrative expenses on the
consolidated statements of earnings for the three and six months ended October
31, 1998 is $650,000 and $950,000 relating to costs incurred for the China
Facility.
On October 28, 1998, the Company entered into a definitive agreement with
Westvaco Corporation to sell to Westvaco a 45% minority interest in its China
Facility. Westvaco is a major producer of paper, paperboard, envelopes,
packaging and specialty chemicals, with manufacturing facilities in the United
States, Brazil and the Czech Republic. The final agreement provides for Westvaco
to pay Shorewood, in cash, 45% of the total costs of the China investment plus
an additional $5 million. Day-to-day management control of the operation will
remain with the Company; however, Shorewood will work closely with Westvaco on
marketing programs and new product development. The gain on the sale will be
recorded upon closing of the transaction, expected to take place before the end
of fiscal 1999.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents at October 31, 1998 was $6.7 million as compared to
$7.3 million at May 2, 1998, and working capital was $36.6 million as compared
to $31.0 million as of the same dates respectively. The current ratio at October
31, 1998 was 1.4 to one and was 1.5 to one at May 2, 1998. The Company has a
cash management program whereby collection of accounts receivable are used to
retire revolver obligations, and payments of accounts payable and accrued
expenses are funded through the revolving credit facility.
Page 16 of 21
17
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
Cash flow from operating activities for the six months ended October 31, 1998
was $28.2 million before changes in operating assets and liabilities as compared
to $26.6 million for the corresponding prior period. Cash flows from operations
as well as borrowings under the Company's credit facilities were used to support
$22.1 million in capital investments. In addition, the Company purchased
approximately $15.9 million of treasury stock under the Board of Directors
authorized program described below. The Company anticipates that capital
expenditures will approximate $35.0 million for all of fiscal 1999 including the
completion of the China Facility. The Company has committed to building a
state-of-the-art manufacturing facility in the city of Guangzhou, China, which
has been completed in October 1998. The Company expects to report initial
revenues in the third quarter of 1998. The facility and related equipment will
require an initial capital investment of approximately $45.0 million, including
working capital, which the Company continues to finance through the Company's
existing credit facility.
Through October 31, 1998, the Company has invested approximately $34.8 million
representing costs associated with the lease of the related land, construction
of the manufacturing facility, purchase of the necessary machinery and equipment
and other expenses associated with the start-up of the facility. The Company
anticipates spending the remaining $10.2 million during the remainder of fiscal
1999 with funds generated from operations as well as the existing credit
facility.
The Company's Board of Directors has authorized the purchase of the Company's
common stock as follows:
DATE OF AUTHORIZATION AUTHORIZED SHARES
--------------------- -----------------
January 1993 3.0 million
December 1995 3.0 million
April 1997 1.86 million
Shares are authorized for purchase from time to time in the open market, subject
to the terms of the Company's credit facility. As of October 31, 1998,
approximately 1.6 million shares remain authorized for purchase.
The Board and management of the Company believe the long-term outlook for the
Company to be promising and that the Company's common stock represents an
attractive investment opportunity. The treasury stock purchases will be made
from time to time as market conditions permit.
In October 1998, in order to facilitate the acquisition of Queens as described
in Note 2 and other global opportunities which may arise over the next several
years, the Company entered into a new credit agreement with its lending banks to
replace its existing credit facility. The new credit facility provides for up to
$325 million of borrowings and consists of a $100 million term loan to be paid
in equal quarterly installments over five years and a $225 million revolving
credit facility maturing at the end of five years. The revolving credit is
available, in its entirety, without any borrowing base limitation. Borrowings
pursuant to the facility will bear interest at the discretion of the Company, at
either the Bank's prime rate (8.0% at October 31, 1998) or at the LIBOR rate
(three month term of 5.22% at October 31, 1998) plus 62.5 to 125 basis points
based upon financial ratios as defined in the underlying Agreement. Initially,
borrowings bear interest at 125 basis points above the LIBOR rate. Unused
commitment fees will range from 20 to 30 basis points (initially 30 basis points
based upon the same financial ratios).
Page 17 of 21
18
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
(CONTINUED)
In connection with the refinancing, the Company recorded a net of tax
extraordinary charge representing the write-off of previously deferred finance
costs incurred in connection with the former credit facility of approximately
$277 thousand.
The loan agreement contains covenants related to levels of debt to cash flow,
current assets to current liabilities, fixed charge coverage, net worth and
investments (including investments in the Company's own common stock), and
restricts the amount of retained earnings available for payment of dividends. At
October 31, 1998, there was approximately $20.7 million of retained earnings
available for the payment of dividends.
The Company expects that cash flow from operations together with the borrowing
capacity under the revolving credit facility will be sufficient to meet the
needs of the business.
RECENT ACCOUNTING PRONOUNCEMENTS
On June 16, 1998, the Financial Accounting Standards Board adopted Statement on
Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities." Adoption of SFAS No. 133 is not required at
this time. The adoption of SFAS 133 is not expected to have a material impact on
the Company's financial statements.
Page 18 of 21
19
SHOREWOOD PACKAGING CORPORATION AND SUBSIDIARIES
Part II
Item 1 LEGAL PROCEEDINGS
Information concerning legal and environmental matters is incorporated by
reference from Part I, Footnotes 5(d) of Notes to Consolidated
Condensed Financial Statements
Item 2 CHANGES IN SECURITIES
None
Item 3 DEFAULTS UPON SENIOR SECURITIES
None
Item 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company's annual meeting of Stockholders was held on September 23,
1998 (the "Meeting"). At the Meeting, the Company's stockholders voted
upon the following matters: (I) The election of two directors
comprising the Class III Directors; (ii) the ratification of proposal
to amend the Company's certificate of incorporation to increase the
number of authorized shares of common stock from 40,000,000 to
60,000,000 (iii) the ratification of proposals to amend the Company's
1995 Performance Bonus Plan; and (iv) the ratification of Deloitte &
Touche LLP as the independent auditors of the Company for the fiscal
year ending May 1, 1999.
The Holders of the Company's common stock voted as a single class on
all matters submitted for a vote at the Meeting. The number of votes
cast for, against or withheld, as well as the number of abstentions, as
to each such matter is set forth below:
ELECTION OF DIRECTORS
-------------------------- ----------------- -------------
NAME FOR WITHHELD
-------------------------- ----------------- -------------
Marc P. Shore 23,164,278 309,022
-------------------------- ----------------- -------------
Howard M. Liebman 23,170,753 302,547
-------------------------- ----------------- -------------
RATIFICATION OF PROPOSAL TO AMEND THE COMPANY'S CERTIFICATE OF
INCORPORATION TO INCREASE THE NUMBER OF AUTHORIZED SHARES FROM
40,000,000 TO 60,000,000
----------------------- ------------------- --------------
FOR AGAINST ABSTAIN
----------------------- ------------------- --------------
23,196,600 268,278 8,422
----------------------- ------------------- --------------
RATIFICATION OF PROPOSALS TO AMEND THE COMPANY'S 1995 PERFORMANCE BONUS
PLAN
----------------------- ------------------- --------------
FOR AGAINST ABSTAIN
----------------------- ------------------- --------------
22,347,716 710,012 415,572
----------------------- ------------------- --------------
Page 19 of 21
20
RATIFICATION OF APPOINTMENT OF DELOITTE & TOUCHE LLP
--------------------- ------------------- ----------------
FOR AGAINST ABSTAIN
--------------------- ------------------- ----------------
23,405,381 6,752 61,167
--------------------- ------------------- ----------------
Item 5 OTHER INFORMATION
None
Item 6 EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.117 -- Purchase and Sale Agreement among SPC (Bermuda) Ltd., SPC
Asia Ltd. and Westvaco Worldwide Distribution SA, dated as of October
16, 1998 in connection with the sale of an interest in the Company's
China Facility. *
10.118 -- Second Amended and Restated Credit Agreement dated as of
October 29, 1998, among Shorewood Packaging Corporation, Shorewood
Corporation of Canada Limited, Nationsbank, N.A., Nationsbank
Montgomery Securities, LLC, The Bank of Nova Scotia, The Chase
Manhattan Bank, The Bank of New York, First Union National Bank,
Societe Generale, ABN AMRO Bank N.V. and Fleet Bank, N.A.
10.119 -- Employment Agreement between Shorewood Packaging Corporation
and Leonard Verebay dated as of October 30, 1998 *
10.120 -- Employment Agreement between Shorewood Packaging Corporation
and Eric Kaltman dated as of October 30, 1998 *
10.121 -- Stockholders and Registration Rights Agreement between
Shorewood Packaging Corporation, Leonard Verebay and Eric Kaltman dated
as of October 30, 1998 *
10.122 -- License Agreement dated as of October 30, 1998 between
Shorewood Packaging Corporation and Queens Group, Inc. *
* Filed previously
(b) Reports on Form 8-K
Form 8-K filed November 16, 1998 related to the acquisition of the
Queens Group, Inc.
Page 20 of 21
21
SIGNATURES
Pursuant to the regulations of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SHOREWOOD PACKAGING CORPORATION
(Registrant)
by: /s/ Howard M. Liebman
-------------------------------------
Howard M. Liebman
President and Chief Financial Officer
Dated: July 23, 1999
Page 21 of 21