AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON AUGUST 7, 1998.
REGISTRATION NO. 333-
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
---------------
AKI HOLDING CORP.
(Exact name of registrant as specified in its charter)
DELAWARE 2799 74-2883163
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer
incorporation or organization) Classification Code Number) Identification Number)
1815 EAST MAIN STREET
CHATTANOOGA, TENNESSEE 37404
(423) 624-3301
(Address, including zip code, and telephone number,
including area code, of registrant's principal executive offices)
KENNETH A. BUDDE
CHIEF FINANCIAL OFFICER
AKI HOLDING CORP.
1815 EAST MAIN STREET
CHATTANOOGA, TENNESSEE 37404
(423) 624-3301
(Name, address, including zip code, and telephone number
including area code, of agent for service)
---------------
COPIES TO:
EDWARD D. SOPHER, ESQ.
AKIN, GUMP, STRAUSS, HAUER & FELD, L.L.P.
590 MADISON AVENUE
NEW YORK, NEW YORK 10022
---------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE OF SECURITIES TO THE
PUBLIC: As soon as practicable after the effective date of this Registration
Statement.
If any of the securities being registered on this Form are to be offered
in connection with the formation of a holding company and there is compliance
with General Instruction G, check the following box. [ ]
---------------
CALCULATION OF REGISTRATION FEE
- ---------------------------------------------------------------------------------------------------------------------------
PROPOSED
PROPOSED MAXIMUM
MAXIMUM AGGREGATE AMOUNT OF
TITLE OF EACH CLASS OF AMOUNT TO BE OFFERING PRICE OFFERING REGISTRATION
SECURITIES TO BE REGISTERED REGISTERED PER UNIT (1) PRICE (1) FEE
- ---------------------------------------------------------------------------------------------------------------------------
13 1/2% Senior Discount Debentures Due 2009 ......... $50,000,000 100% $26,384,505 $7,783
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(1) Based on Accreted Value as of August 7, 1998.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT
SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION,
ACTING PURSUANT TO SAID SECTION 8(A), MAY DETERMINE.
- --------------------------------------------------------------------------------
EXPLANATORY NOTE
This Registration Statement covers the registration of an aggregate
principal amount of $50,000,000 of 13 1/2% Senior Discount Debentures due 2009
(the "New Debentures") of AKI Holding Corp. ("Holding") that may be exchanged
for equal principal amounts of Holding's outstanding 13 1/2% Senior Discount
Debentures due 2009 (the "Old Debentures") (the "Exchange Offer"). This
exchange offer registration statement (the "Exchange Offer Registration
Statement") also covers the registration of the New Debentures for resale by
Donaldson, Lufkin & Jenrette Securities Corporation in market-making
transactions. The complete Prospectus relating to the Exchange Offer (the
"Exchange Offer Prospectus") follows immediately after this Explanatory Note.
Following the Exchange Offer Prospectus are certain pages of the Prospectus
relating solely to such market-making transactions (the "Market-Making
Prospectus"), including alternate front and back cover pages, an alternate
"Available Information" section, a section entitled "Risk Factors--Trading
Market for the New Debentures" to be used in lieu of the section entitled "Risk
Factors--No Public Market for the New Debentures," a new section entitled "Use
of Proceeds" and alternate sections entitled "Certain U.S. Federal Income Tax
Considerations for Non-U.S. Holders" and "Plan of Distribution." In addition,
the Market-Making Prospectus will not include the following captions (or the
information set forth under such captions) in the Exchange Offer Prospectus:
"Prospectus Summary--Summary of Terms of the Exchange Offer," "Risk Factors--
Consequences of the Exchange Offer on Non-Tendering Holder of the Old
Debentures" and "The Exchange Offer." All other sections of the Exchange Offer
Prospectus will be included in the Market-Making Prospectus.
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF ANY OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO ANY REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY STATE.
SUBJECT TO COMPLETION DATED , 1998
PROSPECTUS
OFFER TO EXCHANGE
13 1/2% NEW SENIOR DISCOUNT DEBENTURES DUE 2009 FOR UP TO $50,000,000
IN PRINCIPAL AMOUNT OUTSTANDING
13 1/2% SENIOR DISCOUNT DEBENTURES DUE 2009
OF
AKI HOLDING CORP.
-----------------
THE EXCHANGE OFFER WILL EXPIRE AT 5:00 P.M., NEW YORK CITY TIME,
ON , 1998, UNLESS EXTENDED
AKI Holding Corp., a Delaware corporation ("Holding"), hereby offers, upon
the terms and subject to the conditions set forth in this Prospectus and the
accompanying letter of transmittal (the "Letter of Transmittal," and together
with this Prospectus, the "Exchange Offer"), to exchange $1,000 principal
amount of its New 13 1/2% Senior Discount Debentures due 2009 (the "New
Debentures") for each $1,000 principal amount of the outstanding 13 1/2% Senior
Discount Debentures due 2009 (the "Old Debentures") of Holding, of which $50.0
million principal amount is outstanding from the holders thereof (the
"Holders"). The New Debentures will be obligations of Holding issued pursuant
to the Indenture under which the Old Debentures were issued (the "Indenture").
The form and terms of the New Debentures are the same as the form and terms of
the Old Debentures except that (i) the New Debentures will have been registered
under the Securities Act of 1933, as amended (the "Securities Act"), pursuant
to an Exchange Offer Registration Statement (as defined herein) of which this
Prospectus is a part, and thus will not bear legends restricting their transfer
pursuant to the Securities Act, (ii) Holders of the New Debentures will not be
entitled to certain rights of Holders of the Old Debentures under the
Registration Rights Agreement (as defined herein) which rights will terminate
upon the consummation of the Exchange Offer and (iii) for certain contingent
Liquidated Damages provisions. See "The Exchange Offer." The New Debentures and
the Old Debentures are collectively referred to herein as the "Debentures."
The New Debentures will mature on July 1, 2009. The New Debentures will be
issued at a substantial discount from their principal amount. The New
Debentures will accrete at a rate of 13 1/2%, compounded semi-annually to an
aggregate principal amount of $50.0 million at July 1, 2003. Thereafter, the
New Debentures will accrete interest at the rate of 13 1/2% per annum, payable
semi-annually on January 1 and July 1 of each year, commencing on January 1,
2004. The New Debentures will be redeemable at the option of Holding, in whole
or in part, at anytime on or after July 1, 2003, in cash at the redemption
prices set forth herein, plus accrued and unpaid interest and Liquidated
Damages (as defined herein), if any, thereon to the date of redemption. In
addition, at any time prior to July 1, 2001, Holding may on any one or more
occasions redeem up to 35% of the aggregate principal amount of New Debentures
originally issued at a redemption price equal to 113.5% of the Accreted Value
(as defined herein) thereof on the date of redemption, plus Liquidated Damages,
if any, to the redemption date, with the net cash proceeds of one or more
Public Equity Offerings (as defined herein); provided that at least 65% of the
aggregate principal amount of New Debentures originally issued remains
outstanding immediately after the occurrence of any such redemption. See
"Description of New Debentures--Optional Redemption." In addition, upon the
occurrence of a Change of Control (as defined herein), each holder of
Debentures will have the right to require Holding to repurchase all or any part
of such Holder's Debentures at an offer price in cash equal to 101% of the
Accreted Value thereof on the date of repurchase (if such date of repurchase is
prior to July 1, 2003) or 101% of the aggregate principal amount thereof (if
such date of repurchase is on or after July 1, 2003), plus, in each case,
accrued and unpaid interest and Liquidated Damages, if any, thereon to the date
of repurchase. See "Description of New Debentures--Repurchase at the Option of
Holders--Change of Control." There can be no assurance that, in the event of a
Change of Control, Holding would have sufficient funds to purchase all
Debentures tendered. See "Risk Factors--Limitations on Ability to Make Change
of Control Payment."
(Continued on next page)
----------------
SEE "RISK FACTORS" BEGINNING ON PAGE 14 OF THIS PROSPECTUS FOR A
DISCUSSION OF CERTAIN FACTORS THAT SHOULD BE CONSIDERED BY HOLDERS PRIOR TO
TENDERING THEIR OLD DEBENTURES IN THE EXCHANGE OFFER.
----------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THE PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
The date of this Prospectus is , 1998
The New Debentures will be general unsecured obligations of Holding, will
rank pari passu in right of payment to all existing and future senior unsecured
indebtedness of Holding and will rank senior in right of payment to all
existing and future subordinated indebtedness of Holding. The New Debentures,
however, will be (i) effectively subordinated to all secured obligations of
Holding, to the extent of the assets securing such obligations and (ii)
structurally subordinated to all obligations of Holding's subsidiaries. As of
March 31,1998, on a pro forma basis, after giving effect to the Refinancing (as
defined herein) and the consummation of the 3M Acquisition (as defined herein),
Holding would have had no outstanding secured obligations and Holding's
subsidiaries would have had $122.9 million of outstanding liabilities
(including trade payables.)
The New Debentures are being offered hereunder in order to satisfy certain
obligations of Holding contained in the Registration Rights Agreement. The Old
Debentures were originally issued and sold on June 25, 1998 in transactions not
registered under the Securities Act in reliance upon the exemption provided in
Section 4(2) of the Securities Act. Accordingly, the Old Debentures may not be
reoffered, resold or otherwise pledged, hypothecated or transferred in the
United States unless so registered or unless an applicable exemption from the
requirements of the Securities Act is available. Based upon interpretations by
the staff of the Securities and Exchange Commission (the "Commission") set
forth in no-action letters issued to unrelated third parties, Holding believes
that New Debentures issued pursuant to the Exchange Offer in exchange for Old
Debentures may be offered for resale, resold and otherwise transferred by a
Holder thereof (other than a "Restricted Holder," being (i) a broker-dealer who
purchases such Old Debentures directly from Holding to resell pursuant to Rule
144A or any other available exemption under the Securities Act or (ii) a person
that is an affiliate of Holding within the meaning of Rule 405 under the
Securities Act), without compliance with the registration and prospectus
delivery provisions of the Securities Act, provided that the Holder is
acquiring the New Debentures in the ordinary course of its business and is not
participating, does not intend to participate and has no arrangement or
understanding with any person to participate, in a distribution of the New
Debentures. Eligible Holders wishing to accept the Exchange Offer must
represent to Holding that such conditions have been met. Each broker-dealer
that receives New Debentures for its own account pursuant to the Exchange Offer
must acknowledge that it will deliver a prospectus in connection with any
resale of such New Debentures. The Letter of Transmittal relating the Exchange
Offer states that by so acknowledging and by delivering a prospectus, a
broker-dealer will not be deemed to admit that it is an "underwriter" within
the meaning of the Securities Act. This Prospectus, as it may be amended or
supplemented from time to time, may be used by a broker-dealer in connection
with resales of New Debentures received in exchange for Old Debentures where
such Old Debentures were acquired by such broker-dealer as a result of
market-making activities or other trading activities. Holding has agreed that
it will make this Prospectus available to any broker-dealer for use in
connection with any such resale for a period from the date of this Prospectus
until 180 days after the consummation of the Exchange Offer, or such shorter
period as will terminate when all Old Debentures acquired by broker-dealers for
their own accounts as a result of market-making activities or other trading
activities have been exchanged for New Debentures and resold by such
broker-dealers. See "The Exchange Offer" and "Plan of Distribution."
Any Old Debentures not tendered and accepted in the Exchange Offer will
remain outstanding. To the extent that Old Debentures are tendered and accepted
in the Exchange Offer, a holder's ability to sell untendered Old Debentures
could be adversely affected. Following consummation of the Exchange Offer, the
holders of Old Debentures will continue to be subject to the existing
restrictions on transfer thereof and Holding will have no further obligation to
such holders to provide for the registration under the Securities Act of the
Old Debentures. See "Risk Factors--Consequences of Exchange Offer on
Non-Tendering Holders of the Old Debentures."
Prior to the Exchange Offer, there has been only a limited secondary
market and no public market for the Old Debentures. If a market for the New
Debentures should develop, the New Debentures could trade at a discount from
their principal amount. Holding does not intend to list the New Debentures on a
national securities exchange or to apply for quotation of the New Debentures
through the National Association of Securities Dealers Automated Quotation
System. Accordingly, there can be no assurance as to the development or
liquidity of any public market for the New Debentures. Holding has been
i
advised by the Initial Purchaser (as defined herein) that the Initial Purchaser
intends to make a market for the New Debentures. However, the Initial Purchaser
is not obligated to do so and any market-making activities with respect to the
New Debentures may be discontinued at any time without notice. See "Risk
Factors--No Public Market for the Debentures" and "Plan of Distribution."
Holding will not receive any proceeds from the Exchange Offer. See "Use of
Proceeds." Holding will accept for exchange any and all Old Debentures that are
validly tendered on or prior to 5:00 p.m. New York City time, on the date the
Exchange Offer expires, which will be , 1998, unless the Exchange Offer
is extended (the "Expiration Date"). The exchange of New Debentures for Old
Debentures will be made promptly following the Expiration Date. Tenders of Old
Debentures may be withdrawn at any time prior to 5:00 p.m., New York City time,
on the Expiration Date, unless previously accepted for exchange. The Exchange
Offer is not conditioned upon any minimum principal amount of Old Debentures
being tendered for exchange. However, the Exchange Offer is subject to certain
conditions which may be waived by Holding. See "The Exchange Offer." Holding
has agreed to pay the expenses of the Exchange Offer (which shall not include
the expenses of any Holder of the Debentures in connection with resales of the
New Debentures).
Old Debentures initially purchased by qualified institutional buyers were
initially represented by a single, global Note in registered form, registered
in the name of a nominee of The Depository Trust Company ("DTC"), as
depository. The New Debentures exchanged for Old Debentures represented by the
global Debentures will be represented by one or more global New Debentures in
registered form, registered in the name of the nominee of DTC. New Debentures
in global form will trade in DTC's Same-Day Funds Settlement System, and
secondary market trading activity in such New Debentures will therefore settle
in immediately available funds. See "Description of New Debentures--Form,
Denomination and Book-Entry Procedures."
----------------
THE EXCHANGE OFFER IS NOT BEING MADE TO, NOR WILL HOLDING ACCEPT
SURRENDERS FOR EXCHANGE FROM, HOLDERS OF OLD DEBENTURES IN ANY JURISDICTION IN
WHICH THE EXCHANGE OFFER OR THE ACCEPTANCE THEREOF WOULD NOT BE IN COMPLIANCE
WITH THE SECURITIES OR BLUE SKY LAWS OF SUCH JURISDICTION.
----------------
NO DEALER, SALESPERSON, OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS NOT CONTAINED IN THIS PROSPECTUS IN
CONNECTION WITH THIS EXCHANGE OFFER COVERED BY THIS PROSPECTUS OR THE
ACCOMPANYING LETTER OF TRANSMITTAL. IF GIVEN OR MADE, SUCH INFORMATION OR
REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY HOLDING.
THIS PROSPECTUS AND THE ACCOMPANYING LETTER OR TRANSMITTAL DOES NOT CONSTITUTE
AN OFFER TO SELL, OR A SOLICITATION OF AN OFFER TO BUY, THE EXCHANGE NOTES IN
ANY JURISDICTION WHERE, OR TO ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE SUCH AN
OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS OR THE
ACCOMPANYING LETTER OF TRANSMITTAL, NOR ANY SALE MADE HEREUNDER SHALL, UNDER
ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS NOT BEEN ANY CHANGE IN
THE FACTS SET FORTH IN THIS PROSPECTUS OR IN THE AFFAIRS OF HOLDING SINCE THE
DATE HEREOF.
ii
----------------
AVAILABLE INFORMATION
Holding has filed with the Commission a Registration Statement on Form S-4
(the "Exchange Offer Registration Statement") under the Securities Act with
respect to the New Debentures being offered by this Prospectus. This Prospectus
does not contain all of the information set forth in the Exchange Offer
Registration Statement and the exhibits and schedules thereto, certain portions
of which have been omitted pursuant to the rules and regulations of the
Commission. Statements made in this Prospectus as to the contents of any
contract, agreement or other document are not necessarily complete. With
respect to each such contract, agreement or other document filed or
incorporated by reference as an exhibit to the Exchange Offer Registration
Statement, reference is made to such exhibit for a more complete description of
the matter involved, and each such statement is qualified in its entirety by
such reference.
The Exchange Offer Registration Statement and the exhibits and schedules
thereto may be inspected and copied at the public reference facilities
maintained by the Commission at Room 1024, Judiciary Plaza, 450 Fifth Street,
N.W., Washington, D.C. 20549 and will also be available for inspection and
copying at the regional offices of the Commission located at 7 World Trade
Center, New York, New York 10048 and at 500 West Madison Street (Suite 1400),
Chicago, Illinois 60661. Copies of such material may also be obtained from the
Public Reference Section of the Commission at 450 Fifth Street, N.W.,
Washington, D.C. 20549 at prescribed rates. The Commission maintains a web site
(http://www.sec.gov) that contains reports, proxy statements and other
information regarding registrants that file electronically with the Commission.
Under the terms of the Indenture pursuant to which the Old Debentures were, and
the New Debentures will be issued, Holding has agreed that, whether or not it
is required to do so by the rules and regulations of the Commission, for so
long as any of the Debentures remain outstanding, it will furnish to the
Trustee and Holders of the Debentures and file with the Commission (unless the
Commission will not accept such a filing) (i) all quarterly and annual
financial information that would be required to be contained in such a filing
with the Commission on Forms 10-Q and 10-K if Holding was required to file such
forms, including a "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and, with respect to the annual information only, a
report thereon by Holding's certified independent public accountants and (ii)
all reports that would be required to be filed with the Commission on Form 8-K
if Holding was required to file such reports. Following the consummation of the
Exchange Offer, Holding has agreed to make such information available to the
Trustee, securities analysts and prospective investors upon request. In
addition, for so long as any of the Debentures remain outstanding, Holding has
agreed to make available to any prospective purchaser of the Debentures or
Holder of the Debentures in connection with any sale thereof, the information
required by Rule 144A(d)(4) under the Securities Act.
iii
------------
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS
The information herein contains forward-looking statements that involve a
number of risks and uncertainties. A number of factors could cause actual
results, performance, achievements of Holding, or industry results to be
materially different from any future results, performance or achievements
expressed or implied by such forward-looking statements. These factors include,
but are not limited to: the competitive environment in the sampling industry in
general and in Holding's specific market areas; changes in prevailing interest
rates; inflation; changes in costs of goods and services; economic conditions
in general and in Holding's specific market areas; changes in or failure to
comply with postal regulations or other federal, state and/or local government
regulations; liability and other claims asserted against the Company; changes
in operating strategy or development plans; the ability of Holding to
effectively implement its cost reduction program; the ability to attract and
retain qualified personnel; the significant indebtedness of Holding; labor
disturbances; changes in Holding's capital expenditure plans; and other factors
referenced herein. In addition, such forward-looking statements are necessarily
dependent upon assumptions, estimates and dates that may be incorrect or
imprecise and involve known and unknown risks, uncertainties and other factors.
Accordingly, any forward-looking statements included herein do not purport to
be predictions of future events or circumstances and may not be realized.
Forward-looking statements can be identified by, among other things, the use of
forward-looking terminology such as "believes," "expects," "may," "will,"
"should," "seeks," "pro forma," "anticipates," "intends" or the negative of any
thereof, or other variations thereon or comparable terminology, or by
discussions of strategy or intentions. Given these uncertainties, Holders of
Debentures are cautioned not to place undue reliance on such forward-looking
statements. Holding disclaims any obligations to update any such factors or to
publicly announce the results of any revisions to any of the forward-looking
statements contained herein to reflect future events or developments.
iv
PROSPECTUS SUMMARY
The following summary does not purport to be complete and is qualified in
its entirety by the more detailed information and Consolidated Financial
Statements of the Company, together with the notes thereto, contained elsewhere
herein. Unless the context otherwise requires, all references herein to (i)
"Acquisition Corp." shall mean AHC I Acquisition Corp., (ii) "Holding" shall
mean AKI Holding Corp., a wholly-owned subsidiary of Acquisition Corp., (iii)
the "Company" shall mean AKI, Inc., a wholly-owned subsidiary of Holding, and
its predecessors and subsidiaries and (iv) the "Offering" or the "Debenture
Offering" shall mean the offering of the Old Debentures. Prior to commencement
of the Offering, Acquisition Corp. contributed all of its ownership interest in
the Company to Holding and all financial information contained herein gives
effect to such contribution. As used herein, the terms "Fiscal 1995," "Fiscal
1996" and "Fiscal 1997" when used with respect to the Company refer to the
Company's fiscal years ended June 30, 1995, 1996 and 1997, respectively, the
term "Interim 1997 Period" refers to the Company's nine months ended March 31,
1997 and the term "Interim 1998 Period" refers to the Company's nine months
ended March 31, 1998, which includes the period prior to the acquisition of the
Company by Acquisition Corp. on December 15, 1997.
HOLDING
Holding is a holding company whose only asset is all of the capital stock
of the Company. Holding conducts all of its business through the Company.
THE COMPANY
The Company is the leading global marketer and manufacturer of cosmetics
sampling products, including fragrance, skin care and makeup samplers. The
Company produces a range of proprietary and patented product samplers that can
be incorporated into various print media principally designed to reach the
consumer in the home, such as magazine inserts, catalog inserts, remittance
envelopes, statement enclosures and blow-ins. The Company is the only sampling
company positioned to provide complete marketing and sampling programs to its
customers, including creative content and sample production and distribution.
The Company's customers include most of the world's largest cosmetics
companies, such as Calvin Klein Cosmetics (Unilever Plc), Chanel, Inc.,
Christian Dior Perfumes Inc., Coty Inc., Elizabeth Arden (Unilever Plc), Estee
Lauder, Inc., Giorgio Beverly Hills (The Procter & Gamble Company), L'Oreal
S.A./Cosmair, Inc., Revlon, Inc. and Sanofi Beaute, Inc.
Sampling is one of the most effective and widely used promotional
practices for consumer products. Product sampling expenditures have increased
faster than any other form of consumer promotional expenditure from 1992 to
1996, the last year for which data is available. Product sampling is
particularly critical to the cosmetics industries, where consumers generally
must try products prior to purchase because of their uniquely personal nature.
The Company's introduction in 1979 of the ScentStrip (Registered Trademark)
sampler, the first pull-apart microencapsulated fragrance sampler, transformed
the fragrance industry by providing the first cost-effective means to reach
consumers in their homes on a mass scale by combining advertising and product
sampling. All of the Company's sampling products are approved by the U.S.
Postal Service for inclusion in subscription magazines at periodical postage
rates, which is a more cost-effective means of reaching consumers than
alternatives such as direct mail or newsstand magazine distribution. While the
Company's ScentStrip sampler remains the most widely used technology in the
sampling industry, the Company continues to be the leading innovator in the
sampling industry through its development of alternative sampling technologies,
all of which are designed for cost-effective mass distribution.
In recent years, the Company has complemented its fragrance sampling
business by focusing its research and development efforts on new product
technologies and sampling solutions for the skin care, makeup and consumer
products markets. While product sampling is critical to the success of these
products, sampling programs for these products have been constrained
historically by the characteristics
1
of the available sampling alternatives. Most sampling programs have consisted
of relatively limited in-store or direct mail efforts because existing samples
have been too costly to produce in mass quantities and have been incapable of
being efficiently incorporated into magazines, catalogs and other print
advertising. Since June 1997, the Company has introduced three innovative
product sampling technologies to address this need, providing the first
cost-effective means to reach consumers in their homes on a mass scale with
samples of these products. Management believes these new technologies have
fundamentally altered the economics and efficiencies of product sampling in
these markets. Existing customers such as Chanel, Christian Dior, Estee Lauder,
L'Oreal/Cosmair and Revlon have utilized these new technologies in sampling
programs for their cosmetics products, such as skin care and liquid makeup. The
Company has also created and produced initial sampling programs for new
consumer products customers.
On June 22, 1998, the Company acquired (the "3M Acquisition") the
fragrance sampling business of the Industrial and Consumer Products division of
Minnesota Mining and Manufacturing Company ("3M") for approximately $7.25
million in cash and the assumption of certain liabilities. The Company intends
to relocate all of the business operations acquired in the 3M Acquisition to
its existing facilities to utilize current excess capacity at such facilities.
Management believes that in order to properly service the incremental sales
volume associated with the 3M Acquisition, several additional sales, marketing
and administrative employees will be hired. However, the Company believes that
due to the similarity of its existing customers and 3M's existing customers, no
other additional employee hiring will be required as a result of the 3M
Acquisition.
COMPETITIVE ADVANTAGES
Founded in 1902 as a printing company, the Company has been the market
leader in fragrance sampling since its introduction of the ScentStrip sampler
almost two decades ago and has recently expanded the application of its
sampling technologies to new markets. Management believes that the Company has
significant competitive advantages compared to other sampling companies:
o Full product line. The Company is unique in the breadth of its product
line, which includes a full range of fragrance sampling products and
innovative new technologies for sampling skin care and makeup products.
The Company offers nine distinct sampling products, while none of the
Company's major competitors offers more than three sampling technologies.
Although most major cosmetics companies generate significant revenues in
each of the fragrance, makeup and skin care categories, the Company is the
only sampling provider that offers sampling products for all such
categories of products.
o Technological leadership. The Company is the technological leader in the
cosmetics sampling industry, and has introduced almost every major
fragrance sampling technology to the market since its introduction of the
ScentStrip sampler in 1979. Management believes that its product
development program is the largest and most effective in the cosmetics
sampling industry. Over the past three years, the Company's increased
emphasis on new product research and development has expanded the size of
the potential sampling market through the introduction of new
technologies, such as BeautiSeal (Trade Mark) , LiquaTouch (Trade Mark)
and PowdaTouch (Trade Mark) samplers, which target the skin care and
makeup categories. Seven of the Company's nine major sampling technologies
are patented or have patents pending, and all are approved by the U.S.
Postal Service for inclusion in subscription magazines. Competing sampling
technologies that are not approved for inclusion in subscription magazines
are more expensive to mass distribute. In addition, the Company has
developed certain proprietary manufacturing techniques that management
believes provide the Company with a competitive advantage.
o Low cost, highest quality producer. The Company is the most vertically
integrated manufacturing company in the sampling industry as all of its
major competitors source all or part of their products from third-party
manufacturers. Management believes that the Company's high degree of
vertical integration, together with the high volume resulting from the
Company's market share position, provides the Company with certain cost
and quality advantages. In addition, unlike some of its
2
major competitors, which are divisions of large companies, management
believes that the Company's focus on the product sampling industry allows
it to produce the highest quality product offering in the industry.
Management believes this focus on quality is a competitive advantage
because the Company's customers are reluctant to jeopardize an expensive
product launch by using an unproven sampling source that may not provide
consumers with an accurate first exposure to a sampled product.
o Strong customer relationships. More than 75% of Fiscal 1997 net sales
were generated by sales to customers that have been doing business with
the Company for the past five years or longer. The Company is proactive in
proposing innovative campaigns and sampling solutions, which result in
strong relationships with its customers. The Company has long-standing
relationships with the key marketing, purchasing and technical executives
at most of the world's leading cosmetics companies. It has also developed
relationships with flavor and fragrance companies, media companies and
leading retailers servicing the cosmetics industry.
o Superior customer service. Managing sampling programs is highly service
intensive and the Company has the most experienced customer service
representatives in the industry. As cosmetics companies seek to streamline
their purchasing operations, the Company's ability to provide complete
marketing and sampling programs is becoming increasingly important.
Management believes that the Company's ability to provide excellent
customer service is a competitive advantage for the Company, particularly
with regard to department store sampling programs, such as catalog
inserts, billing enclosures and remittance envelopes, which require
significant coordination with individual retailers.
o Sole global provider. The Company is the only sampling company to
provide local sales, service and production capabilities on a global
basis. The major cosmetics companies are increasingly global, and the
Company's ability to service these customers in Europe, the United States
and Southeast Asia is becoming increasingly important. The Company
currently has sales offices in New York, San Francisco, Paris, France and
London, England and sales agents in Sydney, Australia and Caracas,
Venezuela. In addition, the Company has third-party manufacturing
capabilities in Europe and Australia to complement its established
domestic manufacturing operations.
BUSINESS STRATEGY
Management's goal is to enhance the Company's position as the leading
global marketer and manufacturer of cosmetics sampling products and position
itself for growth in the consumer products sampling market, while increasing
its profitability. To achieve this goal, management is pursuing a strategy
based on the following elements:
o Leverage existing customer relationships to expand into new cosmetics
categories. Almost all of the Company's sales have historically been in
the fragrance category, but for many of the Company's cosmetics customers,
fragrance represents a small portion of their total sales. Management
estimates that skin care and makeup sales account for approximately
two-thirds of all cosmetics industry sales, while sampling for such
products accounts for less than one-fourth of all cosmetics sampling
units. Historically, most skin care and makeup sampling programs have
consisted of relatively limited in-store or direct mail efforts because
existing samples have been too costly to produce in mass quantities and
too expensive to incorporate into subscription magazines and other forms
of distribution. Since June 1997, the Company has introduced three
innovative product sampling technologies for the makeup and skin care
categories, which provide a cost effective means to reach consumers in
their homes. Management believes that these innovative new technologies,
together with its established cosmetics industry customer relationships,
position the Company for future growth in this area.
o Penetrate the consumer products market. Management believes that the
Company has significant opportunities to increase its existing sampling
business by applying its cost-effective sampling
3
technologies to new end-user categories within the consumer products
market. The consumer products market is significantly larger than the
Company's traditional fragrance market.
o Continue implementation of cost reduction program. The Company is
implementing a comprehensive program to reduce annual operating costs by
approximately $4.0 million. The comprehensive cost reduction program was
developed by the Company in connection with an evaluation of its
operations conducted by manufacturing consultants with significant
experience in the printing industry and is designed to improve the
Company's operating efficiency through (i) reduced materials cost derived
from scrap/waste reduction and from more effective purchasing, (ii)
streamlined manufacturing processes that reduce the amount of time
required to prepare for successive manufacturing jobs utilizing the same
equipment and (iii) rationalized staffing in the product support area.
Management expects the benefit of the materials cost reductions and
rationalized staffing will begin to be realized in the short term, while
the benefits of a streamlined manufacturing process are expected to be
realized incrementally through June 1999.
o Increase international sales. Since reacquiring its European license
with respect to its sampling technologies in August 1994, the Company has
significantly increased revenues from European customers and is the
leading fragrance sampling company in Europe. Management estimates that
the fragrance sampling industry in Europe is only approximately 20% of the
size of the fragrance sampling industry in the United States, even though
the size of the fragrance markets in Europe and the United States are
comparable. Management believes that European cosmetics companies have
preferred fragrance renditions that contain alcohol rather than
microencapsulated renditions. Given product innovations such as the
Company's Scent Seal (Registered Trademark) and LiquaTouch samplers
(which are alcohol-based sampling systems), the increasing globalization
of the cosmetics industry and the success of sampling techniques in the
U.S. market, management believes that the use of sampling will continue to
become more widespread in Europe.
4
THE TRANSACTIONS
THE ACQUISITION
DLJ Merchant Banking Partners II, L.P. and certain related investors
(collectively, "DLJMBII") and certain members of the Company's management
organized Acquisition Corp. in connection with the December 15, 1997
acquisition (the "Acquisition") of all the outstanding equity interests of the
Company. The total cost of the Acquisition (including related fees and
expenses) was approximately $205.7 million. Non-cash costs of the Acquisition
totaling approximately $6.2 million were funded by (i) the assumption of the
Scent Seal Note (as defined) and certain capital lease obligations and (ii) the
rollover of equity interests in the Company by the Company's Chief Executive
Officer. See "Description of Certain Indebtedness." To provide the cash
necessary to fund the Acquisition, including the equity purchase price and the
retirement of all existing preferred stock and debt of the Company not assumed,
(i) the Company issued $123.5 million in Senior Increasing Rate Notes (the
"Bridge Notes") to an affiliate of DLJMBII and the Initial Purchaser and (ii)
Acquisition Corp. received $76.0 million from debt and equity (common and
preferred) financings, including equity investments by the Company's Chief
Executive Officer and certain other prior stockholders. As of June 22, 1998,
(i) DLJMBII held an aggregate of approximately 81.3% of the outstanding common
stock of Acquisition Corp. and (ii) the Company's Chief Executive Officer held
an aggregate of approximately 12.1% of the outstanding common stock of
Acquisition Corp. See "Risk Factors--Control by DLJMBII," "Security Ownership
of Certain Beneficial Owners and Management" and "The Acquisition." Acquisition
Corp. has adopted a stock option plan for management of Acquisition Corp.,
Holding and the Company and granted options thereunder to the Company's Chief
Executive Officer. See "Management--Equity-Based Compensation."
3M ACQUISITION
On June 22, 1998, the Company acquired (the "3M Acquisition") the
fragrance sampling business of the Industrial and Consumer Products division of
Minnesota Mining and Manufacturing Company ("3M"). The Company intends to
relocate all of the business operations acquired in the 3M Acquisition to its
existing facilities to utilize current excess capacity at such facilities.
Management believes that in order to properly service the incremental sales
volume associated with the 3M Acquisition, several additional sales, marketing
and administrative employees will be hired. However, the Company believes that
due to the similarity of its existing customers and 3M's existing customers, no
other additional employee hiring will be required as a result of the 3M
Acquisition.
THE OFFERINGS
On June 25, 1998, Holding consummated the Debenture Offering. The Old
Debentures were sold pursuant to exemptions from, or in transactions not
subject to, the registration requirements of the Securities Act. In addition,
on June 25, 1998, the Company issued and sold $115,000,000 in aggregate
principal amount at maturity of notes (the "Notes") (the "Note Offering"). The
Notes were sold pursuant to exemptions from, or in transactions not subject to,
the registration requirements of the Securities Act. The consummation of the
Debenture Offering occurred concurrently with and was conditioned upon, the
consummation of the Note Offering.
5
SUMMARY OF TERMS OF THE EXCHANGE OFFER
The Exchange Offer relates to the exchange of up to $50,000,000 aggregate
principal amount of Old Debentures for up to an equal aggregate principal
amount of New Debentures. The form and terms of the New Debentures are
identical in all material respects to the form and terms of the Old Debentures
except (i) that the New Debentures have been registered under the Securities
Act, (ii) that the New Debentures are not entitled to certain registration
rights which are applicable to the Old Debentures under the Registration Rights
Agreement and (iii) for certain contingent Liquidated Damages provisions. The
Old Debentures and the New Debentures are collectively referred to herein as
the "Debentures." See "Description of New Debentures."
THE EXCHANGE OFFER.......... $1,000 principal amount of New Debentures will
be issued in exchange for each $1,000 principal
amount of Old Debentures validly tendered
pursuant to the Exchange Offer. The exchange of
New Debentures for Old Debentures will be made
with respect to all Old Debentures validly
tendered and not withdrawn on or prior to the
Expiration Date promptly following the Expiration
Date. As of , 1998, the Accreted Value of
the Old Debentures was $ .
RESALE...................... Based on interpretations by the staff of the
Commission set forth in no-action letters issued
to unrelated third parties, Holding believes that
New Debentures issued pursuant to the Exchange
Offer in exchange for Old Debentures may be
offered for resale and resold or otherwise
transferred by Holders thereof (other than any
Restricted Holder) without compliance with the
registration and prospectus delivery provisions
of the Securities Act, provided that such New
Debentures are acquired in the ordinary course of
such Holders' business and such Holders are not
participating, do not intend to participate and
have no arrangement or understanding with any
person to participate in a distribution of such
New Debentures. See "K-III Communications
Corporation," SEC No-Action Letter (available May
14, 1993); "Morgan Stanley & Co., Incorporated,"
SEC No-Action Letter (available June 5, 1991);
and "Exxon Capital Holdings Corporation," SEC
No-Action Letter (available May 13, 1988). Each
broker-dealer that receives New Debentures for
its own account in exchange for Old Debentures,
where such Old Debentures were acquired by such
broker-dealer as a result of market-making
activities or other trading activities, must
acknowledge that it will deliver a prospectus in
connection with any resale of such New
Debentures. See "The Exchange Offer" and "Plan of
Distribution."
If any person were to participate in the
Exchange Offer for the purpose of distributing
securities in a manner not permitted by the
preceding paragraph, such person could not rely
on the position of the staff of the Commission
and must comply with the prospectus delivery
requirements of the Securities Act in connection
with a secondary resale transaction. Therefore,
each holder of Old Debentures who accepts the
Exchange Offer must represent in the Letter of
Transmittal that it meets the conditions
described above. See "The Exchange Offer--Purpose
and Effects of the Exchange Offer."
6
EXPIRATION DATE............. 5:00 p.m., New York City time, on , 1998
unless the Exchange Offer is extended, in which
case the term "Expiration Date" means the latest
date and time to which the Exchange Offer is
extended. See "The Exchange Offer--Expiration
Date; Extensions; Amendments."
CONDITIONS TO THE
EXCHANGE OFFER............... The Exchange Offer is subject to certain
customary conditions, which may be waived by
Holding in whole or in part and from time to time
in its sole discretion. See "The Exchange Offer--
Conditions." The Exchange Offer is not
conditioned upon any minimum aggregate principal
amount of Old Debentures being tendered for
exchange.
PROCEDURE FOR TENDERING OLD
DEBENTURES.................. Each Holder of Old Debentures wishing to accept
the Exchange Offer must complete, sign and date
the Letter of Transmittal, or a facsimile
thereof, in accordance with the instructions
contained herein and therein, and mail or
otherwise deliver such Letter of Transmittal, or
such facsimile, together with the Old Debentures
(unless such tender is being effected pursuant to
the procedures for book-entry transfer described
below) to be exchanged and any other required
documentation to the Exchange Agent (as defined
herein) at the address set forth herein and
therein. See "The Exchange Offer--Procedure for
Tendering."
SPECIAL PROCEDURES FOR
BENEFICIAL OWNERS........... Any beneficial owner whose Old Debentures are
registered in the name of a broker, dealer,
commercial bank, trust company or other nominee
and who wishes to tender in the Exchange Offer
should contact such registered Holder promptly
and instruct such registered holder to tender on
such beneficial owner's behalf. If such
beneficial owner wishes to tender on his own
behalf, such beneficial owner must, prior to
completing and executing the Letter of
Transmittal and delivering his Old Debentures,
either make appropriate arrangements to register
ownership of the Old Debentures in such Holder's
name or obtain a properly completed bond power
from the registered Holder. The transfer of
record ownership may take considerable time and
may not be able to be completed prior to the
Expiration Date. See "The Exchange
Offer--Procedure for Tendering."
GUARANTEED DELIVERY
PROCEDURES................... Holders of Old Debentures who wish to tender
their Old Debentures and whose Old Debentures are
not immediately available or who cannot deliver
their Old Debentures, the Letter of Transmittal
or any other documents required by the Letter of
Transmittal to the Exchange Agent prior to the
Expiration Date must tender their Old Debentures
according to the guaranteed delivery procedures
set forth in "The Exchange Offer--Guaranteed
Delivery Procedures."
7
WITHDRAWAL RIGHTS........... Tenders of Old Debentures may be withdrawn at
any time prior to 5:00 p.m., New York City time,
on the Expiration Date, unless previously
accepted for exchange. See "The Exchange
Offer--Withdrawal of Tenders."
ACCEPTANCE OF OLD DEBENTURES
AND DELIVERY OF NEW
DEBENTURES................... Holding will accept for exchange any and all
Old Debentures which are validly tendered in the
Exchange Offer prior to 5:00 p.m., New York City
time, on the Expiration Date. The New Debentures
issued pursuant to the Exchange Offer will be
delivered promptly following the Expiration Date.
See "The Exchange Offer--Terms of the Exchange
Offer."
CONSEQUENCE OF FAILURE
TO EXCHANGE................. Holders of Old Debentures who do not exchange
their Old Debentures for New Debentures pursuant
to the Exchange Offer will continue to be subject
to the restrictions on transfer of such Old
Debentures as set forth on the legend thereon. In
addition, if the Exchange Offer is consummated,
Holding does not intend to file further
registration statements for the sale or other
disposition of the Old Debentures. See "Risk
Factors--No Public Market for the Debentures" and
"Risk Factors--Consequences of the Exchange
Offer on Non-Tendering Holders of the Old
Debentures."
REGISTRATION RIGHTS AGREEMENT;
EFFECT ON HOLDERS........... The Old Debentures were sold by Holding on June
25, 1998 to Donaldson, Lufkin & Jenrette
Securities Corporation ("DLJ"), as the initial
purchaser (the "Initial Purchaser") pursuant to a
Purchase Agreement dated June 22, 1998 between
Holding and the Initial Purchaser (the "Purchase
Agreement"). The Initial Purchaser subsequently
sold the Old Debentures to qualified
institutional buyers and non-U.S. persons in
reliance on Rule 144A and Regulation S,
respectively, under the Securities Act. Pursuant
to the Purchase Agreement, Holding and the
Initial Purchaser entered into a Registration
Rights Agreement dated as of June 25, 1998 (the
"Registration Rights Agreement") which grants the
Holders of the Old Debentures certain exchange
and registration rights. The Exchange Offer is
being made to satisfy this contractual obligation
of Holding. The Holders of New Debentures are not
entitled to any exchange or registration rights
with respect to the New Debentures. See "The
Exchange Offer--Purpose and Effects of the
Exchange Offer."
CERTAIN U.S. FEDERAL INCOME
TAX CONSEQUENCES............ The exchange of Old Debentures for New
Debentures by tendering holders will not be a
taxable exchange for federal income tax purposes,
and such holders will not recognize any taxable
gain or loss or any interest income for federal
income tax purposes as a result of such exchange.
See "Certain U.S. Federal Income Tax
Consequences."
8
EXCHANGE AGENT.............. State Street Bank and Trust Company, the
Trustee under the Indenture, is serving as
exchange agent (the "Exchange Agent") in
connection with the Exchange Offer. The address
of the Exchange Agent is P.O. Box 778, Boston,
Massachusetts 02102, Attention: Corporate Trust
Department. Hand and overnight deliveries should
be directed to the Exchange Agent at Two
International Plaza, Fourth Floor, Boston,
Massachusetts 02110, Attention: Corporate Trust
Department. For information with respect to the
Exchange Offer, call (617) 664-5587. See "The
Exchange Offer--Exchange Agent."
USE OF PROCEEDS............. Holding will not receive any cash proceeds from
the exchange of the New Debentures for the Old
Debentures pursuant to the Exchange Offer. The
net proceeds from the sale of Old Debentures of
approximately $24.9 million (after deducting
underwriting discounts and expenses of the
Offering) have been used to fund the Equity
Contribution, which, together with the net
proceeds from the concurrent Note Offering, have
been used by the Company (i) to repay the entire
outstanding principal amount of, and accrued and
unpaid interest on, the Bridge Notes, which were
issued to an affiliate of DLJMBII and the Initial
Purchaser in connection with the Acquisition and
(ii) to fund working capital requirements and for
general corporate purposes, including funding the
purchase price of the 3M Acquisition. See "Use of
Proceeds" and "--3M Acquisition."
9
SUMMARY DESCRIPTION OF THE NEW DEBENTURES
SECURITIES OFFERED.......... $50.0 million in principal amount at maturity
of Holding's 13 1/2% New Senior Discount
Debentures due 2009 (the "New Debentures").
MATURITY DATE............... July 1, 2009.
ACCRETION................... The New Debentures will accrete at a rate of
13 1/2%, compounded semi-annually to an
aggregate principal amount of $50.0 million at
July 1, 2003.
INTEREST.................... The New Debentures will accrue interest at the
rate of 13 1/2% per annum, payable semi-annually
on January 1 and July 1 of each year, commencing
January 1, 2004.
OPTIONAL REDEMPTION......... The New Debentures will be redeemable at the
option of Holding, in whole or in part, at any
time on or after July 1, 2003 in cash at the
redemption prices set forth herein, plus accrued
and unpaid interest and Liquidated Damages, if
any, thereon to the date of redemption. In
addition, at any time prior to July 1, 2001,
Holding may on any one or more occasions redeem
up to 35% of the aggregate principal amount at
maturity of New Debentures originally issued at a
redemption price equal to 113.5% of the Accreted
Value thereof (determined at the date of
redemption), plus Liquidated Damages, if any,
thereon to the redemption date, with the net cash
proceeds of one or more Public Equity Offerings;
provided that at least 65% of the original
aggregate principal amount at maturity of
Debentures remains outstanding immediately after
the occurrence of such redemption. See
"Description of New Debentures--Optional
Redemption."
CHANGE OF CONTROL........... Upon the occurrence of a Change of Control,
each holder of Debentures will have the right to
require Holding to repurchase all or any part of
such holder's New Debentures at an offer price in
cash equal to 101% of the Accreted Value thereof
on the date of repurchase (if such date of
repurchase is prior to July 1, 2003) or 101% of
the aggregate principal amount thereof (if such
date of repurchase is on or after July 1, 2003),
plus, in each case, accrued and unpaid interest
and Liquidated Damages, if any, thereon to the
date of repurchase. See "Description of New
Debentures--Repurchase at the Option of
Holders--Change of Control." There can be no
assurance that, in the event of a Change of
Control, Holding would have sufficient funds to
purchase all New Debentures tendered. See "Risk
Factors--Limitations on Ability to Make Change
of Control Payment."
RANKING..................... The New Debentures will be general unsecured
obligations of Holding, will rank pari passu in
right of payment to all existing and future
senior unsecured indebtedness of Holding and will
rank senior in right of payment to all existing
and future
10
subordinated indebtedness of Holding. The New
Debentures, however, will be effectively
subordinated to all indebtedness of the Company
and its subsidiaries. As of March 31, 1998, on a
pro forma basis, after giving effect to the
Refinancing and the consummation of the 3M
Acquisition, Holding would have had no
outstanding secured obligations and Holding's
subsidiaries would have had $122.9 million of
outstanding liabilities (including trade
payables). See "Description of Certain
Indebtedness."
ORIGINAL ISSUE DISCOUNT..... The New Debentures are being issued with
original issue discount for U.S. federal income
tax purposes. Thus, although interest will not be
payable on the New Debentures prior to July 1,
2003, Holders will be required to include amounts
in gross income for U.S. federal income tax
purposes in advance of receipt of the cash
payments to which such income is attributable.
See "Certain U.S. Federal Income Tax
Considerations."
CERTAIN COVENANTS........... The Indenture contains certain covenants that
will limit, among other things, the ability of
Holding and its Restricted Subsidiaries to: (i)
pay dividends, redeem capital stock or make
certain other restricted payments or investments,
(ii) incur additional indebtedness or issue
preferred equity interests, (iii) merge,
consolidate or sell all or substantially all of
their respective assets, (iv) create liens on
assets and (v) enter into certain transactions
with affiliates or related persons. See
"Description of New Debentures--Certain
Covenants."
RISK FACTORS
Holders of Old Debentures should take into account the specific
considerations set forth under "Risk Factors" as well as the other information
set forth in this Prospectus before tendering Old Debentures in exchange for
New Debentures.
---------------------
The Company operates under the trade name "Arcade." Holding's and the
Company's principal executive offices are located at 1815 East Main Street,
Chattanooga, Tennessee 37404 and their telephone number is (423) 624-3301.
11
SUMMARY HISTORICAL AND PRO FORMA CONSOLIDATED FINANCIAL DATA
(DOLLARS IN THOUSANDS)
Set forth below are summary historical and pro forma consolidated
financial data of Holding and the predecessor of the Company (the
"Predecessor") as of the dates and for the periods presented. The summary
historical consolidated financial data of the Predecessor were derived from the
audited consolidated financial statements of the Predecessor, except for the
data for the nine months ended March 31, 1997 and the period from July 1, 1997
to December 15, 1997, which were derived from unaudited consolidated financial
statements of the Predecessor. The summary historical consolidated financial
data of Holding as of March 31, 1998 and for the period from December 16, 1997
to March 31, 1998 have been derived from the unaudited consolidated financial
statements of Holding. In the opinion of management, the unaudited consolidated
financial statements of the Predecessor and Holding include all adjustments
(consisting only of normal recurring adjustments) necessary for a fair
presentation of the financial condition and results of operations as of such
dates and for such periods. The pro forma consolidated financial data give
effect to the Acquisition, the Refinancing and the 3M Acquisition and have been
derived from the Unaudited Pro Forma Condensed Consolidated Financial Data
appearing elsewhere herein. The information contained in this table should be
read in conjunction with "Selected Historical Consolidated Financial Data,"
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," Holding's Unaudited Pro Forma Condensed Consolidated Financial
Data and the notes thereto, the Predecessor's Consolidated Financial Statements
and the notes thereto and the other information contained elsewhere in this
Prospectus.
PREDECESSOR
-----------------------------------------------------------------
NINE
MONTHS JULY 1, 1997
FISCAL YEAR ENDED JUNE 30, ENDED TO
-------------------------------------- MARCH 31, DECEMBER 15,
1995 1996 1997 1997 1997
------------ ------------ ------------ ----------- --------------
STATEMENT OF OPERATIONS
DATA:
Net sales .................. $ 61,794 $ 73,486 $ 77,723 $ 62,367 $ 35,186
Cost of goods sold ......... 38,333 49,862 49,467 39,529 22,809
-------- -------- -------- -------- --------
Gross profit ............... 23,461 23,624 28,256 22,838 12,377
Selling, general and
administrative
expenses .................. 8,483 10,655 13,353 10,470 5,712
Amortization of
goodwill .................. 1,113 1,214 1,214 911 559
-------- -------- -------- -------- --------
Income from
operations ................ 13,865 11,755 13,689 11,457 6,106
OTHER DATA(1):
Capital
expenditures .............. 1,325 2,051 2,462 1,839 807
Ratio of earnings to
fixed charges(2) .......... 2.2x 1.6x 2.1x 2.4x 2.2x
HOLDING
------------------------------------
PRO FORMA
---------------------
DECEMBER 16, FISCAL NINE
1997 YEAR MONTHS
TO ENDED ENDED
MARCH 31, JUNE 30, MARCH 31,
1998 1997 1998
-------------- ---------- ----------
STATEMENT OF OPERATIONS
DATA:
Net sales .................. $21,982 $87,771 $64,038
Cost of goods sold ......... 13,782 54,157 39,656
------- ------- -------
Gross profit ............... 8,200 33,614 24,382
Selling, general and
administrative
expenses .................. 3,189 14,335 9,647
Amortization of
goodwill .................. 1,125 4,032 3,028
------- ------- -------
Income from
operations ................ 3,886 15,247 11,707
OTHER DATA(1):
Capital
expenditures .............. 255 2,462 1,062
Ratio of earnings to
fixed charges(2) .......... -- -- --
AT MARCH 31, 1998
--------------------------------
PRO
ACTUAL FORMA
------------------- ----------
BALANCE SHEET DATA (AT END OF PERIOD):
Cash and cash equivalents ........... $ 988 $ 2,837
Working capital (deficit) ........... (107,821)(3) 18,933
Total assets ........................ 202,667 216,483
Total debt .......................... 128,779 144,641
Total stockholder's equity .......... 61,273 59,619
12
- ----------
(1) EBITDA is defined as income from operations plus depreciation and
amortization. EBITDA is discussed because it is a widely accepted
financial indicator used by certain investors and analysts to analyze and
compare companies on the basis of operating performance. EBITDA is not
intended to represent cash flows for the period, nor has it been
presented as an alternative to operating income as an indicator of
operating performance and should not be considered in isolation or as a
substitute for measures of performance prepared in accordance with
generally accepted accounting principles ("GAAP") in the United States
and is not indicative of operating income or cash flow from operations as
determined under GAAP. EBITDA for the Predecessor was $17,492, $16,177
and $18,773 for the fiscal years ended June 30, 1995, 1996 and 1997,
respectively, $15,285 for the nine months ended March 31, 1997 and $8,562
for July 1, 1997 to December 15, 1997. EBITDA for the Company was $5,893
for December 16, 1997 to March 31, 1998 and pro forma EBITDA for the
Company was $22,587 for the fiscal year ended June 30, 1997 and $17,213
for the nine months ended March 31, 1998.
Pro forma EBITDA for the nine months ended March 31, 1998 includes the
effect of the following unusual items: (i) $525 of legal costs and royalty
payments associated with a successful patent infringement claim against a
competitor; (ii) costs totaling $252 incurred in connection with
centralizing certain acquired technologies; and (iii) costs totaling $278
related to former stockholder expenses and severance costs at the
Company's European subsidiary.
Depreciation and amortization for the Predecessor was $3,627, $4,422 and
$5,084 for the fiscal years ended June 30, 1995, 1996 and 1997,
respectively, $3,828 for the nine months ended March 31, 1997 and $2,456
for July 1, 1997 to December 15, 1997. Depreciation and amortization for
the Company was $2,007 for December 16, 1997 to March 31, 1998 and pro
forma depreciation and amortization was $7,340 for the fiscal year ended
June 30, 1997 and $5,506 for the nine months ended March 31, 1998.
(2) For purposes of calculating the ratio of earnings to fixed charges,
"earnings" represent income (loss) before income taxes plus fixed
charges. "Fixed charges" consist of interest on all indebtedness and
amortization of deferred financing costs. Earnings were not sufficient to
cover fixed charges by $1,325, $1,542 and $878 for the period from
December 16, 1997 to March 31, 1998, the pro forma fiscal year ended June
30, 1997 and the pro forma nine months ended March 31, 1998,
respectively.
(3) The Bridge Notes mature on December 15, 1998 and, therefore, are
classified on the Company's consolidated balance sheet as a current
liability in accordance with GAAP, the result of which is a substantial
working capital deficit.
13
RISK FACTORS
Holders of Old Debentures should carefully consider the following factors,
together with the other information set forth in this Prospectus, before
tendering Old Debentures in exchange for New Debentures. However, the list of
risk factors set forth herein may not be exhaustive and these or other factors
could have a material adverse effect on the ability of Holding to service its
indebtedness, including principal and interest payments on the New Debentures.
SUBSTANTIAL LEVERAGE; RESTRICTIVE COVENANTS
Holding has substantial indebtedness and debt service obligations. As of
March 31, 1998, after giving pro forma effect to the Refinancing and the 3M
Acquisition, Holding would have had total consolidated indebtedness of
approximately $144.6 million and Holding's pro forma deficiency of earnings
available to cover fixed charges for Fiscal 1997 and the Interim 1998 Period
would have been $1.5 million and $0.9 million, respectively. In addition, on
June 25, 1998, the date of the closing (the "Closing") of the Offering (the
"Closing Date"), the Company had a maximum of $19.4 million of availability
under the Credit Agreement. The Indenture permits Holding and its Restricted
Subsidiaries and the indenture governing the Notes (the "Notes Indenture" and,
together with the Indenture, the "Indentures") and the Credit Agreement permits
Holding and its Restricted Subsidiaries, in each case, to incur additional
indebtedness, subject to certain limitations.
The level of Holding's indebtedness could have important consequences to
holders of the Debentures, including, but not limited to, the following: (i) a
substantial portion of cash flow from operations must be dedicated to debt
service and will not be available for other purposes; (ii) additional debt
financing in the future for working capital, capital expenditures or
acquisitions may be limited; (iii) the level of indebtedness could limit
flexibility in reacting to changes in the operating environment and economic
conditions generally; (iv) the level of indebtedness could restrict the
Company's ability to increase manufacturing capacity; (v) each of Holding and
the Company may face difficulties in satisfying its obligations with respect to
its indebtedness; and (vi) a portion of the Company's borrowings bear interest
at variable rates of interest, which could result in higher interest expense in
the event of an increase in market interest rates.
The ability of Holding to pay principal and interest on the New Debentures
will depend upon Holding's future operating performance, which will be affected
by prevailing economic conditions and financial, business and other factors,
certain of which are beyond Holding's control. Holding anticipates that
operating cash flow from its subsidiaries, together with borrowings by the
Company under the Credit Agreement, will be sufficient to meet its operating
expenses and to service its debt requirements as they become due. However, if
Holding is unable to service its indebtedness, Holding may be required to take
action such as reducing or delaying capital expenditures by the Company,
selling assets, restructuring or refinancing its indebtedness or seeking
additional equity capital. There can be no assurance that any of these remedies
can be effected on satisfactory terms, if at all.
The Indentures and the Credit Agreement contain certain covenants that,
among other things, limit the ability of Holding and its Restricted
Subsidiaries to (i) pay dividends or make certain restricted payments; (ii)
incur additional indebtedness and issue preferred stock; (iii) create liens;
(iv) incur dividend and other payment restrictions affecting subsidiaries; (v)
enter into mergers, consolidations or sales of all or substantially all of the
assets of Holding; (vi) enter into certain transactions with affiliates; and
(vii) sell certain assets. In addition, the Credit Agreement requires the
Company to maintain specified financial ratios and satisfy certain financial
condition tests. Holding's ability to meet those financial ratios and tests can
be affected by events beyond its control, and there can be no assurance that
Holding will meet those tests. See "Description of New Debentures" and
"Description of Certain Indebtedness."
HOLDING COMPANY STRUCTURE; EFFECTIVE SUBORDINATION
Holding is a holding company and does not have any material operations or
assets other than ownership of all of the capital stock of the Company.
Accordingly, the New Debentures will be effectively subordinated to all
existing and future liabilities of Holding's subsidiaries, including
indebtedness under
14
the Credit Agreement and the Notes. As of March 31, 1998, after giving pro
forma effect to the Refinancing and the consummation of the 3M Acquisition,
Holding's subsidiaries would have had $122.9 million of outstanding liabilities
(including trade payables) to which holders of the New Debentures would be
effectively subordinated. Holding and its subsidiaries may incur additional
indebtedness in the future, subject to certain limitations contained in the
instruments governing their indebtedness.
Any right of Holding to participate in any distribution of assets of its
subsidiaries upon the liquidation, reorganization or insolvency of any such
subsidiary (and the consequent right of the holders of the New Debentures to
participate in the distribution of those assets) will be subject to the prior
claims of the respective subsidiary's creditors. See "Description of Certain
Indebtedness."
LIMITATION ON THE PAYMENT OF FUNDS TO HOLDING BY ITS SUBSIDIARIES
Holding's cash flow, and consequently its ability to service debt,
including its obligations under the Indenture, is dependent upon the cash flows
of its subsidiaries and the payment of funds by such subsidiaries to Holding in
the form of loans, dividends or otherwise. Holding's subsidiaries have no
obligations, contingent or otherwise, to pay any amounts due pursuant to the
Debentures or to make any funds available therefor. In addition, the Company's
Credit Agreement and the Notes Indenture impose, and agreements entered into in
the future may impose, significant restrictions on the payment of dividends and
the making of loans by the Company and its subsidiaries to Holding.
Accordingly, repayment of the New Debentures may depend upon the ability of
Holding to effect an equity offering or to refinance the New Debentures.
ORIGINAL ISSUE DISCOUNT
The New Debentures will be issued at a substantial original issue discount
from their principal amount. Consequently, Holders of the New Debentures will
be required to include amounts in gross income for federal income tax purposes
in advance of receipt of any cash payment on the Debentures to which the income
is attributable. See "Certain U.S. Federal Income Tax Considerations" for a
more detailed discussion of the federal income tax consequences to the Holders
of the Debentures resulting from the purchase, ownership or disposition
thereof.
Under the Indenture, in the event of an acceleration of the maturity of
the New Debentures upon the occurrence of an Event of Default, the Holders of
New Debentures may be entitled to recover only the amount which may be declared
due and payable pursuant to the Indenture, which will be less than the
principal amount at maturity of such New Debentures. See "Description of New
Debentures--Events of Default and Remedies."
If a bankruptcy case is commenced by or against Holding under the United
States Bankruptcy Code (the "Bankruptcy Code") after the issuance of the New
Debentures, the claim of a Holder of New Debentures with respect to the
principal amount thereof will likely be limited to an amount equal to the sum
of (i) the issue price of the New Debentures as of the date of issuance of the
New Debentures and (ii) that portion of the original issue discount that is not
deemed to constitute "unmatured interest" for purposes of the Bankruptcy Code.
Accordingly, Holders of the New Debentures under such circumstances may, even
if sufficient funds are available, receive a lesser amount than they would be
entitled to under the express terms of the Indenture. In addition, there can be
no assurance that a bankruptcy court would compute the accrual of interest
under the same rules as those used for the calculation of original issue
discount under federal income tax law and, accordingly, a Holder might be
required to recognize gain or loss in the event of a distribution related to
such bankruptcy case.
POSTAL REGULATION
The Company's sampling products are approved by the U.S. Postal Service
for inclusion in subscription magazines mailed at periodical postage rates. The
Company's products have a significant cost advantage over certain competing
sampling products, such as miniatures, vials, packettes, sachets and
blisterpacks, because such competing products cause an increase from periodical
postage rates to the higher third class rates for the magazine's entire
circulation. Subscription magazine sampling inserts
15
delivered to consumers through the U.S. Postal Service accounted for
approximately 40% of the Company's net sales in Fiscal 1997. There can be no
assurance that the U.S. Postal Service will not approve other competing types
of sampling products for use in subscription magazines without requiring a
postal surcharge, or that the U.S. Postal Service will not reclassify the
Company's sampling products such that they would incur a postal surcharge. Any
such action by the U.S. Postal Service could have a material adverse effect on
the Company's results of operations and financial condition.
RELIANCE UPON SIGNIFICANT CUSTOMERS
The Company's top ten customers by sales generated accounted for
approximately 61% of the Company's net sales in Fiscal 1997 and each of Estee
Lauder and Procter & Gamble accounted for in excess of 10% of the Company's net
sales in Fiscal 1997. Although the Company has long-established relationships
with most of its major customers, the Company does not have long-term contracts
with any of its customers. The Company is currently working with Procter &
Gamble to qualify the Company's manufacturing operations under certain supplier
standards established by Procter & Gamble that the Company has not yet met.
There can be no assurance that the Company will be able to qualify under such
supplier standards or that Procter & Gamble will continue to purchase sampling
products from the Company if the Company's manufacturing operations are not so
qualified. An adverse change in its relationships with significant customers,
including Estee Lauder and Procter & Gamble, could have a material adverse
effect on the Company's results of operations and financial condition.
COMPETITION
The Company's competitors, some of whom have substantially greater capital
resources than the Company, are actively engaged in manufacturing certain
products similar to those of the Company. The Company's principal competitors
in the printed fragrance sampler market are Webcraft, a subsidiary of Big
Flower Holdings, Inc., Orlandi Inc., Retail Communications Corp. and Quebecor
Printing (USA) Corp. Competition in the Company's market is based upon product
quality, product technologies, customer relationships, price and customer
service. The future success of the Company's business will depend in large part
upon its ability to market and manufacture products and services that meet
customer needs on a cost-effective and timely basis. There can be no assurance
that capital will be available for these purposes, that investments in new
technology will result in commercially viable products or that the Company will
be successful in generating sales on commercially favorable terms, if at all.
In addition, the Company's success, competitive position and revenues will
depend, in part, upon its ability to protect its proprietary technologies and
to operate without infringing on the proprietary rights of others. Although the
Company has certain patents and has filed, and expects to continue to file,
other patent applications, there can be no assurance that the Company's issued
patents are enforceable or that its patent applications will mature into issued
patents. The expense involved in litigation regarding patent protection or a
challenge thereto has been and could be significant and any future expense, if
any, cannot be estimated by the Company. A portion of the Company's
manufacturing processes are not covered by any patent or patent application. As
a result, the business of the Company may be adversely affected by competitors
who independently develop technologies substantially equivalent to those
employed by the Company. See "Business--Competition."
DEPENDENCE ON FRAGRANCE INDUSTRY; SEASONALITY
The advertising budgets of the Company's customers, and therefore the
revenues of the Company, are susceptible to prevailing economic and market
conditions that affect advertising expenditures, the performance of the
products of the Company's customers in the marketplace and certain other
factors. See the discussion of net sales for the Interim 1998 Period compared
to the Interim 1997 Period and Fiscal 1997 compared to Fiscal 1996 in
"Management's Discussion of Financial Condition and Results of
Operations--Results of Operations." There can be no assurance that further
reductions in advertising spending will not occur, which could have a material
adverse effect on the Company's results of operations and financial condition.
16
In addition, the Company's sales and operating results have historically
reflected seasonal variations. Such seasonal variations are based on the timing
of the Company's customers' advertising campaigns, which have traditionally
been concentrated prior to the Christmas and spring holiday seasons. As a
result, a higher level of sales are reflected in the Company's first two fiscal
quarters ended December 31 when sales from such advertising campaigns are
principally recognized while the Company's fourth fiscal quarter ended June 30
typically reflects the lowest sales level of the fiscal year. These seasonal
fluctuations require the Company to accurately allocate its resources to manage
the Company's manufacturing capacity, which often operates at full capacity
during peak seasonal demand periods.
RAW MATERIALS--PAPER
Paper is the primary raw material utilized by the Company in producing its
sampling products. Paper costs represented approximately one-third of the
Company's cost of goods sold in each of Fiscal 1995, 1996 and 1997. During the
five years prior to Fiscal 1996, the Company had not experienced any
significant increases in paper prices. In Fiscal 1996, a series of significant
price increases for paper occurred, which increased the Company's average price
of paper by 14.8% as compared to Fiscal 1995. The magnitude and close proximity
of such increases prevented the Company from recovering all of such increased
paper costs from its customers and had an adverse impact on the Company's
results of operations. Future significant increases in paper costs could have a
material adverse effect on the Company's results of operations and financial
condition to the extent that the Company is unable to price its products to
reflect such increases. There can be no assurance that the Company's customers
would accept such price increases or the extent to which such price increases
would impact their decision to utilize the Company's sampling products.
All of the Company's encapsulated sampling products, which accounted for a
majority of the Company's net sales in Fiscal 1997, utilize specific grades of
paper that are produced exclusively for the Company by one supplier. However,
the Company does not have any supply contract with respect to such grades of
paper. Any disruption or loss of such supply of paper could have a material
adverse effect on the Company's results of operations and financial condition
to the extent that the Company is unable to obtain such paper elsewhere.
DEPENDENCE UPON SENIOR MANAGEMENT
Holding and the Company are substantially dependent on the personal
efforts, relationships and abilities of Roger L. Barnett, Holding's and the
Company's President and Chief Executive Officer. Barry W. Miller, the Company's
Chief Operating Officer, joined the Company in May 1998 and, consequently, the
Company has limited operating history under such senior manager upon which
Holders of New Debentures may base an evaluation of his performance. The
Company has entered into employment agreements with Messrs. Barnett and Miller.
Holding and the Company do not maintain key person life insurance on any member
of senior management of Holding or the Company. The loss of Mr. Barnett's
services or the services of any other member of senior management could have a
material adverse effect on Holding and the Company. See "Management."
RISKS OF INTERNATIONAL OPERATIONS; CURRENCY FLUCTUATIONS
Approximately 9.6% of the Company's net sales in Fiscal 1997 were
generated outside the United States. Foreign operations are subject to certain
risks inherent in conducting business abroad, including, among others, exposure
to foreign currency fluctuations and devaluations or restrictions on money
supplies, foreign and domestic export law and regulations, price controls,
taxation, tariffs, import restrictions, and other political and economic events
beyond the Company's control. The Company has not experienced any material
effects of these risks as of yet, but there can be no assurance that they will
not have such an effect in the future.
CONTROL BY DLJMBII
DLJMBII has the power to elect a majority of the directors of Acquisition
Corp. and generally exercises control over the business, policies and affairs
of Acquisition Corp., Holding and the Company
17
through its ownership of Acquisition Corp. By reason of such ownership, DLJMBII
may have interests that could be in conflict with those of the holders of the
New Debentures. The net proceeds from the Offering have been used to fund the
Equity Contribution and, together with the net proceeds from the Notes
Offering, have been used by the Company to repay the Bridge Notes, which were
issued to an affiliate of DLJMBII and the Initial Purchaser. See "Use of
Proceeds," "Security Ownership of Certain Beneficial Owners and Management" and
"Certain Relationships and Related Transactions."
LIMITATIONS ON ABILITY TO MAKE CHANGE OF CONTROL PAYMENT
Upon the occurrence of a Change of Control, each Holder of New Debentures
will have the right to require Holding to purchase all or any part of such
Holder's New Debentures at an offer price in cash equal to 101% of the
aggregate principal amount thereof, plus accrued and unpaid interest and
Liquidated Damages, if any, to the date of purchase. In the event that a Change
of Control occurs, Holding would likely be required to refinance the
indebtedness outstanding under the New Debentures. There can be no assurance
that Holding would be able to refinance such indebtedness or, if such
refinancing were to occur, that such refinancing would be on terms favorable to
Holding. See "Description of New Debentures--Repurchase at the Option of
Holders--Change of Control."
LABOR RELATIONS
As of March 31, 1998, approximately 60% of the Company's employees worked
under a collective bargaining agreement that expires on April 1, 1999. While
the Company believes that its relations with its employees are good, there can
be no assurance that the Company's collective bargaining agreement will be
renewed in the future. A prolonged labor dispute (which could include a work
stoppage) could have a material adverse effect on the Company's business,
financial condition and results of operations. See "Business--Employees."
RISK OF FRAUDULENT TRANSFER LIABILITY
If a court of competent jurisdiction in a suit by an unpaid creditor or a
representative of creditors (such as a trustee in bankruptcy or a
debtor-in-possession) were to find that either Holding did not receive fair
consideration or reasonably equivalent value for issuing the New Debentures
and, at the time of the incurrence of indebtedness represented by the New
Debentures, Holding was insolvent, was rendered insolvent by reason of such
incurrence, was engaged in a business or transaction for which its remaining
assets constituted unreasonably small capital, intended to incur, or believed
that it would incur, debts beyond its ability to pay as such debts matured, or
intended to hinder, delay or defraud its creditors, such court could avoid such
indebtedness, subordinate such indebtedness to other existing and future
indebtedness of Holding or take other action detrimental to the holders of the
New Debentures. The measure of insolvency for purposes of the foregoing will
vary depending upon the law of the relevant jurisdiction. Generally, however, a
company would be considered insolvent for purposes of the foregoing if the sum
of such company's debts is greater than all the company's property at a fair
valuation, or if the present fair saleable value of the company's assets is
less than the amount that will be required to pay its probable liability on its
existing debts as they become absolute and matured.
YEAR 2000 ISSUES
The Company has commenced a study of its computer systems in order to
assess its exposure to year 2000 issues. The Company expects to make the
necessary modifications or changes to its computer information systems to
enable proper processing of transactions relating to the year 2000 and beyond.
The Company will evaluate appropriate courses of action, including replacement
of certain systems whose associated costs would be recorded as assets and
subsequently amortized. There can be no assurance that costs and expenses or
other matters relating to year 2000 issues will not have a material adverse
effect on the Company. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Year 2000 Issues."
NO PUBLIC MARKET FOR THE NEW DEBENTURES
There has previously been only a limited secondary market and no public
market for the Old Debentures, and there can be no assurance as to the
liquidity of any market that may develop for the New
18
Debentures, the ability of Holders of the New Debentures to sell their New
Debentures, or the prices at which the Holders of the New Debentures would be
able to sell their New Debentures. In addition, because the Exchange Offer is
not conditioned upon any minimum number of Old Debentures being tendered for
exchange, the number of New Debentures tendered could be quite small which
could have an adverse effect on the liquidity of the New Debentures. The
Initial Purchaser has advised Holding that it currently intends to make a
market in the New Debentures. The Initial Purchaser is not obligated to do so,
however, and any market-making with respect to the New Debentures may be
discontinued at any time without notice. Also, to the extent that Old
Debentures are tendered and accepted in the Exchange Offer, a holder's ability
to sell untendered Old Debentures could be adversely affected. Therefore, no
assurance can be given as to the liquidity of the trading market for the New
Debentures. Holding does not intend to list the New Debentures on a national
securities exchange or to apply for quotation of the New Debentures through the
National Association of Securities Dealers Automated Quotation System. However,
it is expected that the New Debentures will be eligible for trading in the
Private Offerings, Resales and Trading through Automated Linkages ("PORTAL")
Market upon issuance.
CONSEQUENCES OF THE EXCHANGE OFFER ON NON-TENDERING HOLDERS OF THE OLD
DEBENTURES
Holding intends for the Exchange Offer to satisfy its registration
obligations under the Registration Rights Agreement. If the Exchange Offer is
consummated, Holding does not intend to file further registration statements
for the sale or other disposition of Old Debentures. Old Debentures that are
not exchanged for New Debentures will remain restricted securities within the
meaning of Rule 144 of the Securities Act. Consequently, following completion
of the Exchange Offer, Holders of Old Debentures seeking liquidity in their
investment would have to rely on an exemption to the registration requirements
under applicable securities laws, including the Securities Act, with respect to
any sale or other disposition of the Old Debentures.
19
USE OF PROCEEDS
Holding will not receive any cash proceeds from the exchange of the New
Debentures for the Old Debentures pursuant to the Exchange Offer. As
consideration for issuing the New Debentures offered hereby, Holding will
receive, in exchange, Old Debentures in like principal amount which will be
canceled and as such will not result in any increase in indebtedness of
Holding.
The net proceeds to Holding from the sale of the Debentures, after
deducting discounts and commissions and other estimated expenses of the
Offering, were approximately $24.7 million. The net proceeds from the Offering
have been used to fund the Equity Contribution which, together with the net
proceeds from the concurrent Notes Offering, have been used by the Company (i)
to repay the entire outstanding principal amount of, and accrued and unpaid
interest on, the Bridge Notes, which were issued to an affiliate of DLJMBII and
the Initial Purchaser in connection with the Acquisition and (ii) to fund
working capital requirements and for general corporate purposes, including
funding the purchase price of the 3M Acquisition. As of June 22, 1998, the
interest rate on the Bridge Notes was 11.75%. See "Certain Relationships and
Related Transactions," "Description of Certain Indebtedness" and "Plan of
Distribution."
20
THE EXCHANGE OFFER
PURPOSE AND EFFECTS OF THE EXCHANGE OFFER
The Old Debentures were sold by Holding on the Closing Date to the Initial
Purchaser, pursuant to the Purchase Agreement. The Initial Purchaser
subsequently resold the Old Debentures to qualified institutional buyers within
the meaning of Rule 144A under the Securities Act and to non-U.S. persons
pursuant to Regulation S under the Securities Act. As a condition to the
Purchase Agreement, Holding and the Initial Purchasers entered into the
Registration Rights Agreement on June 25, 1998. The Registration Rights
Agreement required Holding to file with the Commission following the Closing, a
registration statement relating to an exchange offer pursuant to which notes
that are substantially identical to the Old Debentures would be offered in
exchange for the then outstanding Old Debentures tendered at the option of the
Holders thereof. The form and terms of the New Debentures are identical in all
material respects to the form and terms of the Old Debentures except (i) that
the New Debentures have been registered under the Securities Act, (ii) that the
New Debentures are not entitled to certain registration rights which are
applicable to the Old Debentures under the Registration Rights Agreement, and
(iii) that certain contingent interest rate provisions applicable to the Old
Debentures are generally not applicable to the New Debentures. In the event
that the applicable interpretations of the staff of the Commission do not
permit Holding to effect the Exchange Offer, Holding agreed to use its
reasonable best efforts to cause to become effective a shelf registration
statement with respect to the resale of the Old Debentures ("the Shelf
Registration Statement") and to keep such Shelf Registration Statement
effective for a period of up to three years. The Exchange Offer is being made
to satisfy the contractual obligations of Holding under the Registration Rights
Agreement. The Holders of any Old Debentures not tendered in the Exchange Offer
will not be entitled to require Holding to file the Shelf Registration
Statement.
The Registration Rights Agreement provides that (i) Holding will file an
Exchange Offer Registration Statement with the Commission on or prior to 45
days after the Closing Date, (ii) Holding will use its reasonable best efforts
to have the Exchange Offer Registration Statement declared effective by the
Commission on or prior to 180 days after the Closing Date, (iii) unless the
Exchange Offer would not be permitted by applicable law or Commission policy,
Holding will commence the Exchange Offer and use its reasonable best efforts to
issue on or prior to 30 business days after the date on which the Exchange
Offer Registration Statement was declared effective by the Commission, New
Debentures in exchange for all Debentures tendered prior thereto in the
Exchange Offer and (iv) if obligated to file the Shelf Registration Statement,
Holding will use its reasonable best efforts to file the Shelf Registration
Statement with the Commission on or prior to 45 days after such filing
obligation arises and to cause the Shelf Registration to be declared effective
by the Commission on or prior to 180 days after such obligation arises. If (a)
Holding fails to file any of the Registration Statements required by the
Registration Rights Agreement on or before the date specified for such filing,
(b) any of such Registration Statements is not declared effective by the
Commission on or prior to the date specified for such effectiveness (the
"Effectiveness Target Date"), (c) Holding fails to consummate the Exchange
Offer within 30 business days of the Effectiveness Target Date with respect to
the Exchange Offer Registration Statement or (d) the Shelf Registration
Statement or the Exchange Offer Registration Statement is declared effective
but thereafter ceases to be effective or usable in connection with resales of
Transfer Restricted Securities during the periods specified in the Registration
Rights Agreement (each such event referred to in clauses (a) through (d) above
a "Registration Default"), then Holding will pay liquidated damages
("Liquidated Damages") to each Holder of Debentures, with respect to the first
90-day period immediately following the occurrence of the first Registration
Default in an amount equal to $.05 per week per $1,000 principal amount of
Debentures held by such Holder. The amount of the Liquidated Damages will
increase by an additional $.05 per week per $1,000 principal amount of
Debentures with respect to each subsequent 90-day period until all Registration
Defaults have been cured, up to a maximum amount of Liquidated Damages of $.25
per week per $1,000 principal amount of Debentures. All accrued Liquidated
Damages will be paid by Holding on each Damages Payment Date to the Global
Debentures Holder by wire transfer of immediately available funds or by federal
funds check and to Holders of Certificated Debentures by mailing checks to
their registered addresses. Following the cure of all Registration Defaults,
the accrual of Liquidated Damages will cease.
21
Based on an interpretation by the staff of the Commission set forth in
no-action letters issued to unrelated third parties, Holding believes the New
Debentures issued pursuant to the Exchange Offer in exchange for Old Debentures
may be offered for resale, resold and otherwise transferred by the Holders
thereof (other than a Restricted Holder) without compliance with the
registration and prospectus delivery provisions of the Securities Act, provided
that such New Debentures are acquired in the ordinary course of such holders'
business and such Holders are not participating, do not intend to participate
and have no arrangement or understanding with any person to participate, in a
distribution of such New Debentures. See "K-III Communications Corporation,"
SEC No-Action Letter (available May 14, 1993); "Morgan Stanley & Co.,
Incorporated," SEC No-Action Letter (available June 5, 1991); and "Exxon
Capital Holdings Corporation," SEC No-Action Letter (available May 13, 1998).
Each broker-dealer that receives New Debentures for its own account in exchange
for Old Debentures, where such Old Debentures were acquired by such
broker-dealer as a result of market-making activities or other trading
activities, must acknowledge that it will deliver a prospectus in connection
with any sale of such New Debentures. See "Plan of Distribution."
If any person were to participate in the Exchange Offer for the purpose of
distributing securities in a manner not permitted by the preceding paragraph,
such person could not rely on the position of the staff of the Commission and
must comply with the Prospectus delivery requirements of the Securities Act in
connection with a secondary resale transaction. Therefore, each Holder of Old
Debentures who accepts the Exchange Offer must represent in the Letter of
Transmittal that it meets the conditions described above.
The Exchange Offer shall be deemed to have been consummated upon the
earlier to occur of (i) Holding having exchanged New Debentures for all
outstanding Old Debentures (other than Old Debentures held by a Restricted
Holder) pursuant to such Exchange Offer and (ii) Holding having exchanged,
pursuant to such Exchange Offer, New Debentures for all Old Debentures that
have been validly tendered and not withdrawn on the Expiration Date. In such
event, Holders of Old Debentures seeking liquidity in their investment would
have to rely on exemptions to registration requirements under applicable
securities laws, including the Securities Act.
TERMS OF THE EXCHANGE OFFER
Upon the terms and subject to the conditions set forth in this Prospectus
and in the accompanying Letter of Transmittal, Holding will accept all Old
Debentures validly tendered prior to 5:00 p.m., New York City time, on the
Expiration Date. The Exchange of New Debentures for Old Debentures will be made
with respect to all Old Debentures validly tendered and not withdrawn on or
prior to the Expiration Date, promptly following the Expiration Date. The New
Debentures issued pursuant to the Exchange Offer will be delivered promptly
following the Expiration Date. Holding will issue $1,000 principal amount of
New Debentures in exchange for $1,000 principal amount of outstanding Old
Debentures accepted in the Exchange Offer. Holders may tender some or all of
their Old Debentures pursuant to the Exchange Offer in denominations of $1,000
and integral multiples of $1,000 in excess thereof.
As of the date of this Prospectus, the Accreted Value of the Old
Debentures is $ .
This Prospectus, together with the Letter of Transmittal, is being sent to
all registered Holders of Old Debentures as of , 1998 (the "Record Date").
Holding shall be deemed to have accepted validly tendered Old Debentures
when, as and if Holding has given oral or written notice thereof to the
Exchange Agent. The Exchange Agent will act as agent for the tendering Holders
of Old Debentures for the purpose of receiving New Debentures from Holding and
delivering New Debentures to such Holders.
If any tendered Old Debentures are not accepted for exchange because of an
invalid tender or the occurrence of certain other events set forth herein,
certificates for any such unaccepted Old Debentures will be returned, without
expense, to the tendering Holder thereof as promptly as practicable after the
Expiration Date.
22
The registration expenses to be incurred in connection with the Exchange
Offer, including fees and expenses of the Exchange Agent and Trustee and
accounting and legal fees, will be paid by Holding. Holding has agreed to pay,
subject to the instructions in the Letter of Transmittal, all transfer taxes,
if any, relating to the sale or disposition of such Holders' Old Debentures
pursuant to the Exchange Offer. See "--Fees and Expenses."
EXPIRATION DATE; EXTENSIONS; AMENDMENTS
The term "Expiration Date" shall mean , 1998, unless Holding, in its
sole discretion, extends the Exchange Offer, in which case the term "Expiration
Date" shall mean the latest date to which the Exchange Offer is extended.
In order to extend the Expiration Date, Holding will notify the Exchange
Agent of any extension by oral or written notice and will mail to the record
Holders of Old Debentures an announcement thereof, each prior to 9:00 a.m., New
York City time, on the next business day after the previously scheduled
Expiration Date. Such announcement may state that the Company is extending the
Exchange Offer for a specified period of time.
Holding reserves the right (i) to delay acceptance of Old Debentures, to
extend the Exchange Offer or to terminate the Exchange Offer and to refuse to
accept Old Debentures not previously accepted, if any of the conditions set
forth herein under "--Conditions" shall have occurred and shall not have been
waived by the Company, by giving oral or written notice of such delay,
extension or termination to the Exchange Agent, and (ii) to amend the terms of
the Exchange Offer in any manner deemed by it to be advantageous to the Holders
of the Old Debentures. Any such delay in acceptance, extension, termination or
amendment will be followed as promptly as practicable by oral or written notice
thereof. If the Exchange Offer is amended in a manner determined by Holding to
constitute a material change, Holding will promptly disclose such amendment in
a manner reasonably calculated to inform the Holders of the Old Debentures of
such amendment.
Without limiting the manner in which Holding may choose to make public
announcements of any delay in acceptance, extension, termination or amendment
of the Exchange Offer, Holding shall have no obligation to publish, advertise,
or otherwise communicate any such public announcement, other than by making a
timely release to a financial news service.
ACCRETION OF NEW DEBENTURES
The Debentures will accrete at a rate of 13 1/2%, compounded semi-annually
to an aggregate principal amount of $50.0 million at July 1, 2003.
INTEREST ON NEW DEBENTURES
The Debentures will accrete interest at a rate of 13 1/2% per annum,
payable semi-annually in cash and arrears on January 1 and July 1 of each year,
commencing on January 1, 2004.
PROCEDURE FOR TENDERING
To tender in the Exchange Offer, a Holder must complete, sign and date the
Letter of Transmittal, or a facsimile thereof and mail or otherwise deliver
such Letter of Transmittal or such facsimile, together with the Old Debentures
(unless such tender is being effected pursuant to the procedure for book-entry
transfer described below) and any other required documents, to the Exchange
Agent prior to 5:00 p.m., New York City time, on the Expiration Date.
Signatures on a Letter of Transmittal or a notice of withdrawal, as the case
may be, must be guaranteed by a member firm of a registered national securities
exchange or of the National Association of Securities Dealers, Inc., a
commercial bank or trust company having an office or correspondent in the
United States or an "eligible guarantor institution" as defined by Rule 17Ad-15
under the Exchange Act (any of the foregoing hereinafter referred to as an
"Eligible Institution") unless the Old Debentures tendered pursuant thereto are
tendered (i) by a registered Holder who has not completed the box entitled
"Special Issuance Instructions" or "Special Delivery Instructions" on the
Letter of Transmittal or (ii) for the account of an Eligible Institution.
23
Any financial institution that is a participant in DTC's Book-Entry
Transfer Facility system may make book-entry delivery of the Old Debentures by
causing DTC to transfer such Old Debentures into the Exchange Agent's account
in accordance with DTC's procedure for such transfer. Although delivery of Old
Debentures may be effected through book-entry transfer into the Exchange
Agent's account at DTC, the Letter of Transmittal (or facsimile thereof), with
any required signature guarantees and any other required documents, must, in
any case, be transmitted to and received or confirmed by the Exchange Agent at
its addresses set forth herein prior to 5:00 p.m., New York City time, on the
Expiration Date. DELIVERY OF DOCUMENTS TO DTC IN ACCORDANCE WITH ITS PROCEDURES
DOES NOT CONSTITUTE DELIVERY TO THE EXCHANGE AGENT.
The tender by a Holder of Old Debentures will constitute an agreement
between such Holder and Holding in accordance with the terms and subject to the
conditions set forth herein and in the Letter of Transmittal.
Delivery of all documents must be made to the Exchange Agent at its
address set forth herein. Holders may also request that their respective
brokers, dealers, commercial banks, trust companies or nominees effect such
tender for such Holders.
THE METHOD OF DELIVERY OF OLD DEBENTURES AND THE LETTER OF TRANSMITTAL AND
ALL OTHER REQUIRED DOCUMENTS TO THE EXCHANGE AGENT IS AT THE ELECTION AND RISK
OF THE HOLDERS. INSTEAD OF DELIVERY BY MAIL, IT IS RECOMMENDED THAT HOLDERS USE
AN OVERNIGHT OR HAND DELIVERY SERVICE. IN ALL CASES, SUFFICIENT TIME SHOULD BE
ALLOWED TO ASSURE TIMELY DELIVERY. NO LETTER OF TRANSMITTAL OR OLD DEBENTURES
SHOULD BE SENT TO HOLDING.
Only a Holder of Old Debentures may tender such Old Debentures in the
Exchange Offer. The term "Holder" with respect to the Exchange Offer means any
person in whose name Old Debentures are registered on the books of Holding or
any other person who has obtained a properly completed bond power from the
registered holder or any person whose Old Debentures are held of record by DTC
who desires to deliver such Old Debentures at DTC.
Any beneficial Holder whose Old Debentures are registered in the name of
his broker, dealer, commercial bank, trust company or other nominee and who
wishes to tender his Old Debentures should contact the registered Holder
promptly and instruct such registered Holder to tender on his behalf. If such
beneficial Holder wishes to tender on his own behalf, such beneficial Holder
must, prior to completing and executing the Letter of Transmittal and
delivering his Old Debentures, either make appropriate arrangements to register
ownership of the Old Debentures in such Holder's name or obtain a properly
completed bond power from the registered Holder. The transfer of record
ownership may take considerable time.
If the Letter of Transmittal is signed by a person other than the
registered Holder of any Old Debentures listed therein, such Old Debentures
must be endorsed or accompanied by appropriate bond powers which authorize such
person to tender the Old Debentures on behalf of the registered holder, in
either case signed as the name of the registered Holder or Holders appears on
the Old Debentures.
If the Letter of Transmittal or any Old Debentures or bond powers are
signed by trustees, executors, administrators, guardians, attorneys-in-fact,
officers of a corporation or others acting in a fiduciary or representative
capacity, such persons should so indicate when signing, and unless waived by
Holding, evidence satisfactory to Holding of their authority to so act must be
submitted with the Letter of Transmittal.
All questions as to the validity, form, eligibility (including time of
receipt), acceptance and withdrawal of the tendered Old Debentures will be
determined by Holding in its sole discretion, which determination will be final
and binding. Holding reserves the absolute right to reject any and all Old
Debentures not validly tendered or any Old Debentures Holding's acceptance of
which would, in the opinion of counsel for Holding, be unlawful. Holding also
reserves the absolute right to waive any irregularities or conditions of tender
as to particular Old Debentures. Holding's interpretation of the terms and
conditions of the Exchange Offer (including the instructions in the Letter of
Transmittal) will be final and binding on all parties. Unless waived, any
defects or irregularities in connection with tenders
24
of Old Debentures must be cured within such time as Holding shall determine.
Neither Holding, the Exchange Agent nor any other person shall be under any
duty to give notification of defects or irregularities with respect to tenders
of Old Debentures nor shall any of them incur any liability for failure to give
such notification. Tenders of Old Debentures will not be deemed to have been
made until such irregularities have been cured or waived. Any Old Debentures
received by the Exchange Agent that are not validly tendered and as to which
the defects or irregularities have not been cured or waived will be returned by
the Exchange Agent without cost to the tendering holder of such Old Debentures
unless otherwise provided in the Letter of Transmittal, as soon as practicable
following the Expiration Date.
By tendering, each Holder will represent to Holding that, among other
things (i) the New Debentures acquired pursuant to the Exchange Offer are being
obtained in the ordinary course of such Holder's business, (ii) such Holder is
not participating, does not intend to participate and has no arrangement or
understanding with any person to participate, in a distribution of such New
Debentures, (iii) such Holder is not an "affiliate," as defined under Rule 405
of the Securities Act, of Holding and (iv) such Holder is not a broker-dealer
who acquired Old Debentures directly from Holding to resell pursuant to Rule
144A or any other available exemption under the Securities Act.
GUARANTEED DELIVERY PROCEDURES
Holders who wish to tender their Old Debentures and (i) whose Old
Debentures are not immediately available or (ii) who cannot deliver their Old
Debentures, the Letter of Transmittal or any other required documents to the
Exchange Agent prior to the Early Exchange Date or the Expiration Date, may
effect a tender if:
(a) The tender is made through an Eligible Institution;
(b) Prior to the Expiration Date, the Exchange Agent receives from such
Eligible Institution a properly completed and duly executed notice of guarantee
delivery (the "Notice of Guaranteed Delivery") (by facsimile transmission, mail
or hand delivery) setting forth the name and address of the Holder of the Old
Debentures, the certificate number or numbers of such Old Debentures and the
principal amount of Old Debentures, the certificate number or numbers of such
Old Debentures and the principal amount of Old Debentures tendered, stating
that the tender is being made thereby, and guaranteeing that, within three
business days after the date of execution of the Notice of Guaranteed Delivery,
the Letter of Transmittal (or facsimile thereof), together with the
certificate(s) representing the Old Debentures to be tendered in proper form
for transfer and any other documents required by the Letter of Transmittal,
will be deposited by the Eligible Institution with the Exchange Agent; and
(c) Such properly completed and executed Letter of Transmittal (or
facsimile thereof), together with the certificate(s) representing all tendered
Old Debentures in proper form for transfer (or confirmation of a book-entry
transfer into the Exchange Agent's account at DTC of Old Debentures delivered
electronically) and all other documents required by the Letter of Transmittal
are received by the Exchange Agent within three business days after the date of
execution of the Notice of Guaranteed Delivery.
WITHDRAWAL OF TENDERS
Except as otherwise provided herein, tenders of Old Debentures may be
withdrawn at any time prior to 5:00 p.m., New York City time, on the Expiration
Date, unless previously accepted for exchange.
To withdraw a tender of Old Debentures in the Exchange Offer, a written or
facsimile transmission notice of withdrawal must be received by the Exchange
Agent at its address set forth herein prior to 5:00 p.m., New York City time,
on the Expiration Date and prior to acceptance for exchange by Holding. Any
such notice of withdrawal must (i) specify the name of the person having
deposited the Old Debentures to be withdrawn (the "Depositor"), (ii) identify
the Old Debentures to be withdrawn (including the certificate number or numbers
and principal amount of such Old Debentures), (iii) be signed by the Depositor
in the same manner as the original signature on the Letter of Transmittal by
which such Old Debentures were tendered (including required signature
guarantees) or be accompanied by documents of
25
transfer sufficient to permit the trustee with respect to the Old Debentures to
register the transfer of such Old Debentures into the name of the Depositor
withdrawing the tender and (iv) specify the name in which any such Old
Debentures are to be registered, if different from that of the Depositor. All
questions as to the validity, form and eligibility (including time of receipt)
of such withdrawal notices will be determined by Holding, whose determination
shall be final and binding on all parties. Any Old Debentures so withdrawn will
be deemed not to have been validly tendered for purposes of the Exchange Offer
and no New Debentures will be issued with respect thereto unless the Old
Debentures so withdrawn are validly retendered. Any Old Debentures which have
been tendered but which are not accepted for exchange will be returned by the
Exchange Agent to the holder thereof without cost to such holder as soon as
practicable after withdrawal, rejection of tender or termination of the
Exchange Offer. Properly withdrawn Old Debentures may be retendered by
following one of the procedures described above under "--Procedure for
Tendering" at any time prior to the Expiration Date.
CONDITIONS
Notwithstanding any other term of the Exchange Offer, Holding will not be
obligated to consummate the Exchange Offer if the New Debentures to be received
will not be tradeable by the holder, other than in the case of Restricted
Holders, without restriction under the Securities Act and the Exchange Act and
without material restrictions under the Blue Sky or securities laws of
substantially all of the states of the United States. Such condition will be
deemed to be satisfied unless a holder provides Holding with an opinion of
counsel reasonably satisfactory to Holding to the effect that the New
Debentures received by such holder will not be tradeable without restriction
under the Securities Act and the Exchange Act and without material restrictions
under the Blue Sky laws of substantially all of the states of the United
States. Holding may waive this condition.
If the condition described above exists, Holding will be entitled to
refuse to accept any Old Debentures and, in the case of such refusal, will
return tendered Old Debentures to exchanging holders of Old Debentures. See
"The Exchange Offer."
EXCHANGE AGENT
State Street Bank and Trust Company, the Trustee under the Indenture, has
been appointed as Exchange Agent for the Exchange Offer. Questions and requests
for assistance and requests for additional copies of this Prospectus or of the
Letter of Transmittal should be directed to the Exchange Agent addressed as
follows:
By Hand and Overnight Delivery in Boston:
State Street Bank and Trust Company
Two International Place
Boston, Massachusetts 02110
Attention: Corporate Trust Department
By Hand in New York (as Drop Agent):
State Street Bank and Trust Company, N.A.
61 Broadway, 15th Floor
Corporate Trust Window
New York, New York 10006
By mail:
State Street Bank and Trust Company
P.O. Box 778
Boston, Massachusetts 02102
Attention: Corporate Trust Department
Telephone: (617) 664-5587
26
FEES AND EXPENSES
The expenses of soliciting tenders pursuant to the Exchange Offer will be
borne by Holding. The principal solicitation for tenders pursuant to the
Exchange Offer is being made by mail. Additional solicitations may be made by
officers and regular employees of Holding and its affiliates in person, by
facsimile or telephone.
Holding will not make any payments to brokers, dealers or other persons
soliciting acceptances of the Exchange Offer. Holding, however, will pay the
Exchange Agent reasonable and customary fees for its services and will
reimburse the Exchange Agent for its reasonable out-of-pocket expenses in
connection therewith.
The registration expenses to be incurred in connection with the Exchange
Offer, including fees and expenses of the Exchange Agent and Trustee and
accounting and legal fees, will be paid by Holding. Holding has agreed to pay,
subject to the instructions in the Letter of Transmittal, all transfer taxes,
if any, relating to the sale or disposition of such Holders' Old Debentures
pursuant to the Exchange Offer. If, however, certificates representing New
Debentures or Old Debentures for principal amounts not tendered or accepted for
exchange are to be delivered to, or are to be registered or issued in the name
of any person other than the registered Holder of the Old Debentures tendered,
or if tendered Old Debentures are registered in the name of any person other
than the person signing the Letter of Transmittal, or if a transfer tax imposed
for any reason other than the exchange of Old Debentures pursuant to the
Exchange Offer, then the amount of any such transfer taxes (whether imposed on
the registered Holder or any other persons) will be payable by the tendering
Holder. If satisfactory evidence of payment of such taxes or exemption
therefrom is not submitted with the Letter of Transmittal, the amount of such
transfer taxes will be billed directly to such tendering holder.
ACCOUNTING TREATMENT
No gain or loss for accounting purposes will be recognized by Holding upon
the consummation of the Exchange Offer. The expenses of the Exchange Offer will
be amortized by Holding over the term of the New Debentures under generally
accepted accounting principles.
27
CAPITALIZATION
The following table sets forth the consolidated cash and cash equivalents
and capitalization of Holding at March 31, 1998 (i) on an actual basis and (ii)
on a pro forma basis giving effect to the Refinancing and the 3M Acquisition.
This table should be read in conjunction with "Use of Proceeds," the Company's
Consolidated Financial Statements and notes thereto and Holding's Unaudited Pro
Forma Condensed Consolidated Financial Data and notes thereto included
elsewhere in this Prospectus.
AT MARCH 31, 1998
-------------------------------
ACTUAL PRO FORMA
----------- -----------------
(IN THOUSANDS)
Cash and cash equivalents .................. $ 988 $ 3,462
========= =========
Debt:
Bridge Notes (1) .......................... $ 123,500 $ --
Credit Agreement (2) ...................... 1,600 --
Debentures ................................ -- 25,962
Notes ..................................... -- 115,000
Other (3) ................................. 3,679 3,679
--------- ---------
Total debt .............................. 128,779 144,641
--------- ---------
Stockholder's equity:
Common stock .............................. -- --
Additional paid-in capital ................ 78,363 78,363
Accumulated deficit ....................... (1,284) (2,938)(4)
Cumulative translation adjustment ......... (76) (76)
Carryover basis adjustment ................ (15,730) (15,730)
--------- ---------
Total stockholder's equity .............. 61,273 59,619
--------- ---------
Total capitalization ....................... $ 190,052 $ 204,260
========= =========
- ----------
(1) The Bridge Notes mature on December 15, 1998 and, therefore, are
classified on Holding's consolidated balance sheet as a current liability
in accordance with GAAP.
(2) At March 31, 1998, on a pro forma basis, after giving effect to the
Refinancing and the consummation of the 3M Acquisition, Holding expects
to have available borrowings of up to $19,400, which is net of
outstanding letters of credit, under the Credit Agreement for working
capital and general corporate purposes, subject to a borrowing base
calculation and the achievement of certain financial ratios and
compliance with certain conditions.
(3) Includes the Scent Seal Note in the amount of $1,438, which was issued in
connection with the Company's acquisition of Scent Seal, Inc. in 1995.
See "Description of Certain Indebtedness--Scent Seal Note." Also includes
capital lease obligations of $2,241.
(4) Increase results from the write-off of the unamortized deferred financing
costs associated with the Bridge Notes, net of the related tax benefit.
28
SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA
The selected historical consolidated financial data presented below as of
June 30, 1993 and November 3, 1993 and for the fiscal year ended June 30, 1993
and the period from July 1, 1993 to November 3, 1993 have been derived from the
historical consolidated financial statements of the original predecessor of the
Company (the "Original Predecessor") prior to its acquisition by the
Predecessor. The selected historical consolidated financial data presented
below as of June 30, 1994, 1995, 1996 and 1997, March 31, 1997 and December 15,
1997, and for the fiscal years ended June 30, 1995, 1996 and 1997, the nine
months ended March 31, 1997 and the periods from November 4, 1993 to June 30,
1994 and from July 1, 1997 to December 15, 1997 have been derived from the
historical consolidated financial statements of the Predecessor. The selected
historical consolidated financial data presented below as of March 31, 1998 and
for the period from December 16, 1997 to March 31, 1998 have been derived from
the historical consolidated financial statements of Holding. The historical
financial data as of March 31, 1997 and 1998 and December 15, 1997 and for the
nine months ended March 31, 1997, the period from July 1, 1997 to December 15,
1997 and the period from December 16, 1997 to March 31, 1998 have been derived
from the unaudited consolidated financial statements of the Predecessor and
Holding, which, in the opinion of management, include all adjustments
(consisting only of normal recurring adjustments) necessary for a fair
presentation of the financial condition and results of operations as of such
dates and for such periods. The information contained in this table should be
read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations," and the Company's Consolidated Financial
Statements and the notes thereto included elsewhere in this Prospectus.
ORIGINAL PREDECESSOR PREDECESSOR
------------------------ ------------------------------------------------
FISCAL
YEAR JULY 1, NOVEMBER 4,
ENDED 1993 TO 1993 TO FISCAL YEAR ENDED JUNE 30,
JUNE 30, NOVEMBER 3, JUNE 30, ----------------------------------
1993 1993 1994 1995 1996 1997
---------- ------------- ------------- ---------- ---------- ------------
(DOLLARS IN THOUSANDS)
STATEMENT OF OPERATIONS DATA:
Net sales .......................... $ 42,674 $19,941 $ 18,213 $61,794 $ 73,486 $ 77,723
Cost of goods sold ................. 23,214 11,172 12,042 38,333 49,862 49,467
-------- ------- -------- ------- -------- ----------
Gross profit ....................... 19,460 8,769 6,171 23,461 23,624 28,256
Selling, general and
administrative expenses ........... 5,627 2,950 4,809 8,483 10,655 13,353
Amortization of goodwill ........... 224 78 723 1,113 1,214 1,214
-------- ------- -------- ------- -------- ----------
Income from operations ............. 13,609 5,741 639 13,865 11,755 13,689
Interest expense, net .............. 478 -- 3,718 6,170 6,762 6,203
Fees to stockholders ............... 300 102 197 470 470 470
Other, net ......................... (4,149) 2,462 2,754 (22) 244 (101)
Income tax expense
(benefit) ......................... 6,600 1,310 (1,946) 3,114 2,101 3,135
-------- ------- -------- ------- -------- ----------
Net income (loss) .................. $ 10,380 $ 1,867 $ (4,084) $ 4,133 $ 2,178 $ 3,982
======== ======= ======== ======= ======== ==========
BALANCE SHEET DATA (AT END OF
PERIOD):
Cash and cash equivalents .......... $ 1,425 $ 68 $ 3,728 $ 4,196 $ 626 $ 303
Working capital (deficit) .......... 5,324 2,288 3,593 39 (4,685) (36,957)
Total assets ....................... 23,520 28,320 72,754 85,695 82,395 77,142
Total debt and redeemable
preferred stock ................... -- 850 61,025 64,655 60,736 54,964
Total stockholder's equity ......... 19,416 16,940 2,927 6,572 7,932 11,225
OTHER DATA:
Capital expenditures ............... 2,769 1,109 1,184 1,325 2,051 2,462
Ratio of earnings to fixed
charges (2) ....................... n/m n/m -- 2.2x 1.6x 2.1x
PREDECESSOR HOLDING
-------------------------- -------------------
NINE
MONTHS JULY 1, 1997 DECEMBER 16,
ENDED TO 1997 TO
MARCH 31, DECEMBER 15, MARCH 31,
1997 1997 1998
----------- -------------- -------------------
(DOLLARS IN THOUSANDS)
STATEMENT OF OPERATIONS DATA:
Net sales .......................... $62,367 $ 35,186 $ 21,982
Cost of goods sold ................. 39,529 22,809 13,782
------- -------- ------------
Gross profit ....................... 22,838 12,377 8,200
Selling, general and
administrative expenses ........... 10,470 5,712 3,189
Amortization of goodwill ........... 911 559 1,125
------- -------- ------------
Income from operations ............. 11,457 6,106 3,886
Interest expense, net .............. 4,694 2,646 5,163
Fees to stockholders ............... 353 215 63
Other, net ......................... (266) 11 (15)
Income tax expense
(benefit) ......................... 2,852 1,441 (41)
------- -------- ------------
Net income (loss) .................. $ 3,824 $ 1,793 $ (1,284)
======= ======== ============
BALANCE SHEET DATA (AT END OF
PERIOD):
Cash and cash equivalents .......... $ 628 $ 4,481 $ 988
Working capital (deficit) .......... 2,417 (4,959) (107,821)(1)
Total assets ....................... 83,283 77,399 202,667
Total debt and redeemable
preferred stock ................... 60,092 55,408 128,779
Total stockholder's equity ......... 11,273 12,716 61,273
OTHER DATA:
Capital expenditures ............... 1,839 807 255
Ratio of earnings to fixed
charges (2) ....................... 2.4x 2.2x --
- ----------
(1) The Bridge Notes mature on December 15, 1998 and, therefore, are
classified on Holding's consolidated balance sheet as a current liability
in accordance with GAAP, the result of which is a substantial working
capital deficit.
(2) For purposes of calculating the ratio of earnings to fixed charges,
"earnings" represent income (loss) before income taxes plus fixed
charges. "Fixed charges" consist of interest on all indebtedness and
amortization of deferred financing costs. Earnings were not sufficient to
cover fixed charges by $6,030 and $1,325 for the periods from November 4,
1993 to June 30, 1994 and from December 16, 1997 to March 31, 1998,
respectively.
29
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the more
detailed information and Consolidated Financial Statements of the Company
included elsewhere in this Prospectus.
GENERAL
The capital stock of the Company accounts for all of Holding's assets.
Holding conducts all of its business through the Company. The Company's sales
are derived from the sale of sampling products to cosmetics and consumer
products companies. Substantially all of the Company's sales are made directly
to its customers while a small portion are made through advertising agencies.
Each customer's sampling program is unique and pricing is negotiated based on
estimated costs plus a margin. While the Company and its customers do not enter
into long-term contracts, the Company has had long-standing relationships with
the majority of its customer base. Historically, the Company's sales have been
derived from the Company's traditional fragrance sampling products, while sales
from several of the Company's new products, such as BeautiSeal, PowdaTouch and
LiquaTouch, are included in the Company's results of operations for only a
portion of the periods discussed below or are included in such periods at
initial levels of sales that reflect only introductory product volumes.
The Company's sales are seasonal due to the timing of its customers' major
advertising campaigns, which have traditionally been concentrated prior to the
Christmas and spring holiday seasons. Sales are recognized when products are
shipped. As a result, a higher level of sales are reflected in the Company's
first two fiscal quarters ended December 31 when sales from such advertising
campaigns are principally recognized while the Company's fourth fiscal quarter
ended June 30 typically reflects the lowest sales level of the fiscal year.
Sampling programs are generally quoted to the Company's customers, based on
their specifications, four to six months prior to production and firm orders
are generally received by the Company one to two months prior to production.
See "Risk Factors--Dependence on Fragrance Industry; Seasonality."
Cost of goods sold, which represented 63.6% of net sales in Fiscal 1997,
consists principally of materials (paper, plastic, foil, ink, packaging
materials and outsourced materials), direct labor, depreciation and overhead
costs. Materials and direct labor are variable components while overhead is
principally fixed. Fixed overhead costs (excluding depreciation) represented
approximately 9.4% of net sales in Fiscal 1997 and include indirect
departmental compensation, occupancy costs and equipment maintenance.
Paper is the primary raw material utilized by the Company and accounted
for approximately one-third of cost of goods sold in Fiscal 1997. During the
10-month period from November 1994 to September 1995, paper prices to the
Company increased approximately 36.0%. The average price of paper was
approximately 14.8% greater in Fiscal 1996 than in Fiscal 1995 and had an
adverse impact on the Company's results of operations in Fiscal 1996. As a
result of the paper price increases in Fiscal 1996, the Company changed its
pricing policy for sampling program quotes to customers and made them subject
to paper price increases. However, since the change in such policy, the Company
has not sought to change quoted prices to a customer based on paper price
increases and there can be no assurance that a customer would accept such
change. Accordingly, the Company seeks to reduce its exposure to changes in
paper prices by managing its paper inventory and the time between the quoting
and actual production of sampling campaigns while still attempting to preserve
the ability to adjust quoted pricing based on paper price increases. See "Risk
Factors--Raw Materials--Paper."
Selling, general & administrative expenses, which represented 17.2% of net
sales in Fiscal 1997, consist mainly of employee compensation, marketing and
advertising expenses, professional and legal fees and occupancy costs of the
sales and laboratory facilities.
The cosmetics industry has experienced, and is continuing to experience,
significant consolidation. Management believes that such consolidation
positively impacts the sampling market, since larger cosmetics companies tend
to spend more on product sampling to support their brands throughout the
product life cycle, compared with smaller cosmetics companies, which tend to
use sampling primarily in new product launches. However, industry consolidation
has also negatively impacted the sampling market
30
by temporarily decreasing the amount that smaller companies, which are targets
of consolidation, spend on sampling products in anticipation of, and during,
the consolidation process.
COST REDUCTION PROGRAM
The Company is implementing a comprehensive program to reduce annual
operating costs by approximately $4.0 million. The comprehensive cost reduction
program was developed by the Company in connection with an evaluation of its
operations conducted by manufacturing consultants with significant experience
in the printing industry and is designed to improve the Company's operating
efficiency through (i) reduced materials cost derived from scrap/waste
reduction and from more effective purchasing, (ii) streamlined manufacturing
processes that reduce the amount of time required to prepare for successive
production runs utilizing the same equipment and that reduce the amount of time
equipment is under utilized by improved scheduling of production runs and (iii)
rationalized staffing in the product support area. Management expects the
benefit of the materials cost reductions and rationalized staffing will begin
to be realized in the short term, while the benefits of a streamlined
manufacturing process are expected to be realized incrementally through June
1999.
RESULTS OF OPERATIONS
Interim 1998 Period Compared to Interim 1997 Period
Net Sales. Net sales for the Interim 1998 Period decreased $5.2 million,
or 8.3%, to $57.2 million as compared to $62.4 million for the Interim 1997
Period. The majority of this decrease was attributable to three core customers'
advertising decreases on new product launches and existing products as a result
of a management restructuring at two of these customers and the sale of one of
them. This decrease was partially offset by increased sales of sampling
products to other categories of the cosmetics industry as well as increased
sales to the consumer products market. In addition, the Company expanded its
sales of sampling products in Europe.
Gross Profit. Gross profit for the Interim 1998 Period decreased $2.2
million, or 9.6%, to $20.6 million as compared to $22.8 million for the Interim
1997 Period. Gross profit as a percentage of net sales decreased to 36.0% in
the Interim 1998 Period from 36.5% in the Interim 1997 Period. The gross profit
decline was primarily attributable to the absorption of fixed overhead,
depreciation costs and equipment reconfiguration costs created by shorter
production runs due to lower volume.
Selling, General & Administrative Expenses. Selling, general &
administrative expenses for the Interim 1998 Period decreased $1.6 million, or
15.2%, to $8.9 million as compared to $10.5 million for the Interim 1997
Period. The decrease in selling, general & administrative expenses was
primarily attributable to a decrease in sales commissions resulting from the
decreased level of sales and a decrease in legal costs related to the Company's
pursuit of a patent infringement claim in the Interim 1997 Period. In addition,
the Company also had decreased expenses in the Interim 1998 Period versus the
Interim 1997 Period related to the consolidation of certain acquired
technologies and certain expenses relating to reorganizing the management
structure at the Company's European subsidiary. As a result of these factors,
selling, general & administrative expenses as a percentage of net sales
decreased to 15.6% in the Interim 1998 Period from 16.8% in the Interim 1997
Period.
Income from Operations. Income from operations for the Interim 1998 Period
decreased $1.5 million, or 13.0%, to $10.0 million as compared to $11.5 million
for the Interim 1997 Period. Income from operations as a percentage of net
sales decreased to 17.5% in the Interim 1998 Period from 18.4% in the Interim
1997 Period principally as a result of the factors described above and the
increase in amortization of goodwill resulting from the Acquisition.
EBITDA. EBITDA for the Interim 1998 Period decreased $0.8 million, or
5.2%, to $14.5 million as compared to $15.3 million for the Interim 1997
Period. EBITDA as a percentage of net sales increased to 25.3% in the Interim
1998 Period from 24.5% in the Interim 1997 Period principally as a result of
the factors described above.
31
Fiscal 1997 Compared to Fiscal 1996
Net Sales. Net sales for Fiscal 1997 increased $4.2 million, or 5.7%, to
$77.7 million as compared to $73.5 million in Fiscal 1996. The increase is
primarily attributable to volume increases related to core customers'
advertising expenditure increases on new product launches and existing
products.
Gross Profit. Gross profit for Fiscal 1997 increased $4.7 million, or
19.9%, to $28.3 million, as compared to $23.6 million in Fiscal 1996. Gross
profit as a percentage of net sales improved to 36.4% in Fiscal 1997 from 32.1%
in Fiscal 1996. Gross profit improvements reflected decreased materials costs
as a result of paper price decreases and increased operating efficiency gained
from moving the production of an acquired business from outside sources to
internal facilities.
Selling, General & Administrative Expenses. Selling, general &
administrative expenses for Fiscal 1997 increased $2.7 million, or 25.2%, to
$13.4 million as compared to $10.7 million in Fiscal 1996. The increase in
selling, general & administrative expenses was primarily attributable to an
increase in legal costs as the Company pursued a patent infringement claim
against a competitor. Additional increases were related to reorganizing the
management structure of the Company's European subsidiary, increases in
customer service and sales staffing and increased commissions related to sales
volume increases. As a result of these factors, selling, general &
administrative expenses as a percentage of net sales increased to 17.2% in
Fiscal 1997 from 14.6% in Fiscal 1996.
Income from Operations. Income from operations for Fiscal 1997 increased
$1.9 million, or 16.1%, to $13.7 million as compared to $11.8 million in Fiscal
1996. Income from operations as a percentage of net sales increased to 17.6% in
Fiscal 1997 from 16.1% in Fiscal 1996 principally as a result of the factors
described above.
EBITDA. EBITDA for Fiscal 1997 increased $2.6 million, or 16.0% to $18.8
million as compared to $16.2 million in Fiscal 1996. EBITDA as a percentage of
net sales increased to 24.2% in Fiscal 1997 from 22.0% in Fiscal 1996
principally as a result of the factors described above.
Fiscal 1996 Compared to Fiscal 1995
Net Sales. Net sales for Fiscal 1996 increased $11.7 million, or 18.9%, to
$73.5 million as compared to $61.8 million in Fiscal 1995. The Company acquired
a new product technology at the end of Fiscal 1995, which was marketed and sold
to the Company's customers and accounted for approximately $9.7 million of the
increase in net sales. The remaining increase was attributable to sales of
another new product in the first year subsequent to its introduction.
Gross Profit. Gross profit for Fiscal 1996 increased $0.1 million, or
0.4%, to $23.6 million, as compared to $23.5 million in Fiscal 1995. Gross
profit as a percentage of net sales decreased to 32.1% in Fiscal 1996 from
38.0% in Fiscal 1995. The decline in the gross profit percentage was primarily
attributable to increases in paper prices and the higher cost of temporarily
outsourcing production of product technologies acquired at the end of Fiscal
1995 as compared to the cost of internal production. In addition, plant
overhead costs increased primarily as a result of additional plant management
personnel and quality control staff required to serve increased sales volume;
shipping costs also increased as new products were sent from U.S. production
facilities to the European market.
Selling, General & Administrative Expenses. Selling, general &
administrative expenses for Fiscal 1996 increased $2.2 million, or 25.9%, to
$10.7 million as compared to $8.5 million in Fiscal 1995. The increase was
primarily attributable to the acquisition of a new product technology,
restructuring costs following the reacquisition of the Company's European
license and increased staff and consultant costs related to product improvement
and development. As a result of these factors, selling, general &
administrative expenses as a percentage of net sales increased to 14.6% in
Fiscal 1996 from 13.8% in Fiscal 1995.
Income from Operations. Income from operations for Fiscal 1996 decreased
$2.1 million, or 15.1%, to $11.8 million as compared to $13.9 million in Fiscal
1995. Income from operations as a percentage of net sales decreased to 16.1% in
Fiscal 1996 from 22.4% in Fiscal 1995 principally as a result of the factors
described above.
32
EBITDA. EBITDA for Fiscal 1996 decreased $1.3 million, or 7.4% to $16.2
million as compared to $17.5 million in Fiscal 1995. EBITDA as percentage of
net sales decreased to 22.0% in Fiscal 1996 from 28.3% in Fiscal 1995
principally as a result of the factors described above.
LIQUIDITY AND CAPITAL RESOURCES
Holding has substantial indebtedness and significant debt service
obligations. As of March 31, 1998, on a pro forma basis after giving effect to
the Refinancing and the 3M Acquisition, Holding would have had consolidated
indebtedness in an aggregate amount of $144.6 million. For certain information
regarding Holding's outstanding indebtedness, see "Description of Certain
Indebtedness" and "Description of New Debentures." The Indenture under which
the Old Debentures were and the New Debentures will be issued and the Credit
Agreement referred to below permit Holding and its Restricted Subsidiaries to
incur additional indebtedness, subject to certain limitations.
In addition, the Indenture contains certain covenants that, among other
things, limit the ability of Holding and its Restricted Subsidiaries to: (i)
pay dividends or make certain restricted payments; (ii) incur additional
indebtedness and issue preferred stock; (iii) create liens; (iv) incur dividend
and other payment restrictions affecting subsidiaries; (v) enter into mergers,
consolidations or sales of all or substantially all of the assets of Holding or
the Company, as the case may be; (vi) enter into certain transactions with
affiliates; and (vii) sell certain assets. In addition, the Credit Agreement
requires the Company to maintain specified financial ratios and satisfy certain
financial condition tests. See "Description of Certain Indebtedness" and
"Description of New Debentures--Certain Covenants."
Borrowings under the Credit Agreement are limited to a maximum amount
equal to $20.0 million ($19.4 million as of March 31, 1998, on a pro forma
basis, after giving effect to the Refinancing and the consummation of the 3M
Acquisition), subject to a borrowing base calculation and the achievement of
certain financial ratios and compliance with certain conditions. The interest
rate for borrowings under the Credit Agreement are determined from time to time
based on the Company's choice of formulas, plus a margin. The Credit Agreement
will mature on December 31, 2002. See "Description of Certain
Indebtedness--Credit Agreement."
Holding is a holding company whose only asset is all of the outstanding
capital stock of the Company. Holding conducts all of its business through the
Company. Holding's cash flow, and consequently its ability to service debt,
including its obligations under the Indenture, is dependent upon the cash flows
of its subsidiaries and the payment of funds by such subsidiaries to Holding in
the form of loans, dividends or otherwise. Holding's subsidiaries have no
obligations, contingent or otherwise, to pay any amounts due pursuant to the
New Debentures or to make any funds available therefor. In addition, the
Company's Credit Agreement and the Notes Indenture imposes, and agreements
entered into in the future may impose, significant restrictions on the payment
of dividends and the making of loans by the Company and its subsidiaries to
Holding. Accordingly, repayment of the New Debentures may depend upon the
ability of Holding to effect an equity offering or to refinance the Debentures.
Holding's principal liquidity requirements are for debt service
requirements under the Debentures. Historically, the Company has funded its
capital, debt service and operating requirements with a combination of net cash
provided by operating activities, which were $5.3 million, $8.9 million for
Fiscal 1996 and Fiscal 1997, respectively, together with borrowings under
revolving credit facilities. In the case of the Interim 1998 Period, cash
totaling $4.8 million was used by operating activities as a result of the
funding of the costs of the Acquisition.
Net cash generated by operating activities in Fiscal 1997 resulted mainly
from net income before depreciation and amortization. Key elements of changes
in net cash from operating activities were decreases in trade accounts
receivable that were principally offset by decreases in income taxes, accounts
payable and accrued expenses.
In Fiscal 1997, the Company had capital expenditures of approximately $2.5
million. The Company has budgeted approximately $2.0 million for capital
expenditures in the fiscal year ended June 30, 1998,
33
$1.1 million of which has been spent as of March 31, 1998. The Company expects
to fund capital expenditures budgeted for the remainder of fiscal year 1998
through a combination of borrowings under the Credit Agreement and cash
generated from operations.
On June 22, 1998, the Company closed the 3M Acquisition, pursuant to which
the Company acquired the fragrance sampling business of the Industrial and
Consumer Products division of 3M for approximately $7.25 million in cash and
the assumption of certain liabilities. The Company intends to relocate all of
the business operations acquired in the 3M Acquisition to its existing
facilities to utilize excess capacity at such facilities. See "The
Transactions."
The Company may from time to time evaluate other potential acquisitions.
The Company expects that funding for future acquisitions may come from a
variety of sources, depending on the size and nature of any such acquisition.
Potential sources of capital include cash generated from operations, borrowings
under the Credit Agreement, additional equity investments or other external
debt or equity financings. There can be no assurance that such additional
capital sources will be available to the Company on terms that the Company
finds acceptable, or at all.
On June 30, 1998, the Company repurchased 80,000 shares of preferred stock
of Acquisition Corp. for $2.0 million in cash pursuant to the exercise of Mr.
Barnett's Put Option (as defined herein). See "Certain Relationships and
Related Transactions--Employment Arrangements."
Holding believes that, in the absence of future acquisitions, its
liquidity, capital resources and cash flows from existing operations will be
sufficient to fund budgeted capital expenditures, working capital requirements
and interest and principal payments on its indebtedness, including the
Debentures.
INFLATION
Inflation has not had nor is it expected to have a significant effect on
the Company's business or operations.
SEASONALITY
Historically, the Company's sales and operating results have reflected
seasonal variations. The seasonality of the Company's sales and operating
results is significantly influenced by the timing of its customers' advertising
campaigns, which have traditionally been concentrated prior to the Christmas
and spring holiday seasons. See "Risk Factors--Dependence on Fragrance
Industry; Seasonality."
YEAR 2000 ISSUES
The Company has reviewed its computer systems in order to assess its
exposure to Year 2000 issues. The Company expects to make the necessary
modifications or changes to its computer information systems to enable proper
processing of transactions relating to the Year 2000 and beyond. Management
does not expect that such modifications will require material expenditures on
the part of the Company. The Company has and will continue to evaluate
appropriate courses of action, including replacement of certain systems whose
associated costs would be recorded as assets and subsequently amortized.
However, there can be no assurance that costs and expenses or other matters
relating to Year 2000 issues will not have a material impact on the Company's
financial condition or results of operations.
EUROPEAN MONETARY UNIT
The Company has not implemented a strategy to address European monetary
unit issues related to its computer system. Management does not expect that any
costs related to such strategy will require material expenditures on the part
of the Company.
34
ENVIRONMENTAL AND SAFETY REGULATION
The Company's operations are subject to extensive laws and regulations
relating to the storage, handling, emission, transportation and discharge of
materials into the environment and the maintenance of safe conditions in the
workplace. The Company's policy is to comply with all legal requirements of
applicable environmental, health and safety laws and regulations, and the
Company believes it is in general compliance with such requirements and has
adequate professional staff and systems in place to remain in compliance,
although there can be no assurances that this is the case. The Company
considers costs for environmental compliance to be a normal cost of doing
business, and includes such costs in pricing decisions.
35
BUSINESS
THE COMPANY
The Company is the leading global marketer and manufacturer of cosmetics
sampling products, including fragrance, skin care and makeup samplers. The
Company produces a range of proprietary and patented product samplers that can
be incorporated into various print media principally designed to reach the
consumer in the home, such as magazine inserts, catalog inserts, remittance
envelopes, statement enclosures and blow-ins. The Company is the only sampling
company positioned to provide complete marketing and sampling programs to its
customers, including creative content and sample production and distribution.
The Company's customers include most of the world's largest cosmetics
companies, such as Calvin Klein Cosmetics (Unilever Plc), Chanel, Inc.,
Christian Dior Perfumes Inc., Coty Inc., Elizabeth Arden (Unilever Plc), Estee
Lauder, Inc., Giorgio Beverly Hills (The Procter & Gamble Company), L'Oreal
S.A./Cosmair, Inc., Revlon, Inc. and Sanofi Beaute, Inc.
Sampling is one of the most effective and widely used promotional
practices for consumer products. Product sampling expenditures have increased
faster than any other form of consumer promotional expenditure from 1992 to
1996, the last year for which data is available. Product sampling is
particularly critical to the cosmetics industries, where consumers generally
must try products prior to purchase because of their uniquely personal nature.
The Company's introduction in 1979 of the ScentStrip (Registered Trademark)
sampler, the first pull-apart microencapsulated fragrance sampler, transformed
the fragrance industry by providing the first cost-effective means to reach
consumers in their homes on a mass scale by combining advertising and product
sampling. All of the Company's sampling products are approved by the U.S.
Postal Service for inclusion in subscription magazines at periodical postage
rates, which is a more cost-effective means of reaching consumers than
alternatives such as direct mail or newsstand magazine distribution. While the
Company's ScentStrip sampler remains the most widely used technology in the
sampling industry, the Company continues to be the leading innovator in the
sampling industry through its development of alternative sampling technologies,
all of which are designed for cost-effective mass distribution.
In recent years, the Company has complemented its fragrance sampling
business by focusing its research and development efforts on new product
technologies and sampling solutions for the skin care, makeup and consumer
products markets. While product sampling is critical to the success of these
products, sampling programs for these products have been constrained
historically by the characteristics of the available sampling alternatives.
Most sampling programs have consisted of relatively limited in-store or direct
mail efforts because existing samples have been too costly to produce in mass
quantities and have been incapable of being efficiently incorporated into
magazines, catalogs and other print advertising. Since June 1997, the Company
has introduced three innovative product sampling technologies to address this
need, providing the first cost-effective means to reach consumers in their
homes on a mass scale with samples of these products. Management believes these
new technologies have fundamentally altered the economics and efficiencies of
product sampling in these markets. Existing customers such as Chanel, Christian
Dior, Estee Lauder, L'Oreal/Cosmair and Revlon have utilized these new
technologies in sampling programs for their cosmetics products, such as skin
care and liquid makeup. The Company has also created and produced initial
sampling programs for new consumer products customers.
On June 22, 1998, the Company closed the 3M Acquisition, pursuant to which
the Company acquired the fragrance sampling business of the Industrial and
Consumer Products division of 3M for approximately $7.25 million in cash and
the assumption of certain liabilities. See "The Transactions."
COMPETITIVE ADVANTAGES
Founded in 1902 as a printing company, the Company has been the market
leader in fragrance sampling since its introduction of the ScentStrip sampler
almost two decades ago and has recently expanded the application of its
sampling technologies to new markets. Management believes that the Company has
significant competitive advantages compared to other sampling companies:
o Full product line. The Company is unique in the breadth of its product
line, which includes a full range of fragrance sampling products and
innovative new technologies for sampling skin care and
36
makeup products. The Company offers nine distinct sampling products,
while none of the Company's major competitors offers more than three
sampling technologies. Although most major cosmetics companies generate
significant revenues in each of the fragrance, makeup and skin care
categories, the Company is the only sampling provider that offers
sampling products for all such categories of products.
o Technological leadership. The Company is the technological leader in
the cosmetics sampling industry, and has introduced almost every major
fragrance sampling technology to the market since its introduction of the
ScentStrip sampler in 1979. Management believes that its product
development program is the largest and most effective in the cosmetics
sampling industry. Over the past three years, the Company's increased
emphasis on new product research and development has expanded the size of
the potential sampling market through the introduction of new
technologies, such as BeautiSeal (Trade Mark) , LiquaTouch (Trade Mark)
and PowdaTouch (Trade Mark) samplers, which target the skin care and
makeup categories. Seven of the Company's nine major sampling
technologies are patented or have patents pending, and all are approved
by the U.S. Postal Service for inclusion in subscription magazines.
Competing sampling technologies that are not approved for inclusion in
subscription magazines are more expensive to mass distribute. In
addition, the Company has developed certain proprietary manufacturing
techniques that management believes provide the Company with a
competitive advantage.
o Low cost, highest quality producer. The Company is the most vertically
integrated manufacturing company in the sampling industry as all of its
major competitors source all or part of their products from third-party
manufacturers. Management believes that the Company's high degree of
vertical integration, together with the high volume resulting from the
Company's market share position, provides the Company with certain cost
and quality advantages. In addition, unlike some of its major
competitors, which are divisions of large companies, management believes
that the Company's focus on the product sampling industry allows it to
produce the highest quality product offering in the industry. Management
believes this focus on quality is a competitive advantage because the
Company's customers are reluctant to jeopardize an expensive product
launch by using an unproven sampling source that may not provide
consumers with an accurate first exposure to a sampled product.
o Strong customer relationships. More than 75% of Fiscal 1997 net sales
were generated by sales to customers that have been doing business with
the Company for the past five years or longer. The Company is proactive
in proposing innovative campaigns and sampling solutions, which result in
strong relationships with its customers. The Company has long-standing
relationships with the key marketing, purchasing and technical executives
at most of the world's leading cosmetics companies. It has also developed
relationships with flavor and fragrance companies, media companies and
leading retailers servicing the cosmetics industry.
o Superior customer service. Managing sampling programs is highly service
intensive and the Company has the most experienced customer service
representatives in the industry. As cosmetics companies seek to
streamline their purchasing operations, the Company's ability to provide
complete marketing and sampling programs is becoming increasingly
important. Management believes that the Company's ability to provide
excellent customer service is a competitive advantage for the Company,
particularly with regard to department store sampling programs, such as
catalog inserts, billing enclosures and remittance envelopes, which
require significant coordination with individual retailers.
o Sole global provider. The Company is the only sampling company to
provide local sales, service and production capabilities on a global
basis. The major cosmetics companies are increasingly global, and the
Company's ability to service these customers in Europe, the United States
and Southeast Asia is becoming increasingly important. The Company
currently has sales offices in New York, San Francisco, Paris, France and
London, England and sales agents in Sydney, Australia and Caracas,
Venezuela. In addition, the Company has third-party manufacturing
capabilities in Europe and Australia to complement its established
domestic manufacturing operations.
37
BUSINESS STRATEGY
Management's goal is to enhance the Company's position as the leading
global marketer and manufacturer of cosmetics sampling products and position
itself for growth in the consumer products sampling market, while increasing
its profitability. To achieve this goal, management is pursuing a strategy
based on the following elements:
o Leverage existing customer relationships to expand into new cosmetics
categories. Almost all of the Company's sales have historically been in
the fragrance category, but for many of the Company's cosmetics
customers, fragrance represents a small portion of their total sales.
Management estimates that skin care and makeup sales account for
approximately two-thirds of all cosmetics industry sales, while sampling
for such products accounts for less than one-fourth of all cosmetics
sampling units. Historically, most skin care and makeup sampling programs
have consisted of relatively limited in-store or direct mail efforts
because existing samples have been too costly to produce in mass
quantities and too expensive to incorporate into subscription magazines
and other forms of distribution. Since June 1997, the Company has
introduced three innovative product sampling technologies for the makeup
and skin care categories, which provide a cost effective means to reach
consumers in their homes. Management believes that these innovative new
technologies, together with its established cosmetics industry customer
relationships, position the Company for future growth in this area.
o Penetrate the consumer products market. Management believes that the
Company has significant opportunities to increase its existing sampling
business by applying its cost-effective sampling technologies to new
end-user categories within the consumer products market. The consumer
products market is significantly larger than the Company's traditional
fragrance market.
o Continue implementation of cost reduction program. The Company is
implementing a comprehensive program to reduce annual operating costs by
approximately $4.0 million. The comprehensive cost reduction program was
developed by the Company in connection with an evaluation of its
operations conducted by manufacturing consultants with significant
experience in the printing industry and is designed to improve the
Company's operating efficiency through (i) reduced materials cost derived
from scrap/waste reduction and from more effective purchasing, (ii)
streamlined manufacturing processes that reduce the amount of time
required to prepare for successive manufacturing jobs utilizing the same
equipment and (iii) rationalized staffing in the product support area.
Management expects the benefit of the materials cost reductions and
rationalized staffing will begin to be realized in the short term, while
the benefits of a streamlined manufacturing process are expected to be
realized incrementally through June 1999.
o Increase international sales. Since reacquiring its European license
with respect to its sampling technologies in August 1994, the Company has
significantly increased revenues from European customers and is the
leading fragrance sampling company in Europe. Management estimates that
the fragrance sampling industry in Europe is only approximately 20% of
the size of the fragrance sampling industry in the United States, even
though the size of the fragrance markets in Europe and the United States
are comparable. Management believes that European cosmetics companies
have preferred fragrance renditions that contain alcohol rather than
microencapsulated renditions. Given product innovations such as the
Company's Scent Seal (Registered Trademark) and LiquaTouch samplers
(which are alcohol-based sampling systems), the increasing globalization
of the cosmetics industry and the success of sampling techniques in the
U.S. market, management believes that the use of sampling will continue
to become more widespread in Europe.
SAMPLING INDUSTRY
Market and industry data used throughout this section were obtained from
internal surveys and industry publications. Industry publications generally
indicate that the information contained therein has been obtained from sources
believed by the Company to be reliable, but that the accuracy and completeness
of such information is not guaranteed. The Company has not independently
verified such market data. Similarly, internal surveys, while believed by the
Company to be reliable, have not been verified by any independent source.
38
Sampling is utilized by 90% of packaged goods manufacturers in their
consumer promotion mix in support of both established and new products. Product
sampling expenditures have increased faster than any other form of consumer
promotional expenditure from 1992 to 1996, the last year for which data is
available, and is particularly important in the fragrance and cosmetics
industries, where consumers generally try products prior to purchase because of
the uniquely personal nature of such products.
Management believes that the fundamentals of the sampling industry are
attractive. Declining store traffic has made the distribution of samples to
consumers' homes increasingly important. In addition, cosmetics products have
been characterized by shorter product life cycles and increased dependence on
new products for growth, both of which tend to increase manufacturer demand for
product samples to generate initial product trials. The cosmetics industry has
experienced, and is continuing to experience, significant consolidation.
Management believes that such consolidation positively impacts the sampling
market, since larger cosmetics companies tend to spend more on product sampling
to support their brands throughout the product life cycle, compared with
smaller cosmetics companies, which tend to use sampling primarily in new
product launches. However, industry consolidation has also negatively impacted
the sampling market by temporarily decreasing the amount that smaller
companies, which are targets of consolidation, spend on sampling products in
anticipation of, and during, the consolidation process.
Fragrance sampling market. The introduction in 1979 of the ScentStrip
sampler, the first pull-apart microencapsulated fragrance sampler, had a
significant impact on the fragrance category of the cosmetics industry by
providing the first cost-effective means to reach the consumer on a mass scale
through subscription magazines or direct mail, rather than relying on store
traffic to hand out vials or scented blotter cards. This development
contributed to significant growth in the U.S. fragrance category from
approximately $2.0 billion in 1980 to approximately $6.0 billion in 1996.
Shorter product lives and increased reliance on large product launches
require more promotional spending by manufacturers in order to distinguish new
fragrances. Between approximately $10.0 million and $25.0 million are spent to
launch a major new fragrance, with approximately 20% to 30% of the budget
allocated to sampling programs.
Skin care and makeup sampling market. The skin care category generated
approximately $4.5 billion in sales in the United States during 1996 and is the
fastest growing category in the cosmetics industry. Such growth is based
primarily on changing consumer demographics, as aging baby boomers look for
ways to maintain a youthful appearance, and the fast pace of product
innovation. Cosmetics companies launched more than 700 new skin care products
in 1996, approximately ten times the number of fragrances introduced that year.
The makeup category accounted for approximately $3.8 billion in annual sales in
the United States in 1997. The skin care category generally includes skin
lotions, treatments, toners and astringents, and the makeup category generally
includes liquid and powder makeup.
Historically, most cosmetic sampling programs have consisted of relatively
limited in-store or direct-mail efforts because traditional sampling
alternatives including miniatures, vials, packettes, sachets and blisterpacks,
have been too costly to produce in mass quantities and too inefficient to
incorporate into magazines, catalogs and other print advertising. Management
estimates that skin care and makeup sales account for approximately two-thirds
of all cosmetics industry sales, while sampling for such products account for
less than one-fourth of all cosmetics sampling units.
The Company's new product sampling technologies allow marketers for the
first time to cost-effectively reach consumers in their homes through
subscription magazines. Home sampling for skin care products and makeup is
important because such products are ideally sampled on clean skin in the
morning or evening. In addition, mass marketers have had limited opportunities
to sample their products in-store because there is generally no in-store
service person and most current methods of in-store sampling are viewed by
consumers as unsanitary. By providing cost-effective sampling technologies that
can be delivered on a mass scale to consumers' homes in a sanitary manner,
management believes that the Company's new sampling technologies will rapidly
become the industry standard for skin care and makeup sampling.
39
Consumer products sampling market. The consumer products market is
significantly larger than the Company's traditional fragrance market. The
Company believes the household and personal care products industry alone is
approximately $75.0 billion, or approximately 12 times the size of the
Company's traditional fragrance market. By comparison, the U.S. fragrance
market is approximately $6.0 billion, and the entire U.S. cosmetics and
toiletries market is approximately $29.0 billion. The Company has a significant
opportunity to apply its technology to the food, beverage, household and
personal care markets.
International sampling market. The fragrance sampling industry in Europe
is only approximately 20% of the fragrance sampling industry in the United
States, although the size of the fragrance markets in Europe and the United
States are comparable in size. Management believes that European cosmetics
companies have preferred fragrance renditions that contain alcohol rather than
traditional microencapsulated renditions, and the Company's alcohol-based
sampling systems, such as Scent Seal samplers and LiquaTouch samplers have been
very successful as a result. Scent Seal technology is the leading fragrance
sampling product in Europe, and the LiquaTouch technology is being well
received as a cost-effective alternative to fragrance vials and miniatures.
Management believes that this market will grow as sampling formats successfully
used in the United States are adopted in Europe.
PRODUCTS
The Company offers a broad and unique line of sampling product
technologies for the fragrance, skin care, makeup and consumer products
markets. The Company's major technologies are described below, including a
description of the patent protection of each such product technologies. See
"Risk Factors--Competition" and "--Patents and Proprietary Technology."
YEAR OF PATENT TARGET
PRODUCT INTRODUCTION ORIGIN PROTECTION MARKET
- -------------------------------- -------------- ---------------------- ---------------- -------------------------------------
Fragrance Samplers:
ScentStrip .................... 1979 internally developed -- fragrance, consumer products
ScentStrip Plus ............... mid 1980's internally developed -- fragrance
DiscCover ..................... 1994 licensed patented fragrance, consumer products
Scent Seal .................... 1995 acquired patented fragrance
Resealable ScentStrip ......... 1997 internally developed patent pending fragrance, consumer products
New Products:
BeautiSeal .................... 1997 internally developed patent pending liquid makeup, skin care (lotions,
treatments)
PowdaTouch .................... 1997 internally developed patent pending powder cosmetics
LiquaTouch .................... 1997 internally developed patent pending liquid fragrance, skin care (toners,
astringents)
LipSeal ....................... pending internally developed patent pending lipstick
Fragrance samplers. The Company has five different traditional fragrance
sampling products, which have historically accounted for substantially all of
the Company's sales. While the ScentStrip product technology continues to be
the most widely used technology in the fragrance sampling industry, management
believes that the Company's new fragrance sampling technologies have maintained
the Company's competitive position as an innovator in the industry. As a
result, the Company has played a sampling role in most major fragrance launches
in recent years, including such high-profile campaigns as Calvin Klein
Cosmetics' launch of CK One in 1994, Estee Lauder's launches of Pleasures in
1996 and Pleasures for Men in 1997, and Tommy Hilfiger's launch of Tommy in
1996 and Tommy Girl in 1997. Other examples of the Company's diverse experience
in the fragrance industry include successful sampling programs for (i) private
label retailers, including The Gap and Victoria's Secret, (ii) Donna Karan to
introduce its home fragrance line and (iii) Coty to introduce its aromatherapy
products with an innovative combination of Resealable ScentStrip Plus and Scent
Seal samplers.
o ScentStrip: The Company's original pull-apart microencapsulated
fragrance sampler. ScentStrip delivers to the consumer the most
cost-effective rendition of a fragrance.
o ScentStrip Plus: Adds a powdery texture to the microencapsulated
fragrance of ScentStrip.
40
o Resealable ScentStrip: Adds an innovative closure to ScentStrip that
opens and reseals up to 25 times.
o DiscCover: A "peel and reveal," non-encapsulated fragrance label
sampling technology that opens and reseals up to 25 times, which is
versatile and color printable and can be die-cut to nearly any shape and
size.
o Scent Seal: A heat-sealed, pouch-like label technology that peels open
to reveal a moist, wearable gel sample that consumers can actually
experience on skin. Scent Seal samplers are the leading fragrance
sampling technology in the European market.
New products. The Company has recently introduced three innovative new
products, which management expects to account for a significant portion of the
Company's sales in the future. The Company is also in the final stages of
developing LipSeal, a lipstick sampler, which management expects to market in
mid-1998. All of these new sampling technologies have been approved by the U.S.
Postal Service for inclusion in subscription magazines at periodical postage
rates.
o BeautiSeal: A heat-sealed, pouch-like label technology that peels open
to deliver cream and lotion treatments, liquid makeup and lipstick
directly into the hands of consumers in an inexpensive, spill-proof
format. The BeautiSeal sampler is less expensive and more versatile than
existing skin care sampling alternatives. For example, a two-sided,
printed insert incorporating a BeautiSeal sampler generally costs less
than half the cost to manufacture and distribute in magazines than an
equivalent sample packette. This product is the only skin treatment and
liquid makeup sampling technology approved by the U.S. Postal Service for
inclusion in subscription magazines at periodical postage rates. Because
of these advantages, management believes that the BeautiSeal technology
has been extremely well received in the market to date and is a
particularly attractive sampling vehicle for mass-cosmetic marketers who
have very few cost-effective alternatives to mass sample their products.
The product was introduced in featured advertisements for Estee Lauder's
flagship skin care product, Fruition Extra, in the August 1997 editions
of several magazines. Though the BeautiSeal technology was at the time
untested, management believes that Estee Lauder's BeautiSeal campaign was
the largest skin treatment sampling program in the history of Estee
Lauder.
o PowdaTouch: Offers color marketers a superior rendition of the actual
powder shade, texture, application and finish of their products.
PowdaTouch applies up to four different shades to sample a single item
shade range or a complete color line at a much lower cost than competing
technologies. Management estimates that PowdaTouch samplers can be
produced at a rate that is approximately ten times faster than competing
products and at a reduced production cost.
o LiquaTouch: The only sampling technology containing an
alcohol-formulated fragrance with an applicator that is approved by the
U.S. Postal Service for inclusion in subscription magazines at periodical
postage rates. LiquaTouch is a finalist of the Fragrance Foundation's
prestigious award for "Innovation of the Year" for 1997. Equally
appropriate for liquid skin care treatment products, LiquaTouch samplers
allow consumers to experience product texture, application and benefit in
a format that can be die-cut to nearly any shape or bottle replica.
Management believes that this new form of sampling will compete very
favorably with fragrance sampling in vials and sachets, in-store handouts
and direct-mail pieces in addition to providing a new opportunity for
subscription magazines. Management expects to generate additional
fragrance and skin treatment sales from its LiquaTouch technology. While
BeautiSeal samplers are ideally suited for treatment creams, LiquaTouch
samplers are expected to be very attractive for clear liquid products,
such as cleansers, astringents and toners.
FORMATS
The Company's products are versatile and can be incorporated into
virtually any print media. All of the Company's sampling products are currently
approved by the U.S. Postal Service for inclusion in subscription magazines at
periodical postage rates. The most common formats for the Company's products
are described below.
41
Magazine Inserts. Magazine inserts are available in half-, full-, two- and
four-page formats, can be die-cut and can contain any of the Company's product
sampling technologies. Magazine inserts are the most common format for the
Company's products, accounting for approximately 45% of Fiscal 1997 sales.
Catalog Inserts. This format consists of full color inserts available in a
variety of sizes for insertion into catalogs. They are produced with or without
built-in return envelopes, which are generally used to order products from the
catalog as well as the advertised fragrance or other cosmetics product. Inserts
may also be custom imprinted with retail store information. The Company has the
capability to develop and fill catalog insert orders for complicated designs
and formats.
Remittance Envelopes. The Company is the only sampling company to produce
remittance envelopes in-house. This is a highly customized service business,
which reinforces the Company's position as the only full-service supplier of
samplers. The Company can incorporate each of its product technologies (other
than BeautiSeal) into this format. Remittance envelopes are inserted into store
statement mailings and are customized with the store logo. The Company also
provides unscented envelopes.
Statement Enclosures. Statement enclosures are available in various
formats and sizes. For fragrance sampling, enclosures may contain a single
scent in their fold, one or two scents under the fragrance panel, or they may
be die-cut so that the fragrance can be sampled by removing the desired die
shape. Enclosures are normally imprinted with the individual store logos and
product pricing information. The six-inch enclosure is the Company's design and
has become the industry's standard size.
Blow-Ins. Blow-ins incorporating all of the Company's sampling
technologies have become popular in the past two years. These pieces are
loosely inserted into store catalogs and newspaper or magazine formats instead
of being bound in and are available in all formats and sizes.
In-Store Handouts. The Company has made significant inroads into replacing
and expanding current methods of in-store cosmetic and fragrance sampling.
Because of the lower cost and design flexibility of the Company's products
relative to other sampling technologies, marketers of cosmetics and fragrances
have greatly expanded the number and type of in-store samples. New and creative
formats that the Company has originated in cooperation with its customers
include scented postcards, scented stickers, scented wristbands, scented
bookmarks and scented CD inserts. Management expects a significant in-store
handout business for the BeautiSeal and PowdaTouch technologies (to sample
shade ranges and formulae) and for the LiquaTouch technology as an alternative
to fragrance vials.
PATENTS AND PROPRIETARY TECHNOLOGY
The Company currently holds patents covering the proprietary manufacturing
processes used to produce two of its products and has submitted applications
for patents covering six additional manufacturing processes. The Company has
ongoing research efforts and expects to seek additional patents in the future
covering patentable results of such research. There can be no assurance that
any pending patent applications filed by the Company will result in patents
being issued or that any patents now or hereafter owned by the Company will
afford protection against competitors with similar technology, will not be
infringed upon or designed around by others or will not be challenged by others
and held to be invalid or unenforceable. In addition, many of the Company's
manufacturing processes are not covered by any patent or patent application. As
a result, the business of the Company may be adversely affected by competitors
who independently develop technologies substantially equivalent to those
employed by the Company. See "Risk Factors--Competition."
CUSTOMERS
The Company sells its products to prestige and mass cosmetics companies,
consumer product companies, department stores and specialty retailers including
Calvin Klein Cosmetics (Unilever Plc), Chanel, Inc., Christian Dior Perfumes,
Inc., Coty Inc., Elizabeth Arden (Unilever Plc), Estee Lauder, Inc., Giorgio
Beverly Hills (The Procter & Gamble Company), L'Oreal S.A./Cosmair, Inc.,
Revlon, Inc. and Sanofi Beaute, Inc. The Company's top ten customers accounted
for approximately 61% of total sales in
42
Fiscal 1997 and each of Estee Lauder, Inc. and The Procter & Gamble Company
accounted for in excess of 10% of the Company's net sales in Fiscal 1997. The
Company believes that its technical expertise, manufacturing reliability and
customer support capabilities have enabled it to develop strong relationships
with its customers. The Company employs sales and marketing personnel who
possess the requisite technical backgrounds to communicate effectively with
both prospective customers and the Company's manufacturing personnel.
Historically, the Company has had long-term relationships with its major
customers. See "Risk Factors--Reliance Upon Significant Customers."
SALES AND MARKETING
The Company's President and Chief Executive Officer and the Company's
Senior Vice President of Sales and Marketing closely supervise the Company's
sales and marketing efforts, which are organized geographically. The U.S. sales
and marketing group includes five senior officers, six senior account
executives and three sales support staff. In Europe, the sales and marketing
group consists of two senior officers, two senior account representatives and
three sales support staff. In addition, the Company has ten customer service
representatives who manage production details and magazine and store approvals.
All sales are organized geographically and by account, with each major account
being serviced by one account representative and two customer service
representatives. All Company sales representatives and a portion of the
Company's customer service representatives are compensated on a commission
basis in addition to a base level of compensation.
The Company's marketing activities include direct contact with senior
executives in the cosmetic and fragrance industry, major support of industry
events, extensive joint marketing programs with magazines, retailers and oil
houses, press coverage in industry trade publications, trade shows and
seminars, advertising in trade publications and promotional pieces. In
addition, the Company focuses its sales efforts toward three principal groups
within its customer's organization that management believes influence the
customer's purchasing decision: (i) marketing, which selects the sampling
technology and controls the promotional budget; (ii) product development, which
approves the Company's sampling rendition and approves stability testing; and
(iii) purchasing, the group responsible for buying the sampling pieces and
controlling quality. Management believes that as the pressure for creativity
increases with each new product introduction, fragrance marketers are
increasingly looking for their vendors to contribute to the overall
strategy-building effort for a new fragrance. The Company's executives
routinely introduce new sampling formats and ideas based on the Company's
technologies to the marketing departments of its customers. The Company's
in-house creative and marketing expertise and complete product line provides
customers with maximum flexibility in designing promotional programs.
MANUFACTURING
The Company's manufacturing processes are highly technical and largely
proprietary. The Company's sampling products must meet demanding performance
specifications regarding fidelity to the product being sampled, shelf-life,
resistance to pressure and temperature variations and various other
requirements. The manufacturing processes can be broken into three phases: (i)
formulation of cosmetic and fragrance bulk in the Company's slurry laboratories
for use in sampling products; (ii) manufacturing the sampler, which consists of
either printing an encapsulated slurry onto paper or producing sampling labels
that contain fragrance or other cosmetic bulk; and (iii) for labeling
technologies (DiscCover, Scent Seal, BeautiSeal, LiquaTouch), affixing the
labels onto a piece preprinted by the Company or a third party contract
supplier.
Management believes that the Company's formulation capabilities are the
best in the cosmetics sampling industry. The formulation process is highly
complex because the Company is trying to replicate the fragrance of a product
in a bottle containing an alcohol solution using primarily essential oils and
paper. This translation process is very difficult to achieve particularly as
the Company's customers have become much more demanding about which particular
notes of fragrance they wish the Company to emphasize in its fragrance
formulations. Formulation approval is an iterative process between the Company
and its customers that can take up to 75 submissions, as the Company uses
different formulations to replicate the overall smell of the fragrance and
emphasize those fragrance notes which are
43
most important to the customer. The Company has more than 50 different,
proprietary formulations that it utilizes in replicating different
characteristics of the fragrance to obtain a customer-approved rendition.
Certain of these formulations are patented and the majority of the formulation
process is based on unique and proprietary methods. Because a supplier of
fragrance samples must have its formulation approved before it can be
considered for a sampling program, the Company's formulation expertise
typically allows it to become the first fragrance sampler manufacturer approved
on a new fragrance. Formulation of the fragrance and cosmetic bulk is performed
under very strict tolerances and in complete conformity to the formula that the
customer has preapproved. Formulation is conducted in the Company's specially
designed formulation laboratories by trained specialists.
The Company has two different sampling component manufacturing processes:
(i) for its formulated paper samplers (ScentStrip, ScentStrip Plus, PowdaTouch)
and (ii) for its formulated label samplers (DiscCover, Scent Seal, BeautiSeal,
LiquaTouch). Formulated paper samplers are produced in the Company's primary
facility where the Company carefully applies microencapsulated slurry onto the
paper during the printing process and, in a continuous in-line operation,
folds, cuts and trims the samplers for packing. The Company's manufacturing
line consists of printing equipment that has been specially modified to apply
fragrance or powder in a controllable form. The Company has 24-hour quality
control personnel who check the application of the sampling formulation every
hour on every press to ensure conformity and rendition with the original,
customer-approved formula. This quality control function and hourly
accountability provide significant value to the product development personnel
at the Company's customers, who are responsible for sample quality.
All sampling in a label form is produced on specially modified label and
finishing equipment in the Company's second facility. In addition to the
patents pending on certain of its manufacturing processes, the Company uses a
number of proprietary techniques in producing label samplers. Similar to the
formulated paper operation, sampling quality control personnel evaluate all
samples by roll and provide full accountability for the Company's production.
The artwork for all printed pieces is typically furnished by the customer
or its advertising agency. The Company's prepress department has a camera and
plate-making department that follows extensive quality control procedures. The
Company has the capability to produce printed materials of the highest quality,
including the covers of major fashion magazines in connection with fragrance
samplers on the inside.
SOURCES AND AVAILABILITY OF RAW MATERIALS
Historically, the raw materials used by the Company in the manufacturing
of its products have been readily available from numerous suppliers and have
been purchased by the Company at prices that the Company believes are
competitive. Substantially all of the Company's encapsulated paper products for
the domestic market products utilize specific grades of paper that are produced
exclusively for the Company by one supplier. The Company has not experienced
any material supply shortages nor are any anticipated. See "Risk Factors--Raw
Materials--Paper."
COMPETITION
The Company's competitors, some of whom have substantially greater capital
resources than the Company, are actively engaged in manufacturing certain
products similar to, or in competition with, those of the Company. Competition
in the Company's markets is based upon product quality, product technologies,
customer relationships, price and customer service. Upon consummation of the 3M
Acquisition, the Company's principal competitors in the printed fragrance
sampler market will be Webcraft, a subsidiary of Big Flower Holdings, Inc.,
Orlandi Inc., Retail Communications Corp. and Quebecor Printing (USA) Corp. The
Company's fragrance sampler products also compete with other forms of fragrance
sampling, including miniatures, vials, packettes, sachets, blisterpacks and
scratch and sniff. Such additional forms of fragrance sampling are marketed and
manufactured by many different companies including cosmetics companies
producing such products for its own fragrance products. The Company's principal
competitors in the makeup sampler market are Color Prelude Inc. and Retail
Communications Corp. Management believes that the Company currently has no
direct competition in
44
the subscription advertising, skin care and liquid makeup sampling market,
which has traditionally used packettes that are more costly and less versatile
than the Company's product sampling technologies. However, there can be no
assurance that competitors will not develop makeup sampling technologies
superior to the Company's or introduce attractive alternatives for cosmetics
companies to utilize for makeup sampling programs. See "Risk
Factors--Competition" and "--The Company."
ENVIRONMENTAL AND SAFETY REGULATION
The Company's operations are subject to extensive laws and regulations
relating to the storage, handling, emission, transportation and discharge of
materials into the environment and the maintenance of safe conditions in the
workplace. The Company's policy is to comply with all legal requirements of
applicable environmental, health and safety laws and regulations, and the
Company believes it is in general compliance with such requirements and has
adequate professional staff and systems in place to remain in compliance,
although there can be no assurances that this is the case. The Company
considers costs for environmental compliance to be a normal cost of doing
business, and includes such costs in pricing decisions.
FACILITIES
The Company owns the land and buildings in Chattanooga, Tennessee that are
used for production, administration and warehousing. The Company's executive
offices and primary facility at 1815 East Main Street are located on 2.55 acres
and encloses approximately 67,900 square feet. A second facility housing
product development and additional manufacturing areas at 1600 East Main Street
is located three blocks away on 2.49 acres and encloses approximately 36,700
square feet.
The Company currently has a number of web printing presses with
multi-color capability as well as envelope-converting machines and other
ancillary equipment. The Company operates a fully equipped production lab for
the manufacture of microcapsules and slurry and separate laboratories for the
Company's Encapsulated Products Division and the Company's research and
development facility. The Company also has a fully staffed and equipped label
manufacturing facility, which includes state-of-the-art label manufacturing
machines that have been specially modified to produce the Company's products
and a complete label attaching operation. The Company also maintains sales
offices in New York, San Francisco, Paris, France and London, England.
EMPLOYEES
As of June 30, 1998, the Company employed 331 persons, which includes 204
hourly and 127 salaried and management personnel. Substantially all of the
Company's hourly employees are represented by the Graphics Communications
International Union (GCIU) local 197M. Management considers its relations with
the union to be good. The current union contract was signed in 1996 and will be
in effect through April 1, 1999.
LEGAL PROCEEDINGS
The Company does not believe that there are any pending legal proceedings
that, if adversely determined, would have a material adverse effect on the
financial condition or results of operations of the Company, taken as a whole.
45
THE TRANSACTIONS
THE ACQUISITION
DLJMBII and certain members of the Company's management organized
Acquisition Corp. in connection with the Acquisition. The total cost of the
Acquisition (including related fees and expenses) was approximately $205.7
million. Non-cash costs of the Acquisition totaling approximately $6.2 million
were funded by (i) the assumption of the Scent Seal Note and certain capital
lease obligations and (ii) the rollover of equity interests in the Company by
the Company's Chief Executive Officer. See "Description of Certain
Indebtedness." To provide the cash necessary to fund the Acquisition, including
the equity purchase price and the retirement of all existing preferred stock
and debt of the Company not assumed, (i) the Company issued $123.5 million in
Bridge Notes to an affiliate of DLJMBII and the Initial Purchaser and (ii)
Acquisition Corp. received $76.0 million from debt and equity (common and
preferred) financings, including equity investments by the Company's Chief
Executive Officer and certain other prior stockholders. As of June 22, 1998,
(i) DLJMBII held an aggregate of approximately 81.3% of the outstanding common
stock of Acquisition Corp. and (ii) the Company's Chief Executive Officer held
an aggregate of approximately 12.1% of the outstanding common stock of
Acquisition Corp. See "Risk Factors--Control by DLJMBII" and "Security
Ownership of Certain Beneficial Owners and Management." Acquisition Corp. has
adopted a stock option plan for management of Acquisition Corp., Holding and
the Company and granted options thereunder to the Company's Chief Executive
Officer. See "Management--Equity-Based Compensation."
3M ACQUISITION
On June 22, 1998, the Company closed the 3M Acquisition. The Company
intends to relocate all of the business operations acquired in the 3M
Acquisition to its existing facilities to utilize current excess capacity at
such facilities. Management believes that in order to properly service the
incremental sales volume associated with the 3M Acquisition, several additional
sales, marketing and administrative employees will be hired. However, the
Company believes that due to the similarity of its existing customers and 3M's
existing customers, no other additional employee hiring will be required as a
result of the 3M Acquisition.
THE OFFERINGS
On June 25, 1998, Holding consummated the Debenture Offering. The Old
Debentures were sold pursuant to exemptions from, or in transactions not
subject to, the registration requirements of the Securities Act. In addition,
on June 25, 1998, the Company consummated the Note Offering. The Notes were
sold pursuant to exemptions from, or in transactions not subject to, the
registration requirements of the Securities Act. The consummation of the
Debenture Offering occurred concurrently with and was conditioned upon, the
consummation of the Note Offering.
46
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS OF HOLDING AND THE COMPANY
The following table sets forth certain information with respect to the
directors and executive officers of Holding and the Company.
NAME AGE POSITION
- ------------------------------ ----- ------------------------------------------------
Thompson Dean ................ 40 Chairman of the Board and Director
Roger L. Barnett ............. 33 President, Chief Executive Officer and Director
Barry W. Miller .............. 46 Chief Operating Officer
Kenneth A. Budde ............. 49 Chief Financial Officer
Hugh R. Kirkpatrick .......... 61 Director
Mark Michaels ................ 38 Director
David M. Wittels ............. 33 Director
THOMPSON DEAN has served as Chairman of the Board and director of the
Company since December 1997. Mr. Dean is the Managing Partner of DLJ Merchant
Banking II, Inc. ("DLJ Merchant Banking"), the general partner of DLJ Merchant
Banking Partners II, L.P. and an affiliate of the Initial Purchaser. Mr. Dean
serves as a director of Commvault Inc., Von Hoffman Press, Inc., Manufacturers'
Services Limited and Phase Metrics, Inc.
ROGER L. BARNETT has served as President of the Company since 1995 and
director of the Company since November 1993. From 1994 to 1995, Mr. Barnett
served as Senior Vice President and Vice President of the Company. From 1991
until his employment by the Company, Mr. Barnett was a member of the banking
group at Lazard Freres & Company, an investment banking firm.
BARRY W. MILLER has served as Chief Operating Officer of the Company since
May 1998. From 1994 to 1997, Mr. Miller served as President of Precision
Printing and Packaging, Inc., a subsidiary of Anheuser-Busch Companies, Inc.
Prior to that, Mr. Miller served as Chief Executive Officer of International
Label from 1987 to 1993.
KENNETH A. BUDDE has served as Chief Financial Officer of the Company
since November 1994. From October 1988 to June 1994, Mr. Budde served as
Controller and Chief Financial Officer of Southwestern Publishing Company.
Prior to that, Mr. Budde spent 12 years with KPMG Peat Marwick.
HUGH R. KIRKPATRICK has served as a director of the Company since June
1998. Mr. Kirkpatrick is a former director of International Flavors &
Fragrances, Inc. where he served as Senior Vice President and President,
Worldwide Fragrance Division, from 1991 through his retirement in 1996.
MARK MICHAELS has served as director of the Company since June 1998. Mr.
Michaels has been a Principal of DLJ Merchant Banking since 1997. Prior
thereto, Mr. Michaels was a consultant with McKinsey & Company, Inc. from 1987
to 1996.
DAVID M. WITTELS has served as a director of the Company since December
1997. Mr. Wittels is a Principal of DLJ Merchant Banking and has served in
various capacities with DLJ Merchant Banking since 1986. Mr. Wittels serves as
a director of McCulloch Corp. and Wilson Greatbatch Limited.
COMPENSATION OF DIRECTORS
Except for Hugh R. Kirkpatrick, directors of the Company will not receive
compensation for services rendered in that capacity, but will be reimbursed for
out-of-pocket expenses incurred by them in connection with their travel to and
attendance at board meetings and committees thereof. Mr. Kirkpatrick will
receive an annual fee of $20,000 per year plus reasonable out-of-pocket
expenses in connection with his travel to and attendance at meetings of the
Board of Directors and committees thereof. In addition, it is expected Mr.
Kirkpatrick will be granted options to purchase shares of common stock, par
value $.01 per share, of Acquisition Corp. ("Acquisition Corp. Common Stock")
under the Option Plan (as defined) on terms to be established by the Board of
Directors.
47
EXECUTIVE COMPENSATION
The following table sets forth certain information for the three most
recently completed fiscal years with respect to the compensation of the
Company's Chief Executive Officer and its other most highly compensated
executive officers (collectively, the "named executive officers") whose total
annual compensation exceeded $100,000.
SUMMARY COMPENSATION TABLE
FISCAL ALL OTHER
NAME AND PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION(1)
- ----------------------------------- -------- ----------- ---------- ----------------
Roger L. Barnett .................. 1998 $367,083 $ -- $3,670
President, Chief Executive Officer 1997 210,000 275,000 5,700
and Director 1996 210,000 225,000 6,856
Hugh F. Brown (2) ................. 1998 145,000 100,000 3,384
Executive Vice President 1997 145,000 100,000 5,700
Manufacturing 1996 145,000 100,000 5,636
Kenneth A. Budde .................. 1998 120,000 50,000 --
Chief Financial Officer 1997 100,000 50,000 --
1996 100,000 20,000 --
- ----------
(1) Represents amounts contributed on behalf of the named executive to the
Company's 401(k) retirement savings plan.
(2) Mr. Brown resigned from the Company in July 1998. Effective September
1998, Mr. Brown is expected to become a consultant to the Company.
EMPLOYMENT AGREEMENTS
Barnett Agreement
The Company entered into an employment agreement with Mr. Barnett dated as
of June 17, 1998 (the "Barnett Agreement"). Pursuant to the Barnett Agreement,
Mr. Barnett will serve as President and Chief Executive Officer of the Company
for a term of three years. Mr. Barnett will receive an annual base salary of
$500,000 plus an annual bonus of up to 100% of his base salary contingent upon
the Company achieving certain financial performance targets set forth in the
Barnett Agreement. Mr. Barnett is also entitled to receive certain perquisites
commensurate with his position with the Company.
In the event of Mr. Barnett's resignation with "good reason" or
termination by the Company for any reason other than "cause" (each as defined
in the Barnett Agreement) or Mr. Barnett's death or disability, Mr. Barnett
will be entitled to certain severance payments. The Barnett Agreement also
includes a non-competition provision pursuant to which Mr. Barnett may be
prohibited for a period of two years following his termination or resignation
from engaging in certain activities that are competitive with the Company's
business.
In connection with the execution of the Barnett Agreement, Mr. Barnett
entered into a put option agreement with Acquisition Corp. and DLJMBII dated
June 17, 1998 (the "Put Option Agreement"). Pursuant to the Put Option
Agreement, Acquisition Corp. granted Mr. Barnett an irrevocable option (the
"Put Option") to require Acquisition Corp. to purchase certain preferred equity
interests of Mr. Barnett representing 80,000 shares of preferred stock of
Acquisition Corp. for $2.0 million in cash. Mr. Barnett exercised the Put
Option on July 30, 1998.
Miller Agreement
Mr. Miller is presently retained as Chief Operating Officer pursuant to an
employment agreement that provides for an annual base salary of $220,000 and an
annual bonus of up to 100% of his base salary upon achievement by the Company
of certain financial performance targets. The Company also supplies
48
Mr. Miller with other customary benefits and perquisites as generally made
available to other senior executives of the Company. The term of the employment
agreement, which expires on June 30, 2001, automatically renews for additional
twelve-month terms, unless either Mr. Miller or the Company elects otherwise.
EQUITY-BASED COMPENSATION
Acquisition Corp. has adopted a 1998 Stock Option Plan (the "Option Plan")
for certain key employees and directors of Acquisition Corp. and any parent or
subsidiary corporation of Acquisition Corp. The objectives of the Option Plan
are (i) to retain the services of persons holding key positions and to secure
the services of persons capable of filling such positions and (ii) to provide
persons responsible for the future growth of Acquisition Corp. an opportunity
to acquire a proprietary interest in the Company and thus create in such key
employees an increased interest in and a greater concern for the welfare of the
Company.
The Option Plan authorizes the issuance of options to acquire up to 80,000
shares of Acquisition Corp. Common Stock. The Option Plan will be administered
by the Board of Directors or the Compensation Committee thereof designated by
the Board of Directors (the "Committee"). Pursuant to the Option Plan,
Acquisition Corp. may grant options, including options that become exercisable
as performance standards determined by the Committee are met, to key employees
and directors of Acquisition Corp. and any parent or subsidiary corporation.
The terms of any such grant will be determined by the Committee and set forth
in a separate grant agreement. The exercise price will be at least equal to the
fair market value per share of Acquisition Corp. Common Stock on the date of
grant, provided that the exercise price shall not be less than $1.00 per share.
Options may be exercisable for up to ten years. The Committee has the right to
accelerate the right to exercise any option granted under the Option Plan
without effecting the expiration date thereof. Upon the occurrence of a change
in control (as defined therein) of Acquisition Corp., each option may, at the
discretion of the Committee, be terminated upon notice to the holder thereof
and each such holder will receive, in respect of each share of Acquisition
Corp. Common Stock for which such option is then exercisable, an amount equal
to the excess of the then fair market value of such share of Acquisition Corp.
Common Stock over the per share exercise price.
On June 17, 1998, Acquisition Corp. granted to Mr. Barnett options to
purchase 32,500 shares of Acquisition Corp. Common Stock under the Option Plan,
pursuant to option letter agreements between Acquisition Corp. and Mr. Barnett
(the "Option Agreements"). Under the terms of the Option Agreements, 16,250 of
the options granted to Mr. Barnett are designated as "time-vesting" options
(the "Time-Vesting Options") and 16,250 of the options granted to Mr. Barnett
are designated as "standard" options (the "Standard Options"). All of the
Time-Vesting and Standard Options have an exercise price of $1.00 per share.
The Time-Vesting Options become exercisable as to one-third of the
Acquisition Corp. Common Shares subject thereto on June 30, 1999, and are
thereafter exercisable as to an additional one-third of such Acquisition Corp.
Common Shares on June 30, 2000 and 2001, respectively. To the extent not
previously exercised or exercisable, upon a Change In Control (as defined in
the Option Agreements), the Time-Vesting Options shall immediately become
exercisable to purchase 100% of the Acquisition Corp. Common Shares subject
thereto.
The Standard Options become exercisable as to various percentages of the
Acquisition Corp. Common Shares subject thereto beginning June 30, 1999 and on
June 30, 2000 and June 30, 2001, based on the achievement of certain
established financial performance targets for the years then ended; provided
that the Standard Options become exercisable as to 100% of the Shares subject
thereto on June 16, 2006. Upon a Change In Control, 100% of the Standard
Options eligible to become vested on the date of such Change In Control shall
automatically vest and become exercisable if DLJMBII shall have realized
certain returns on their equity investment in Acquisition Corp.
While no final determinations have been made, it is expected that Mr.
Miller and certain other members of management will be granted options under
the Option Plan to purchase shares of Acquisition Corp. Common Stock. It is
expected that a portion of these options will be Time-Vesting Options and the
remainder will be Standard Options.
49
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT
All of the Company's issued and outstanding capital stock is owned by
Holding. All of Holding's issued and outstanding capital stock is owned by
Acquisition Corp. The following table sets forth certain information as of the
date of this Prospectus with respect to the beneficial ownership of Acquisition
Corp. Common Stock by (i) owners of more than five percent of such Acquisition
Corp. Common Stock, (ii) each director and named executive officer of the
Company and (iii) all directors and executive officers of Acquisition Corp.,
Holding and the Company, as a group.
PERCENTAGE OF
OUTSTANDING
SHARES ACQUISITION CORP.
BENEFICIAL OWNER BENEFICIALLY OWNED COMMON STOCK
- ------------------------------------------------------------------------ -------------------- ------------------
DLJ Merchant Banking Partners II, L.P. and related investors (1) (2).... 903,111 81.3%
Thompson Dean (3) ...................................................... -- --
Roger L. Barnett (2) ................................................... 134,325 12.1
Hugh R. Kirpatrick ..................................................... -- --
Mark Michaels (3) ...................................................... -- --
David M. Wittels (3) ................................................... -- --
Barry W. Miller ........................................................ -- --
Kenneth A. Budde ....................................................... -- --
All directors and executive officers as a group (2) (3) ................ 136,950 12.1
- ----------
(1) Consists of shares held directly by the following affiliated investors:
DLJ Merchant Banking Partners II, L.P.; DLJ Merchant Banking Partners
II-A, L.P. ("DLJMBII-A"); DLJ Offshore Partners II, C.V. ("Offshore
Partners II"); DLJ Diversified Partners, L.P. ("Diversified Partners");
DLJ Diversified Partners-A, L.P. ("Diversified Partners-A"); DLJMB
Funding II, Inc. ("DLJ Funding II"); DLJ Millennium Partners, L.P.
("Millennium Partners"); DLJ Millennium Partners-A, L.P., ("Millennium
Partners-A"); DLJ EAB Partners, L.P. ("EAB Partners"); UK Investment Plan
1997 Partners ("UK Partners"); and DLJ First ESC L.P. ("First ESC"). See
"Certain Relationships and Related Transactions--Transactions with
DLJMBII and their Affiliates" and "Plan of Distribution." The address of
each of DLJMBII, DLJMBII-A, Diversified Partners, Diversified Partners-A,
DLJ Funding II, Millennium Partners, Millennium Partners-A, EAB Partners
and First ESC is 277 Park Avenue, New York, New York 10172. The address
of Offshore Partners II is John B. Gorsiraweg 14, Willemstad, Curacao,
Netherlands Antilles. The address of UK Partners is 2121 Avenue of the
Stars, Fox Plaza, Suite 3000, Los Angeles, California 90067. Does not
include 18,000 shares of Acquisition Corp. Common Stock held directly by
the Bridge Lender, an affiliate of DLJMBII and the Initial Purchaser.
(2) See "Certain Relationships and Related Transactions."
(3) Messrs. Dean, Michaels and Wittels are officers of DLJ Merchant Banking,
an affiliate of DLJMBII and the Initial Purchaser. Share data shown for
such individuals excludes shares shown as held by DLJMBII, as to which
such individuals disclaim beneficial ownership. The address of each of
Messrs. Dean, Michaels and Wittels is 277 Park Avenue, New York, New York
10172.
50
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
TRANSACTIONS WITH DLJMBII AND THEIR AFFILIATES
Messrs. Dean, Michaels and Wittels, who are directors of the Company and
officers and directors of Holding and Acquisition Corp., are officers of DLJ
Merchant Banking. DLJ Merchant Banking, together with DLJMBII, beneficially
own, in the aggregate, approximately 81.3% of the outstanding Acquisition Corp.
Common Stock. See "Risk Factors--Control by DLJMBII."
The Initial Purchaser is also an affiliate of DLJ Merchant Banking and
DLJMBII and has acted as financial advisor to the Company in connection with
the structuring of the Acquisition. For these financial advisory services, the
Initial Purchaser received a customary fee and was reimbursed for its
out-of-pocket expenses. In addition, pursuant to an agreement between the
Initial Purchaser and Acquisition Corp., the Initial Purchaser will receive a
customary annual fee for acting as the exclusive financial and investment
banking advisor to the Company ending December 31, 2002. The Company has agreed
to indemnify the Initial Purchaser in connection with its acting as Initial
Purchaser and as financial advisor. In addition, the Initial Purchaser will
receive the discounts and commissions set forth on the cover page of this
Prospectus. See "Plan of Distribution."
The Bridge Lender, an affiliate of DLJ Merchant Banking, DLJMBII and the
Initial Purchaser, is the holder of all of the Bridge Notes, all of which were
repaid by the Company with the proceeds of the Equity Contribution, together
with the net proceeds of the Note Offering. See "Use of Proceeds," "Description
of Certain Indebtedness--Bridge Notes" and "Plan of Distribution."
STOCKHOLDERS AGREEMENT
In connection with the Acquisition, Acquisition Corp., DLJMBII, certain
former investors in the Company prior to the Acquisition, including Roger L.
Barnett and Hugh F. Brown (the "Prior Investors") and certain other signatories
thereto, entered into a Stockholders Agreement, dated as of December 15, 1997
(the "Stockholders Agreement"), that sets forth certain rights and restrictions
relating to the ownership of the capital stock of Acquisition Corp. (including
securities exercisable for or convertible or exchangeable into capital stock of
Acquisition Corp.) and agreements among the parties thereto as to the
governance of Acquisition Corp. and, indirectly, Holding and the Company.
Pursuant to the Stockholders Agreement, the Board of Directors of
Acquisition Corp. consists of six members. DLJMBII has the right to nominate
four of the Directors of Acquisition Corp. and the Prior Investors have the
right to nominate one Director of Acquisition Corp., provided that DLJMBII and
the Prior Investors maintain a specified minimum level of equity investment in
Acquisition Corp. In addition, the Stockholders Agreement provides that the
Chief Executive Officer of Acquisition Corp. be nominated as a Director of
Acquisition Corp.
The Stockholders Agreement contains provisions that, among other things,
and subject to certain exceptions, (i) significantly restrict the ability of
the holders of capital stock of Acquisition Corp. to transfer their respective
ownership interests, (ii) grant certain preemptive rights to the holders of
capital stock of Acquisition Corp., (iii) grant certain "drag along" rights to
DLJMBII to require the remaining holders of capital stock of Acquisition Corp.
to sell a percentage of their ownership and (iv) grant certain "tag along"
rights to the holders of Acquisition Corp. Common Stock, other than DLJMBII,
with respect to sales of Acquisition Corp. Common Stock by DLJMBII.
Pursuant to the Stockholders Agreement, DLJMBII was granted certain
customary "demand" registration rights and all stockholders of Acquisition
Corp. were granted certain customary "piggyback" registration rights.
THE ACQUISITION
In connection with the Acquisition, certain current executive officers and
directors of the Company sold certain of their options to purchase common stock
of the Company to Acquisition Corp. for approximately $12.1 million in cash.
Such amount does not include any consideration indirectly attributable to such
executive officers and directors.
51
Further, Roger L. Barnett purchased an aggregate of 134,325 shares of
Acquisition Corp. Common Stock at the same per share price paid by DLJMBII in
connection with the formation of Acquisition Corp. In addition to his purchase
of Acquisition Corp. Common Stock, Mr. Barnett exchanged certain options to
acquire common stock of the Company for options to acquire preferred stock of
Acquisition Corp. On July 30, 1998, Mr. Barnett exercised his option to acquire
such shares of preferred stock of Acquisition Corp. See "--Employment
Arrangements."
Mr. Barnett and DLJMBII also entered into an arrangement pursuant to which
certain of the equity interests held by Mr. Barnett could be purchased by
DLJMBII at a specified price upon notice from DLJMBII prior to June 30, 1998.
Alternatively, Mr. Barnett was given the right to compel DLJMBII to purchase
such equity interests at the same price upon notice to DLJMBII prior to June
30, 1998. Such arrangement was terminated in connection with the Barnett
Agreement. See "Management--Employment Agreements."
PRIOR STOCKHOLDER TRANSACTIONS
During Fiscal 1997 and prior to the Acquisition, the Company made payments
of approximately $612,000 to a company controlled by a significant prior
stockholder for management fees, bonuses and expense reimbursements. In
addition, the Company made payments totaling $120,000 to another significant
prior stockholder for management fees in Fiscal 1997.
EMPLOYMENT ARRANGEMENTS
Mr. Barnett is retained as President and Chief Executive Officer of the
Company pursuant to the Barnett Agreement which provides for an annual salary
of $500,000 per year. Mr. Barnett, Acquisition Corp. and DLJMBII have also
entered into the Put Option Agreement pursuant to which Mr. Barnett was granted
an irrevocable option to require Acquisition Corp. (or DLJMBII under certain
circumstances) to purchase certain preferred equity interests of Mr. Barnett
representing 80,000 shares of preferred stock of Acquisition Corp. for $2.0
million in cash. On July 30, 1998, Mr. Barnett exercised such option. See
"Management--Employment Agreements."
52
DESCRIPTION OF CERTAIN INDEBTEDNESS
CREDIT AGREEMENT
On April 30, 1996, the Company entered into the Credit Agreement, which
was amended on December 12, 1997, in connection with the Acquisition (the
"Credit Agreement"). The Credit Agreement provides for a revolving loan
commitment up to a maximum of $20.0 million (subject to a borrowing base
calculation), which commitment shall expire on December 31, 2002 or earlier
under certain circumstances. In connection with the Refinancing, the Company
intends to seek an amendment to certain provisions of the Credit Agreement,
including those related to certain financial covenants. There can be no
assurance, however, that the Company will obtain any such amendment on the
terms it intends to seek. The following description of certain provisions of
the Credit Agreement does not purport to be complete and is qualified in its
entirety by reference to the full text of the Credit Agreement.
Borrowings under the Credit Agreement will bear interest at a variable
rate of interest per annum equal to, at the Company's option, prime plus 0.75%
per annum or LIBOR plus 2.50% per annum. The Company is required to pay
commitment fees on the unused portion of the revolving loan commitment at a
rate of approximately 0.5% per annum. In addition, the Company is required to
pay fees equal to 2.5% of the average daily outstanding amount of lender
guarantees.
The Credit Agreement contains customary restrictive covenants, which,
among other things and with certain exceptions, limit the ability of the
Company to incur additional indebtedness and liens in connection therewith,
enter into certain transactions with affiliates, pay dividends, consolidate,
merge or effect certain asset sales and enter into new lines of business. Under
the Credit Agreement, the Company is also required to satisfy certain financial
covenants, which require it to maintain certain financial ratios and to comply
with certain financial tests.
The Credit Agreement contains certain events of default, including, among
others, those relating to failure to make payments when due, default as to
certain other indebtedness of the Company, non-performance of certain
covenants, bankruptcy or insolvency, judgments in excess of specified amounts,
any dissolution of the Company and certain "changes in control" (as defined in
the Credit Agreement).
SCENT SEAL NOTE
In connection with the acquisition of Scent Seal, Inc. in 1995, the
Company executed a Conditional Promissory Note (the "Scent Seal Note") in the
principal amount of $1.75 million in favor of the former stockholder of Scent
Seal, Inc. The Scent Seal Note did not bear interest. The principal amount of
the Scent Seal Note was amortized by quarterly principal payments in the amount
of $25,000 and the remaining unpaid principal amount on July 1, 1998 ($1.45
million) was due and was paid at such time. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Liquidity and
Capital Resources." The Scent Seal Note was secured by the Company's "Scent
Seal" trademark.
BRIDGE NOTES
Simultaneously with the Acquisition, the Company entered into a Securities
Purchase Agreement with the Bridge Lender, an affiliate of DLJMBII and the
Initial Purchaser, pursuant to which the Company issued $123.5 million
principal amount of Bridge Notes to the Bridge Lender. In connection with the
issuance of the Bridge Notes for the financing of the Acquisition, the Bridge
Lender received certain reasonable and customary fees and reimbursements.
Messrs. Dean, Michaels and Wittels are officers of DLJ Merchant Banking, an
affiliate of the Initial Purchaser and the Bridge Lender. The entire
outstanding principal amount of, and accrued and unpaid interest on the Bridge
Notes were repaid with the net proceeds of the Note Offering. See "Use of
Proceeds."
53
THE NOTES
The Notes generated gross proceeds to the Company of approximately $115.0
million (before deducting discounts and commissions). The Notes were issued
under an Indenture dated as of June 25, 1998 (the "Note Indenture") between the
Company and IBJ Schroder Bank & Trust Company as trustee (the "Note Trustee"),
and are senior unsecured general obligations of the Company. The Notes bear
interest at a rate of 10 1/2% per annum and are payable in arrears on January 1
and July 1 of each year, commencing January 1, 1999.
In the future, the Notes may be unconditionally guaranteed on a senior
basis by the Subsidiary Guarantors, which will consist of Restricted
Subsidiaries of the Company that incur Indebtedness or Guarantee or pledge
assets to secure the payment of any other Indebtedness of the Company of any
Restricted Subsidiary, subject to certain conditions (as defined in the Note
Indenture). The Subsidiary Guarantees may be released under certain
circumstances.
The Notes will be redeemable at the option of the Company, in whole or in
part, at any time on or after July 1, 2003, in cash at the redemption prices
set forth below, plus accrued and unpaid interest and Liquidated Damages, if
any, thereon to the date of redemption if redeemed during the 12-month period
commencing on July 1 of the years set forth below.
YEAR REDEMPTION PRICE
- --------------------------------- -----------------
2003 ......................... 105.250%
2004 ......................... 102.625%
2005 and thereafter .......... 100.000%
Notwithstanding the foregoing, at any time prior to July 1, 2001, the
Company may use the net proceeds of one or more Public Equity Offerings (as
defined in the Note Indenture) to redeem up to 35% of the Notes issued under
the Note Indenture at a redemption price equal to 110.5% of the aggregate
principal amount thereof plus accrued and unpaid interest and Liquidated
Damages, if any, thereon to the redemption date; provided that at least 65% of
the aggregate principal amount of the Notes originally issued remains
outstanding immediately after each such redemption.
In the event of a Change of Control (as defined in the Note Indenture),
each holder of Notes has the right to require the repurchase of such holder's
Notes at a purchase price equal to 101% of the aggregate principal amount
thereof, plus accrued and unpaid interest and Liquidated Damages, if any,
thereon to the purchase date.
The Note Indenture contains covenants that, among other things, limit the
ability of the Company to enter into certain mergers or consolidations or incur
certain liens and of the Company and its subsidiaries to incur additional
indebtedness, pay dividends, redeem capital stock or make certain other
restricted payments and engage in certain transactions with affiliates. Under
certain circumstances, the Company will be required to make an offer to
purchase the Notes at a price equal to 100% of the principal amount thereof,
plus accrued and unpaid interest and Liquidated Damages, if any, to the date of
purchase with the proceeds of certain asset sales. The Note Indenture contains
certain events of default customary for securities of this nature, which will
include the failure to pay interest and principal, the failure to comply with
certain covenants in the Notes or the Note Indenture, an acceleration under
certain indebtedness, the imposition of certain final judgments or warrants of
attachment and certain events occurring under bankruptcy laws. See "Risk
Factors--Limitation on the Payment of Funds to Holding by its Subsidiaries;
Holding Company Structure; Effective Subordination."
54
DESCRIPTION OF NEW DEBENTURES
GENERAL
The Debentures will be issued pursuant to an indenture (the "Indenture")
between Holding and the Trustee, in a private transaction that is not subject
to the registration requirements of the Securities Act. See "Notice to
Investors." The terms of the Debentures include those stated in the Indenture
and those made part of the Indenture by reference to the Trust Indenture Act of
1939, as amended (the "Trust Indenture Act"). The Debentures are subject to all
such terms, and Holders of Debentures are referred to the Indenture and the
Trust Indenture Act for a statement thereof. The following summary of the
material provisions of the Indenture does not purport to be complete and is
qualified in its entirety by reference to the Indenture, including the
definitions therein of certain terms used below. Copies of the proposed form of
Indenture and Registration Rights Agreement are available as set forth below
under "--Additional Information." The definitions of certain terms used in the
following summary are set forth below under "--Certain Definitions."
The New Debentures will be general unsecured obligations of Holding, will
rank pari passu in right of payment with all existing and future senior
unsecured Indebtedness of Holding and will rank senior in right of payment to
all existing and future subordinated Indebtedness of Holding. The Debentures,
however, will be (i) effectively subordinated to all secured obligations of
Holding, to the extent of the assets securing such obligations and (ii)
structurally subordinated to all obligations of Holding's subsidiaries. As of
March 31, 1998, on a pro forma basis, after giving effect to the Offering, the
Refinancing and the consummation of the 3M Acquisition, Holding would have had
no outstanding secured obligations and Holding's subsidiaries would have had
$122.9 million of outstanding liabilities (including trade payables). The
Indenture will permit the incurrence of additional Indebtedness in the future.
As of the date of the Indenture, all of Holding's Subsidiaries will be
Restricted Subsidiaries. However, under certain circumstances, Holding will be
able to designate current or future Subsidiaries as Unrestricted Subsidiaries.
Unrestricted Subsidiaries will not be subject to many of the restrictive
covenants set forth in the Indenture.
PRINCIPAL, MATURITY AND INTEREST
The Debentures are limited in aggregate principal amount to $50.0 million
at maturity and will mature on July 1, 2009. The Debentures will accrete at a
rate of 13 1/2% per annum, compounded semi-annually to an aggregate principal
amount of $50.0 million on July 1, 2003. Thereafter, interest on the Debentures
will accrue at the rate of 13 1/2% per annum and will be payable semi-annually
in arrears on January 1 and July 1 of each year, commencing on January 1, 2004,
to Holders of record on the immediately preceding December 15 and June 15. No
cash interest will be payable on the Debentures prior to July 1, 2003. Interest
on the Debentures will accrue from the most recent date to which interest has
been paid or, if no interest has been paid, from July 1, 2003. Interest will be
computed on the basis of a 360-day year comprised of twelve 30-day months.
Principal, premium and Liquidated Damages, if any, and interest on the
Debentures will be payable at the office or agency of Holding maintained for
such purpose within the City and State of New York or, at the option of
Holding, payment of interest and Liquidated Damages, if any, may be made by
check mailed to the Holders of the Debentures at their respective addresses set
forth in the register of Holders of Debentures; provided that all payments of
principal, premium and Liquidated Damages, if any, and interest with respect to
Debentures represented by one or more permanent global Debentures will be paid
by wire transfer of immediately available funds to the account of The
Depository Trust Company or any successor thereto. Until otherwise designated
by Holding, Holding's office or agency in New York will be the office of the
Trustee maintained for such purpose. The New Debentures will be issued in
denominations of $1,000 and integral multiples thereof.
OPTIONAL REDEMPTION
Except as provided below, the Debentures will not be redeemable at
Holding's option prior to July 1, 2003. Thereafter, the Debentures will be
subject to redemption at any time at the option of
55
Holding, in whole or in part, upon not less than 30 nor more than 60 days'
notice, at the redemption prices (expressed as percentages of principal amount)
set forth below plus accrued and unpaid interest and Liquidated Damages
thereon, if any, to the applicable redemption date, if redeemed during the
twelve-month period beginning on July 1 of the years indicated below:
YEAR PERCENTAGE
- ------------------------------------- -------------
2003 ......................... 106.750%
2004 ......................... 103.375%
2005 and thereafter .......... 100.000%
Notwithstanding the foregoing, at any time prior to July 1, 2001, Holding
may on one or more occasions redeem up to 35% of the aggregate principal amount
at maturity of Debentures originally issued at a redemption price equal to
113.5% of the Accreted Value (determined at the date of redemption) thereof,
plus Liquidated Damages thereon, if any, to the redemption date, with the net
cash proceeds of one or more Public Equity Offerings; provided that at least
65% of the original aggregate principal amount at maturity of Debentures
remains outstanding immediatley after the occurrence of such redemption;
provided, further that such redemption shall occur within 90 days of the date
of the closing of such Public Equity Offering.
SELECTION AND NOTICE
If less than all of the Debentures are to be redeemed at any time,
selection of Debentures for redemption will be made by the Trustee in
compliance with the requirements of the principal national securities exchange,
if any, on which the Debentures are listed, or, if the Debentures are not so
listed, on a pro rata basis, by lot or by such method as the Trustee shall deem
fair and appropriate; provided that no Debentures of $1,000 or less shall be
redeemed in part. Notices of redemption shall be mailed by first class mail at
least 30 but not more than 60 days before the redemption date to each Holder of
Debentures to be redeemed at its registered address. Notices of redemption may
not be conditional. If any Debenture is to be redeemed in part only, the notice
of redemption that relates to such Debenture shall state the portion of the
principal amount thereof to be redeemed. A new Debenture in principal amount
equal to the unredeemed portion thereof will be issued in the name of the
Holder thereof upon cancellation of the original Debenture. Debentures called
for redemption become due on the date fixed for redemption. On and after the
redemption date, interest ceases to accrue on Debentures or portions of them
called for redemption.
MANDATORY REDEMPTION
Except as set forth below under "--Repurchase at the Option of Holders,"
Holding is not required to make mandatory redemption or sinking fund payments
with respect to the Debentures.
REPURCHASE AT THE OPTION OF HOLDERS
Change of Control
Upon the occurrence of a Change of Control, each Holder of Debentures will
have the right to require Holding to repurchase all or any part (equal to
$1,000 or an integral multiple thereof) of such Holder's Debentures pursuant to
the offer described below (the "Change of Control Offer") at an offer price in
cash equal to 101% of the Accreted Value thereof on the date of repurchase (if
such date of repurchase is prior to July 1, 2003) or 101% of the aggregate
principal amount thereof (if such date of repurchase is on or after July 1,
2003) plus, in each case, accrued and unpaid interest and Liquidated Damages
thereon, if any, to the date of repurchase (the "Change of Control Payment").
Within 60 days following any Change of Control, Holding will mail a notice to
each Holder describing the transaction or transactions that constitute the
Change of Control and offering to repurchase Debentures on the date specified
in such notice, which date shall be no earlier than 30 days and no later than
60 days from the date such notice is mailed (the "Change of Control Payment
Date"), pursuant to the procedures required by the Indenture and described in
such notice. Holding will comply with the requirements of Rule 14e-1
56
under the Exchange Act and any other securities laws and regulations thereunder
to the extent such laws and regulations are applicable in connection with the
repurchase of the Debentures as a result of a Change of Control. To the extent
that the provisions of any securities laws or regulations conflict with the
provisions of the Indenture relating to such Change of Control Offer, Holding
will comply with the applicable securities laws and regulations and shall not
be deemed to have breached its obligations described in the Indenture by virtue
thereof.
On the Change of Control Payment Date, Holding will, to the extent lawful,
(1) accept for payment all Debentures or portions thereof properly tendered
pursuant to the Change of Control Offer, (2) deposit with the Paying Agent an
amount equal to the Change of Control Payment in respect of all Debentures or
portions thereof so tendered and (3) deliver or cause to be delivered to the
Trustee the Debentures so accepted together with an Officers' Certificate
stating the aggregate principal amount of Debentures or portions thereof being
purchased by Holding. The Paying Agent will promptly mail to each Holder of
Debentures so tendered the Change of Control Payment for such Debentures, and
the Trustee will promptly authenticate and mail (or cause to be transferred by
book entry) to each Holder a new Debenture equal in principal amount to any
unpurchased portion of the Debentures surrendered, if any; provided that each
such new Debenture will be in a principal amount of $1,000 or an integral
multiple thereof.
The Change of Control provisions described above will be applicable
whether or not any other provisions of the Indenture are applicable. Except as
described above with respect to a Change of Control, the Indenture does not
contain provisions that permit the Holders of the Debentures to require that
Holding repurchase or redeem the Debentures in the event of a takeover,
recapitalization or similar transaction.
Holding will not be required to make a Change of Control Offer upon a
Change of Control if a third party makes the Change of Control Offer in the
manner, at the times and otherwise in compliance with the requirements set
forth in the Indenture applicable to a Change of Control Offer made by Holding
and purchases all Debentures validly tendered and not withdrawn under such
Change of Control Offer.
The definition of Change of Control includes a phrase relating to the
sale, lease, transfer, conveyance or other disposition of "all or substantially
all" of the assets of Holding and its Subsidiaries taken as a whole. Although
there is a developing body of case law interpreting the phrase "substantially
all," there is no precise established definition of that phrase under
applicable law. Accordingly, the ability of a Holder of Debentures to require
Holding to repurchase such Debentures as a result of a sale, lease, transfer,
conveyance or other disposition of less than all of the assets of Holding and
its Subsidiaries taken as a whole to another Person or group may be uncertain.
Asset Sales
The Indenture provides that Holding will not, and will not permit any of
its Restricted Subsidiaries to, consummate an Asset Sale unless (i) Holding (or
the Restricted Subsidiary, as the case may be) receives consideration at the
time of such Asset Sale at least equal to the fair market value (evidenced by a
resolution of the Board of Directors set forth in an Officers' Certificate
delivered to the Trustee) of the assets or Equity Interests issued or sold or
otherwise disposed of and (ii) at least 75% of the consideration therefor
received by Holding or such Restricted Subsidiary is in the form of cash or
Cash Equivalents; provided that the amount of (x) any liabilities (as shown on
Holding's or such Restricted Subsidiary's most recent balance sheet) of Holding
or any Restricted Subsidiary (other than contingent liabilities and liabilities
that are by their terms subordinated to the Debentures or any guarantee
thereof) that are assumed by the transferee of any such assets pursuant to a
customary novation agreement that releases Holding or such Restricted
Subsidiary from further liability and (y) any securities, notes or other
obligations received by Holding or any such Restricted Subsidiary from such
transferee that are converted by Holding or such Restricted Subsidiary into
cash or Cash Equivalents within 180 days (to the extent of the cash received),
shall be deemed to be cash for purposes of this provision; and provided further
that the 75% limitation referred to in clause (ii) above will not apply to any
Asset Sale in which the cash or Cash Equivalents portion of the consideration
received therefrom, determined in accordance with the foregoing proviso, is
equal to or greater than what the after-tax proceeds would have been had such
Asset Sale complied with the aforementioned 75% limitation.
57
Within 360 days after the receipt of any Net Proceeds from an Asset Sale,
Holding or any such Restricted Subsidiary may apply such Net Proceeds, at its
option, (a) to repay or repurchase pari passu Indebtedness of Holding or any
Indebtedness of any Restricted Subsidiary or (b) to the acquisition of a
controlling interest in another business, the making of a capital expenditure
or the acquisition of other long-term assets, in each case, in a Permitted
Business. Pending the final application of any such Net Proceeds, Holding may
temporarily reduce the revolving Indebtedness under the Credit Agreement or
otherwise invest such Net Proceeds in any manner that is not prohibited by the
Indenture. Any Net Proceeds from Asset Sales that are not applied or invested
as provided in the first sentence of this paragraph will be deemed to
constitute "Excess Proceeds." When the aggregate amount of Excess Proceeds
exceeds $10.0 million, Holding will be required to make an offer to all Holders
of Debentures (an "Asset Sale Offer") to purchase the maximum principal amount
of Debentures that may be purchased out of the Excess Proceeds, at an offer
price in cash in an amount equal to 100% of the Accreted Value thereof on the
date of repurchase (if such date of repurchase is prior to July 1, 2003) or
100% of the principal amount thereof (if such date of repurchase is on or after
July 1, 2003) plus, in each case, accrued and unpaid interest and Liquidated
Damages thereon, if any, to the date of purchase, in accordance with the
procedures set forth in the Indenture. To the extent that the aggregate amount
of Debentures tendered pursuant to an Asset Sale Offer is less than the Excess
Proceeds, Holding may use any remaining Excess Proceeds for general corporate
purposes. If the aggregate principal amount of Debentures surrendered by
Holders thereof exceeds the amount of Excess Proceeds, the Trustee shall select
the Debentures to be purchased on a pro rata basis. Upon completion of such
offer to purchase, the amount of Excess Proceeds shall be reset at zero.
To the extent that the provisions of any securities laws or regulations
conflict with the provisions of the Indenture relating to such Asset Sale
Offer, Holding will comply with the applicable securities laws and regulations
and shall not be deemed to have breached its obligations described in the
Indenture by virtue thereof.
CERTAIN COVENANTS
Restricted Payments
The Indenture provides that from and after the date of the Indenture
Holding will not, and will not permit any of its Restricted Subsidiaries to,
directly or indirectly: (i) declare or pay any dividend or make any other
payment or distribution on account of Holding's or any of its Restricted
Subsidiaries' Equity Interests (including, without limitation, any payment on
such Equity Interests in connection with any merger or consolidation involving
Holding) or to the direct or indirect holders of Holding's or any of its
Restricted Subsidiaries' Equity Interests in their capacity as such (other than
dividends or distributions payable in Equity Interests (other than Disqualified
Stock) of Holding); (ii) purchase, redeem or otherwise acquire or retire for
value (including without limitation, in connection with any merger or
consolidation involving Holding) any Equity Interests of Holding or any direct
or indirect parent of Holding (other than any such Equity Interests owned by
Holding or any Restricted Subsidiary of Holding); (iii) make any payment on or
with respect to, or purchase, redeem, defease or otherwise acquire or retire
for value any Indebtedness that is subordinated to the Debentures, except
scheduled payments of interest or principal at Stated Maturity of such
Indebtedness; or (iv) make any Restricted Investment (all such payments and
other actions set forth in clauses (i) through (iv) above being collectively
referred to as "Restricted Payments"), unless, at the time of and after giving
effect to such Restricted Payment:
(a) no Default or Event of Default shall have occurred and be continuing
or would occur as a consequence thereof; and
(b) Holding would, after giving pro forma effect thereto as if such
Restricted Payment had been made at the beginning of the applicable
four-quarter period, have been permitted to incur at least $1.00 of additional
Indebtedness pursuant to the Fixed Charge Coverage Ratio test set forth in the
first paragraph of the covenant described below under the caption "--Incurrence
of Indebtedness and Issuance of Preferred Stock"; and
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(c) such Restricted Payment, together with the aggregate amount of all
other Restricted Payments made by Holding and its Restricted Subsidiaries after
the date of the Indenture (excluding Restricted Payments permitted by clauses
(i), (ii), (iii), (iv), (viii) (other than those permitted by clause (f) of the
definition of "Permitted Investments"), (ix), (xii) and (xiii) of the next
succeeding paragraph), is less than the sum of (i) 50% of the Consolidated Net
Income of Holding for the period (taken as one accounting period) from the
beginning of the first fiscal quarter commencing after the date of the
Indenture to the end of Holding's most recently ended fiscal quarter for which
internal financial statements are available at the time of such Restricted
Payment (or, if such Consolidated Net Income for such period is a deficit, less
100% of such deficit), plus (ii) 100% of the aggregate net cash proceeds
received by Holding as a contribution to Holding's capital or received by
Holding from the issue or sale since the date of the Indenture of Equity
Interests of Holding (other than Disqualified Stock) or of Disqualified Stock
or debt securities of Holding that have been converted into such Equity
Interests (other than Equity Interests (or Disqualified Stock or debt
securities) sold to a Restricted Subsidiary of Holding and other than
Disqualified Stock or convertible debt securities that have been converted into
Disqualified Stock), plus (iii) to the extent that any Restricted Investment
that was made after the date of the Indenture is sold for cash or otherwise
liquidated or repaid for cash, the lesser of (A) the cash return of capital
with respect to such Restricted Investment (less the cost of disposition, if
any) and (B) the initial amount of such Restricted Investment, plus (iv) if any
Unrestricted Subsidiary (A) is redesignated as a Restricted Subsidiary, the
fair market value of such redesignated Subsidiary (as determined in good faith
by the Board of Directors) as of the date of its redesignation or (B) pays any
cash dividends or cash distributions to Holding or any of its Restricted
Subsidiaries, 50% of any such cash dividends or cash distributions made after
the date of the Indenture.
The foregoing provisions will not prohibit (i) the payment of any dividend
within 60 days after the date of declaration thereof, if at said date of
declaration such payment would have complied with the provisions of the
Indenture; (ii) the redemption, repurchase, retirement, defeasance or other
acquisition of any subordinated Indebtedness or Equity Interests of Holding in
exchange for, or out of the net cash proceeds of the substantially concurrent
sale or issuance (other than to a Restricted Subsidiary of Holding) of, other
Equity Interests of Holding (other than Disqualified Stock); provided that the
amount of any such net cash proceeds that are utilized for any such redemption,
repurchase, retirement, defeasance or other acquisition shall be excluded from
clause (c)(ii) of the preceding paragraph; (iii) the defeasance, redemption,
repurchase or other acquisition of subordinated Indebtedness with the net cash
proceeds from an incurrence of Permitted Refinancing Indebtedness; (iv) the
payment of any dividend by a Restricted Subsidiary of Holding to the holders of
its Equity Interests on a pro rata basis; (v) the declaration or payment of
dividends to Acquisition Corp. for expenses incurred by Acquisition Corp. in
its capacity as a holding company or for services rendered on behalf of
Holding, including, without limitation, (a) customary salary, bonus and other
benefits payable to officers and employees of Acquisition Corp., (b) fees and
expenses paid to members of the Board of Directors of Acquisition Corp., (c)
general corporate overhead expenses of Acquisition Corp., (d) management,
consulting or advisory fees paid to Acquisition Corp. not to exceed $4.0
million in any fiscal year, and (e) the repurchase, redemption or other
acquisition or retirement for value of any Equity Interests of Acquisition
Corp. held by any member or former member of Acquisition Corp.'s or Holding's
(or any of their Restricted Subsidiaries') management pursuant to any
management equity subscription agreement, stockholders agreement or stock
option agreement; provided, however, the aggregate amount paid pursuant to the
foregoing clauses (a) through (e) does not exceed $5.0 million in any fiscal
year (with any unused amounts in any fiscal year being carried over to
succeeding fiscal years, subject to a maximum (without giving effect to the
following clause (y)) of $10.0 million in any calendar year, plus (y) the
aggregate cash proceeds received by Holding from any reissuance of Equity
Interests by Acquisition Corp. to members of management of Holding and its
Restricted Subsidiaries; (vi) Investments in any Person (other than Holding or
a Restricted Subsidiary) engaged in a Permitted Business in an amount not to
exceed $5.0 million; (vii) other Investments in Unrestricted Subsidiaries
having an aggregate fair market value, taken together with all other
Investments made pursuant to this clause (vii) that are at that time
outstanding, not to exceed $2.0 million; (viii) Permitted Investments; (ix) the
declaration or payment of dividends or other payments to Acquisition Corp.
pursuant to any tax sharing agreement or other arrangement among Acquisition
Corp. and other
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members of the affiliated corporations of which Acquisition Corp. is the common
parent; (x) other Restricted Payments in an aggregate amount not to exceed
$10.0 million; (xi) so long as no Default or Event of Default has occurred and
is continuing, the declaration and payment of dividends on Disqualified Stock
issued or after the date of the Indenture, the incurrence of which satisfied
the covenant set forth in the first paragraph of "--Incurrence of Indebtedness
and Issuance of Preferred Stock" below; (xii) the declaration or payment of
dividends to Acquisition Corp. to satisfy any required purchase price
adjustment payment arising out of the Acquisition; and (xiii) the declaration
or payment of dividends or other payments to Acquisition Corp. in an amount not
to exceed $2.0 million to satisfy redemption obligations in respect of Equity
Interests of Acquisition Corp. that are held by management of Acquisition
Corp., Holding or the Company; provided that such amount shall not be applied
against expenses incurred pursuant to clasue (v)(e) above.
The Board of Directors may designate any Restricted Subsidiary to be an
Unrestricted Subsidiary if such designation would not cause a Default. For
purposes of making such determination, all outstanding Investments by Holding
and its Restricted Subsidiaries (except to the extent repaid in cash) in the
Subsidiary so designated will be deemed to be Restricted Payments at the time
of such designation and will reduce the amount available for Restricted
Payments under the first paragraph of this covenant. All such outstanding
Investments will be deemed to constitute Investments in an amount equal to the
fair market value of such Investments at the time of such designation (as
determined in good faith by the Board of Directors). Such designation will only
be permitted if such Restricted Payment would be permitted at such time and if
such Restricted Subsidiary otherwise meets the definition of an Unrestricted
Subsidiary.
The amount of all Restricted Payments (other than cash) shall be the fair
market value on the date of the Restricted Payment of the asset(s) or
securities proposed to be transferred or issued by Holding or such Subsidiary,
as the case may be, pursuant to the Restricted Payment. The fair market value
of any non-cash Restricted Payment shall be determined in good faith by the
Board of Directors whose resolution with respect thereto shall be delivered to
the Trustee; such determination will be based upon an opinion or appraisal
issued by an accounting, appraisal or investment banking firm of national
standing if such fair market value exceeds $10.0 million. Not later than the
date of making any Restricted Payment, Holding shall deliver to the Trustee an
Officers' Certificate stating that such Restricted Payment is permitted and
setting forth the basis upon which the calculations required by the covenant
"--Restricted Payments" were computed, together with a copy of any fairness
opinion or appraisal required by the Indenture.
Incurrence of Indebtedness and Issuance of Preferred Stock
The Indenture provides that Holding will not, and will not permit any of
its Subsidiaries to, directly or indirectly, create, incur, issue, assume,
guarantee or otherwise become directly or indirectly liable, contingently or
otherwise, with respect to (collectively, "incur") any Indebtedness (including
Acquired Debt) and that Holding will not issue any Disqualified Stock and will
not permit any of its Subsidiaries to issue any shares of preferred stock;
provided, however, that Holding may incur Indebtedness (including Acquired
Debt) or issue shares of Disqualified Stock or preferred stock and Holding's
Restricted Subsidiaries may incur Indebtedness (including Acquired Debt) and
issue Disqualified Stock or preferred stock if the Fixed Charge Coverage Ratio
for Holding's most recently ended four full fiscal quarters for which internal
financial statements are available immediately preceding the date on which such
additional Indebtedness is incurred or such Disqualified Stock or preferred
stock is issued would have been at least 1.5 to 1, determined on a pro forma
basis (including a pro forma application of the net proceeds therefrom), as if
the additional Indebtedness had been incurred, or the Disqualified Stock or
preferred stock had been issued, as the case may be, at the beginning of such
four-quarter period.
The provisions of the first paragraph of this covenant will not apply to
the incurrence of any of the following items of Indebtedness (collectively,
"Permitted Debt"):
(i) the incurrence by the Company of Indebtedness and letters of credit
pursuant to the Credit Agreement; provided that the aggregate principal amount
of all such Indebtedness (with letters of credit
60
being deemed to have a principal amount equal to the maximum potential
liability of the Company thereunder) then classified as having been incurred in
reliance on this clause (i) that remains outstanding under the Credit Agreement
after giving effect to such incurrence does not exceed the sum of $20.0
million.
(ii) the incurrence by Holding and its Restricted Subsidiaries of the
Existing Indebtedness;
(iii) the incurrence by Holding of Indebtedness represented by the
Debentures and the incurrence by the Company of Indebtedness represented by the
Notes;
(iv) the incurrence by Holding or any of its Restricted Subsidiaries of
Indebtedness represented by Capital Lease Obligations, mortgage financings or
purchase money obligations, in each case incurred for the purpose of financing
all or any part of the purchase price or cost of construction or improvement of
property, plant or equipment used in the business of Holding or such Restricted
Subsidiary (whether through the direct purchase of assets or the Capital Stock
of any Person owning such Assets), in an aggregate principal amount or accreted
value, as applicable, not to exceed $10.0 million;
(v) the incurrence by Holding or any of its Restricted Subsidiaries of
Indebtedness in connection with the acquisition of assets or a new Restricted
Subsidiary; provided that such Indebtedness was incurred by the prior owner of
such assets or such Restricted Subsidiary prior to such acquisition by Holding
or one of its Subsidiaries and was not incurred in connection with, or in
contemplation of, such acquisition by Holding or one of its Subsidiaries;
provided further that the principal amount (or accreted value, as applicable)
of such Indebtedness, together with any other outstanding Indebtedness incurred
pursuant to this clause (v), does not exceed $5.0 million;
(vi) the incurrence by Holding or any of its Restricted Subsidiaries of
Permitted Refinancing Indebtedness in exchange for, or the net proceeds of
which are used to refund, refinance or replace Indebtedness that was permitted
by the Indenture to be incurred;
(vii) the incurrence by Holding or any of its Restricted Subsidiaries of
intercompany Indebtedness between or among Holding and any of its Restricted
Subsidiaries; provided, however, that (i) if Holding is the obligor on such
Indebtedness, such Indebtedness is expressly subordinated to the prior payment
in full in cash of all Obligations with respect to the Debentures and (ii)(A)
any subsequent issuance or transfer of Equity Interests that results in any
such Indebtedness being held by a Person other than Holding or a Restricted
Subsidiary and (B) any sale or other transfer of any such Indebtedness to a
Person that is not either Holding or a Restricted Subsidiary shall be deemed,
in each case, to constitute an incurrence of such Indebtedness by Holding or
such Restricted Subsidiary, as the case may be;
(viii) the incurrence by Holding or any of its Restricted Subsidiaries of
Hedging Obligations that are incurred for the purpose of fixing or hedging (i)
interest rate risk with respect to any floating rate Indebtedness that is
permitted by the terms of this Indenture to be outstanding or (ii) exchange
rate risk with respect to any agreement or Indebtedness of such Person payable
in a currency other than U.S. dollars;
(ix) the Guarantee by Holding or any of its Restricted Subsidiaries of
Indebtedness of Holding or a Restricted Subsidiary of Holding that was
permitted to be incurred by another provision of this covenant;
(x) the incurrence by Holding's Unrestricted Subsidiaries of Non-Recourse
Debt; provided, however, that if any such Indebtedness ceases to be
Non-Recourse Debt of an Unrestricted Subsidiary, such event shall be deemed to
constitute an incurrence of Indebtedness by a Restricted Subsidiary of Holding;
(xi) Indebtedness incurred by Holding or any of its Restricted
Subsidiaries constituting reimbursement obligations with respect to letters of
credit issued in the ordinary course of business, including without limitation
to letters of credit in respect to workers' compensation claims or
self-insurance, or other Indebtedness with respect to reimbursement type
obligations regarding workers' compensation claims; provided, however, that
upon the drawing of such letters of credit or the incurrence of such
Indebtedness, such obligations are reimbursed within 30 days following such
drawing or incurrence;
(xii) Indebtedness arising from agreements of Holding or a Restricted
Subsidiary providing for indemnification, adjustment of purchase price or
similar obligations, in each case, incurred or assumed in
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connection with the disposition of any business, asset or Subsidiary, other
than guarantees of Indebtedness incurred by any Person acquiring all or any
portion of such business, assets or Subsidiary for the purpose of financing
such acquisition; provided that (x) such Indebtedness is not reflected on the
balance sheet of Holding or any Restricted Subsidiary (contingent obligations
referred to in a footnote or footnotes to financial statements and not
otherwise reflected on the balance sheet will not be deemed to be reflected on
such balance sheet for purposes of this clause (x)) and (y) the maximum
assumable liability in respect of such Indebtedness shall at no time exceed 50%
of the gross proceeds including non-cash proceeds (the fair market value of
such non-cash proceeds being measured at the time received and without giving
effect to any such subsequent changes in value) actually received by Holding
and/or such Restricted Subsidiary in connection with such disposition;
(xiii) obligations in respect of performance and surety bonds and
completion guarantees provided by Holding or any Restricted Subsidiary in the
ordinary course of business;
(xiv) guarantees incurred in the ordinary course of business in an
aggregate principal amount not to exceed $5.0 million at any time outstanding;
and
(xv) the incurrence by Holding or any of its Restricted Subsidiaries of
additional Indebtedness, including Attributable Debt incurred after the date of
the Indenture, in an aggregate principal amount (or accreted value, as
applicable) at any time outstanding, including all Permitted Refinancing
Indebtedness incurred to refund, refinance or replace any other Indebtedness
incurred pursuant to this clause (xv), not to exceed $20.0 million.
For purposes of determining compliance with this covenant, in the event
that an item of Indebtedness meets the criteria of more than one of the
categories of Permitted Debt described in clauses (i) through (xv) above or is
entitled to be incurred pursuant to the first paragraph of this covenant,
Holding shall, in its sole discretion, classify such item of Indebtedness in
any manner that complies with this covenant and such item of Indebtedness will
be treated as having been incurred pursuant to only one of such clauses or
pursuant to the first paragraph hereof. In addition, Holding may, at any time,
change the classification of an item of Indebtedness (or any portion thereof)
to any other clause or to the first paragraph hereof provided that Holding
would be permitted to incur such item of Indebtedness (or portion thereof)
pursuant to such other clause or the first paragraph hereof, as the case may
be, at such time of reclassification. Accrual of interest, accretion or
amortization of original issue discount and the accretion of accreted value
will not be deemed to be an incurrence of Indebtedness for purposes of this
covenant.
Liens
The Indenture provides that Holding will not, and will not permit any of
its Restricted Subsidiaries to, create, incur, assume or otherwise cause or
suffer to exist or become effective any Lien (other than Permitted Liens) upon
any of their property or assets, now owned or hereafter acquired.
Dividend and Other Payment Restrictions Affecting Restricted Subsidiaries
The Indenture provides that Holding will not, and will not permit any of
its Restricted Subsidiaries to, directly or indirectly, create or otherwise
cause or suffer to exist or become effective any encumbrance or restriction on
the ability of any Restricted Subsidiary to (i)(a) pay dividends or make any
other distributions to Holding or any of its Restricted Subsidiaries (1) on its
Capital Stock or (2) with respect to any other interest or participation in, or
measured by, its profits, or (b) pay any Indebtedness owed to Holding or any of
its Restricted Subsidiaries, (ii) make loans or advances to Holding or any of
its Restricted Subsidiaries or (iii) transfer any of its properties or assets
to Holding or any of its Restricted Subsidiaries, except for such encumbrances
or restrictions existing under or by reason of (a) Existing Indebtedness as in
effect on the date of the Indenture, (b) the Credit Agreement as in effect as
of the date of the Indenture, and any amendments, modifications, restatements,
renewals, increases, supplements, refundings, replacements or refinancings
thereof, provided that such amendments, modifications, restatements, renewals,
increases, supplements, refundings, replacement or refinancings are no more
restrictive in the aggregate (as determined in the good faith judgment of
Holding's Board of Directors) with respect to such dividend and other payment
restrictions than those contained in the Credit Agreement as in effect on the
date of the Indenture, (c) the Indenture and the Debentures and the Note
Indenture and the Notes,
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(d) any applicable law, rule, regulation or order, (e) any instrument of a
Person acquired by Holding or any of its Restricted Subsidiaries as in effect
at the time of such acquisition (except to the extent incurred in connection
with or in contemplation of such acquisition), which encumbrance or restriction
is not applicable to any Person, or the properties or assets of any Person,
other than the Person, or the property or assets of the Person, so acquired,
provided that, in the case of Indebtedness, such Indebtedness was permitted by
the terms of the Indenture to be incurred, (f) by reason of customary
non-assignment provisions in leases entered into in the ordinary course of
business and consistent with past practices, (g) purchase money obligations for
property acquired in the ordinary course of business that impose restrictions
of the nature described in clause (e) above on the property so acquired, (h)
Permitted Refinancing Indebtedness, provided that the material restrictions
contained in the agreements governing such Permitted Refinancing Indebtedness
are no more restrictive, in the good faith judgment of Holding's Board of
Directors, taken as a whole, to the Holders of Debentures than those contained
in the agreements governing the Indebtedness being refinanced, (i) contracts
for the sale of assets, including without limitation customary restrictions
with respect to a Subsidiary pursuant to an agreement that has been entered
into for the sale or disposition of all or substantially all of the Capital
Stock or assets of such Subsidiary, (j) restrictions on cash or other deposits
or net worth imposed by customers under contracts entered into in the ordinary
course of business and (k) other Indebtedness or Disqualified Stock of
Restricted Subsidiaries permitted to be incurred subsequent to the Issuance
Date pursuant to the provisions of the covenant described under "--Incurrence
of Indebtedness and Issuance of Preferred Stock."
Merger, Consolidation, or Sale of Assets
The Indenture provides that Holding may not consolidate or merge with or
into (whether or not Holding is the surviving corporation), or sell, assign,
transfer, convey or otherwise dispose of all or substantially all of its
properties or assets in one or more related transactions, to another Person
unless (i) Holding is the surviving corporation or the Person formed by or
surviving any such consolidation or merger (if other than Holding) or to which
such sale, assignment, transfer, lease, conveyance or other disposition shall
have been made is a corporation organized or existing under the laws of the
United States, any state thereof or the District of Columbia; (ii) the entity
or Person formed by or surviving any such consolidation or merger (if other
than Holding) or the entity or Person to which such sale, assignment, transfer,
lease, conveyance or other disposition shall have been made assumes all the
obligations of Holding under the Debentures and the Indenture pursuant to a
supplemental indenture in a form reasonably satisfactory to the Trustee; (iii)
immediately after such transaction no Default or Event of Default exists; and
(iv) Holding or the entity or Person formed by or surviving any such
consolidation or merger (if other than Holding), or to which such sale,
assignment, transfer, lease, conveyance or other disposition shall have been
made (a) will, at the time of such transaction and after giving pro forma
effect thereto as if such transaction had occurred at the beginning of the
applicable four-quarter period, be permitted to incur at least $1.00 of
additional Indebtedness pursuant to the Fixed Charge Coverage Ratio test set
forth in the first paragraph of the covenant described above under the caption
"--Incurrence of Indebtedness and Issuance of Preferred Stock" or (b) would
(together with its Restricted Subsidiaries) have a higher Fixed Charge Coverage
Ratio immediately after such transaction (after giving pro forma effect thereto
as if such transaction had occurred at the beginning of the applicable
four-quarter period) than the Fixed Charge Coverage Ratio of Holding and its
subsidiaries immediately prior to the transaction. The foregoing clause (iv)
will not prohibit (a) a merger between Holding and a Wholly Owned Subsidiary of
Acquisition Corp. created for the purpose of holding the Capital Stock of
Holding, (b) a merger between Holding and a Wholly Owned Subsidiary or (c) a
merger between Holding and an Affiliate incorporated solely for the purpose of
reincorporating Holding in another state of the United States so long as, in
each case, the amount of Indebtedness of Holding and its Restricted
Subsidiaries is not increased thereby. The Indenture will also provide that
Holding may not, directly or indirectly, lease all or substantially all of its
properties or assets, in one or more related transactions, to any other Person.
The provisions of this covenant will not be applicable to a sale, assignment,
transfer, conveyance or other disposition of assets between or among Holding
and its Wholly Owned Restricted Subsidiaries.
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Transactions with Affiliates
The Indenture provides that Holding will not, and will not permit any of
its Restricted Subsidiaries to, make any payment to, or sell, lease, transfer
or otherwise dispose of any of its properties or assets to, or purchase any
property or assets from, or enter into or make or amend any transaction,
contract, agreement, understanding, loan, advance or guarantee with, or for the
benefit of, any Affiliate (each of the foregoing, an "Affiliate Transaction")
unless (i) such Affiliate Transaction is on terms that are no less favorable to
Holding or the relevant Restricted Subsidiary than those that would have been
obtained in a comparable transaction by Holding or such Restricted Subsidiary
with an unrelated Person and (ii) Holding delivers to the Trustee (a) with
respect to any Affiliate Transaction or series of related Affiliate
Transactions involving aggregate consideration in excess of $1.0 million, a
resolution of the Board of Directors set forth in an Officers' Certificate
certifying that such Affiliate Transaction complies with clause (i) above and
that such Affiliate Transaction has been approved by a majority of the
disinterested members of the Board of Directors and (b) with respect to any
Affiliate Transaction or series of related Affiliate Transactions involving
either aggregate consideration in excess of $5.0 million or an aggregate
consideration in excess of $3.0 million where there are no disinterested
members of the Board of Directors, an opinion as to the fairness to the Holders
of such Affiliate Transaction from a financial point of view issued by an
accounting, appraisal or investment banking firm of national standing; provided
that the following shall not be deemed Affiliate Transactions: (q) customary
directors' fees, indemnification or similar arrangements or any employment
agreement or other compensation plan or arrangement entered into by Holding or
any of its Restricted Subsidiaries in the ordinary course of business and
consistent with the past practice of Holding or such Restricted Subsidiary, (r)
transactions between or among Holding and/or its Restricted Subsidiaries, (s)
Permitted Investments and Restricted Payments that are permitted by the
provisions of the Indenture described above under the caption "--Restricted
Payments," (t) customary loans, advances, fees and compensation paid to, and
indemnity provided on behalf of, officers, directors, employees or consultants
of Holding or any of its Restricted Subsidiaries, (u) transactions pursuant to
any contract or agreement in effect on the date of the Indenture as the same
may be amended, modified or replaced from time to time so long as any such
amendment, modification or replacement is no less favorable to Holding and its
Restricted Subsidiaries than the contract or agreement as in effect on the
Issue Date, (v) transactions between Holding or its Restricted Subsidiaries on
the one hand, and Donaldson, Lufkin & Jenrette Securities Corporation or its
Affiliates ("DLJ") on the other hand, involving the provision of financial,
advisory, placement or underwriting services by DLJ; provided that fees payable
to DLJ do not exceed the usual and customary fees of DLJ for similar services,
(w) insurance arrangements among Acquisition Corp., Holding and its
Subsidiaries that are not less favorable to Holding or any of its Subsidiaries
than those that are in effect on the date hereof provided such arrangements are
conducted in the ordinary course of business consistent with past practices,
(x) payments under any tax sharing agreement or other arrangement among
Acquisition Corp., Holding and other members of the affiliated group of
corporations of which either is the common parent and (y) payments in
connection with the Refinancing (including the payment of fees and expenses
with respect thereto).
Sale and Leaseback Transactions
The Indenture provides that Holding will not, and will not permit any of
its Restricted Subsidiaries to, enter into any sale and leaseback transaction;
provided that Holding or any Restricted Subsidiary may enter into a sale and
leaseback transaction if (i) Holding or such Restricted Subsidiary could have
(a) incurred Indebtedness in an amount equal to the Attributable Debt relating
to such sale and leaseback transaction pursuant to the covenant described above
under the caption "--Incurrence of Indebtedness and Issuance of Preferred
Stock" and (b) incurred a Lien to secure such Indebtedness pursuant to the
covenant described above under the caption "--Liens," (ii) the gross cash
proceeds of such sale and leaseback transaction are at least equal to the fair
market value (as determined in good faith by the Board of Directors and set
forth in an Officers' Certificate delivered to the Trustee) of the property
that is the subject of such sale and leaseback transaction and (iii) the
transfer of assets in such sale and leaseback transaction is permitted by, and
Holding applies the proceeds of such transaction in compliance with, the
covenant described above under the caption "--Repurchase at the Option of
Holders--Asset Sales."
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Business Activities
Holding will not, and will not permit any Restricted Subsidiary to, engage
in any business other than a Permitted Business, except to such extent as would
not be material to Holding and its Restricted Subsidiaries taken as a whole.
Reports
The Indenture provides that, whether or not required by the rules and
regulations of the Commission, so long as any Debentures are outstanding,
Holding will furnish to the Trustee and Holders of Debentures (i) all quarterly
and annual financial information that would be required to be contained in a
filing with the Commission on Forms 10-Q and 10-K if Holding were required to
file such Forms, including a "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and, with respect to the annual
information only, a report thereon by Holding's certified independent
accountants and (ii) all current reports that would be required to be filed
with the Commission on Form 8-K if Holding were required to file such reports.
In addition, following the consummation of the exchange offer contemplated by
the Registration Rights Agreement, whether or not required by the rules and
regulations of the Commission, Holding will file a copy of all such information
and reports with the Commission for public availability (unless the Commission
will not accept such a filing) and make such information available to
securities analysts and prospective investors upon request. In addition, for so
long as any of the Debentures remain outstanding, Holding has agreed to make
available to any prospective purchaser of the Debentures or Holder of the
Debentures in connection with the sale thereof, the information required by
Rule 144A(d)(4) under the Securities Act.
EVENTS OF DEFAULT AND REMEDIES
The Indenture provides that each of the following constitutes an Event of
Default: (i) default for 30 days in the payment when due of interest on, or
Liquidated Damages with respect to, the Debentures; (ii) default in payment
when due of the principal of or premium, if any, on the Debentures; (iii)
failure by Holding to comply with the provisions described under the captions
"--Repurchase at the Option of Holders--Change of Control" or "--Certain
Covenants--Asset Sales"; (iv) failure by Holding for 30 days after notice from
the Trustee or at least 25% in principal amount of the Debentures then
outstanding to comply with the provisions described under the captions
"--Restricted Payments" or "--Incurrence of Indebtedness and Issuance of
Preferred Stock"; (v) failure by Holding for 60 days after notice from the
Trustee or holders of at least 25% in principal amount of the Debentures then
outstanding to comply with any of its other agreements in the Indenture or the
Debentures; (vi) default under any mortgage, indenture or instrument under
which there may be issued or by which there may be secured or evidenced any
Indebtedness for money borrowed by Holding or any of its Restricted
Subsidiaries (or the payment of which is guaranteed by Holding or any of its
Restricted Subsidiaries) whether such Indebtedness or Guarantee now exists, or
is created after the date of the Indenture, which default (a) is caused by a
failure to pay principal of or premium, if any, or interest on such
Indebtedness prior to the expiration of the grace period provided in such
Indebtedness on the date of such default (a "Payment Default") or (b) results
in the acceleration of such Indebtedness prior to its express maturity and, in
each case, the principal amount of any such Indebtedness, together with the
principal amount of any other such Indebtedness under which there has been a
Payment Default or the maturity of which has been so accelerated, aggregates
$10.0 million or more; (vii) failure by Holding or any of its Subsidiaries to
pay final judgments aggregating in excess of $5.0 million, which judgments are
not paid, discharged or stayed for a period of 60 days; and (viii) certain
events of bankruptcy or insolvency with respect to Holding or any of its
Restricted Subsidiaries that are Significant Subsidiaries.
If any Event of Default occurs and is continuing, the Trustee or the
Holders of at least 25% in principal amount of the then outstanding Debentures
may declare all the Debentures to be due and payable immediately.
Notwithstanding the foregoing, in the case of an Event of Default arising from
certain events of bankruptcy or insolvency, with respect to Holding or any of
its Subsidiaries all outstanding Debentures will become due and payable without
further action or notice. Holders of the Debentures may not enforce the
Indenture or the Debentures except as provided in the Indenture. Subject to
certain limitations, Holders of a majority in principal amount of the then
outstanding
65
Debentures may direct the Trustee in its exercise of any trust or power. The
Trustee may withhold from Holders of the Debentures notice of any continuing
Default or Event of Default (except a Default or Event of Default relating to
the payment of principal or interest) if it determines that withholding notice
is in their interest.
In the case of any Event of Default occurring by reason of any willful
action (or inaction) taken (or not taken) by or on behalf of Holding with the
intention of avoiding payment of the premium that the Company would have had to
pay if Holding then had elected to redeem the Debentures pursuant to the
optional redemption provisions of the Indenture, an equivalent premium shall
also become and be immediately due and payable to the extent permitted by law
upon the acceleration of the Debentures. If an Event of Default occurs prior to
July 1, 2003 by reason of any willful action (or inaction) taken (or not taken)
by or on behalf of Holding with the intention of avoiding the prohibition on
redemption of the Debentures prior to July 1, 2003, then the premium specified
in the Indenture shall also become immediately due and payable to the extent
permitted by law upon the acceleration of the Debentures.
The Holders of a majority in aggregate principal amount of the Debentures
then outstanding by notice to the Trustee may on behalf of the Holders of all
of the Debentures waive any existing Default or Event of Default and its
consequences under the Indenture except a continuing Default or Event of
Default in the payment of interest on, or the principal of, the Debentures.
Holding is required to deliver to the Trustee annually a statement
regarding compliance with the Indenture, and Holding is required upon becoming
aware of any Default or Event of Default to deliver to the Trustee a statement
specifying such Default or Event of Default.
NO PERSONAL LIABILITY OF DIRECTORS, OFFICERS, EMPLOYEES AND STOCKHOLDERS
No director, officer, employee, incorporator or stockholder of Holding, as
such, shall have any liability for any obligations of Holding under the
Debentures, the Indenture or for any claim based on, in respect of, or by
reason of, such obligations or their creation. Each Holder of Debentures by
accepting a Debenture waives and releases all such liability. The waiver and
release are part of the consideration for issuance of the Debentures. Such
waiver may not be effective to waive liabilities under the federal securities
laws and it is the view of the Commission that such a waiver is against public
policy.
LEGAL DEFEASANCE AND COVENANT DEFEASANCE
Holding may, at its option and at any time, elect to have all of its
obligations discharged with respect to the outstanding Debentures ("Legal
Defeasance") except for (i) the rights of Holders of outstanding Debentures to
receive payments in respect of the principal of, premium and Liquidated
Damages, if any, and interest on such Debentures when such payments are due
from the trust referred to below, (ii) Holding's obligations with respect to
the Debentures concerning issuing temporary Debentures, registration of
Debentures, mutilated, destroyed, lost or stolen Debentures and the maintenance
of an office or agency for payment and money for security payments held in
trust, (iii) the rights, powers, trusts, duties and immunities of the Trustee,
and Holding's obligations in connection therewith and (iv) the Legal Defeasance
provisions of the Indenture. In addition, Holding may, at its option and at any
time, elect to have the obligations of Holding released with respect to certain
covenants that are described in the Indenture ("Covenant Defeasance") and
thereafter any omission to comply with such obligations shall not constitute a
Default or Event of Default with respect to the Debentures. In the event
Covenant Defeasance occurs, certain events (not including non-payment,
bankruptcy, receivership, rehabilitation and insolvency events) described under
"--Events of Default" will no longer constitute an Event of Default with
respect to the Debentures.
In order to exercise either Legal Defeasance or Covenant Defeasance, (i)
Holding must irrevocably deposit with the Trustee, in trust, for the benefit of
the Holders of the Debentures, cash in U.S. dollars, non-callable Government
Securities, or a combination thereof, in such amounts as will be sufficient, in
the opinion of a nationally recognized firm of independent public accountants,
to pay the principal of, premium and Liquidated Damages, if any, and interest
on the outstanding Debentures on the stated maturity or on the applicable
redemption date, as the case may be, and Holding must specify whether the
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Debentures are being defeased to maturity or to a particular redemption date;
(ii) in the case of Legal Defeasance, Holding shall have delivered to the
Trustee an opinion of counsel in the United States reasonably acceptable to the
Trustee confirming that (A) Holding has received from, or there has been
published by, the Internal Revenue Service a ruling or (B) since the date of
the Indenture, there has been a change in the applicable federal income tax
law, in either case to the effect that, and based thereon such opinion of
counsel shall confirm that, subject to customary assumptions and exclusions,
the Holders of the outstanding Debentures will not recognize income, gain or
loss for federal income tax purposes as a result of such Legal Defeasance and
will be subject to federal income tax on the same amounts, in the same manner
and at the same times as would have been the case if such Legal Defeasance had
not occurred; (iii) in the case of Covenant Defeasance, Holding shall have
delivered to the Trustee an opinion of counsel in the United States reasonably
acceptable to the Trustee confirming that, subject to customary assumptions and
exclusions, the Holders of the outstanding Debentures will not recognize
income, gain or loss for federal income tax purposes as a result of such
Covenant Defeasance and will be subject to federal income tax on the same
amounts, in the same manner and at the same times as would have been the case
if such Covenant Defeasance had not occurred; (iv) no Default or Event of
Default shall have occurred and be continuing on the date of such deposit
(other than a Default or Event of Default resulting from the borrowing of funds
to be applied to such deposit) or insofar as Events of Default from bankruptcy
or insolvency events are concerned, at any time in the period ending on the
91st day after the date of deposit; (v) such Legal Defeasance or Covenant
Defeasance will not result in a breach or violation of, or constitute a default
under any material agreement or instrument (other than the Indenture) to which
Holding or any of its Subsidiaries is a party or by which Holding or any of its
Subsidiaries is bound; (vi) Holding must have delivered to the Trustee an
opinion of counsel to the effect that after the 91st day following the deposit,
the trust funds will not be subject to the effect of Section 547 of the United
States Bankruptcy Code or any analogous New York State law provision to any
other applicable federal or New York bankruptcy, insolvency, reorganization or
similar law affecting creditors' rights generally; (vii) Holding must deliver
to the Trustee an Officers' Certificate stating that the deposit was not made
by Holding with the intent of preferring the Holders of Debentures over the
other creditors of Holding with the intent of defeating, hindering, delaying or
defrauding creditors of Holding or others; and (viii) Holding must deliver to
the Trustee an Officers' Certificate and an opinion of counsel (which opinion
may be subject to customary assumptions and exclusions), each stating that all
conditions precedent provided for relating to the Legal Defeasance or the
Covenant Defeasance have been complied with.
TRANSFER AND EXCHANGE
A Holder may transfer or exchange Debentures in accordance with the
Indenture. The Registrar and the Trustee may require a Holder, among other
things, to furnish appropriate endorsements and transfer documents and Holding
may require a Holder to pay any taxes and fees required by law or permitted by
the Indenture. Holding is not required to transfer or exchange any Debenture
selected for redemption. Also, Holding is not required to transfer or exchange
any Debenture for a period of 15 days before a selection of Debentures to be
redeemed.
The registered Holder of a Debenture will be treated as the owner of it
for all purposes.
AMENDMENT, SUPPLEMENT AND WAIVER
Except as provided in the next two succeeding paragraphs, the Indenture
and the Debentures may be amended or supplemented with the consent of the
Holders of at least a majority in principal amount of the Debentures then
outstanding (including, without limitation, consents obtained in connection
with a purchase of, or tender offer or exchange offer for, Debentures), and any
existing default or compliance with any provision of the Indenture or the
Debentures may be waived with the consent of the Holders of a majority in
principal amount of the then outstanding Debentures (including consents
obtained in connection with a tender offer or exchange offer for Debentures).
Without the consent of each Holder affected, an amendment or waiver may
not (with respect to any Debentures held by a non-consenting Holder): (i)
reduce the principal amount of Debentures whose Holders must consent to an
amendment, supplement or waiver; (ii) reduce the principal of or change the
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fixed maturity of any Debenture or alter the provisions with respect to the
redemption of the Debentures (other than provisions relating to the covenants
described above under the caption "--Repurchase at the Option of Holders");
(iii) reduce the rate of or change the time for payment of interest on any
Debenture; (iv) waive a Default or Event of Default in the payment of principal
of or premium, if any, or interest on the Debentures (except a rescission of
acceleration of the Debentures by the Holders of at least a majority in
aggregate principal amount of the Debentures and a waiver of the payment
default that resulted from such acceleration); (v) make any Debenture payable
in money other than that stated in the Debentures; (vi) make any change in the
provisions of the Indenture relating to waivers of (a) past Defaults or (b) the
rights of Holders of Debentures to receive payments of principal of or premium,
if any, or interest on the Debentures; (vii) waive a redemption payment with
respect to any Debenture (other than a payment required by one of the covenants
described above under the caption "--Repurchase at the Option of Holders") or
(viii) make any change in the foregoing amendment and waiver provisions.
Notwithstanding the foregoing, without the consent of any Holder of
Debentures, Holding and the Trustee may amend or supplement the Indenture or
the Debentures to cure any ambiguity, defect or inconsistency, to provide for
uncertificated Debentures in addition to or in place of certificated
Debentures, to provide for the assumption of Holding's obligations to Holders
of Debentures in the case of a merger or consolidation or the sale of all or
substantially all of the assets of Holding, to make any change that would
provide any additional rights or benefits to the Holders of Debentures or that
does not adversely affect the legal rights under the Indenture of any such
Holder, to comply with requirements of the Commission in order to effect or
maintain the qualification of the Indenture under the Trust Indenture Act or to
allow any Subsidiary to guarantee the Debentures.
CONCERNING THE TRUSTEE
The Indenture contains certain limitations on the rights of the Trustee,
should it become a creditor of Holding, to obtain payment of claims in certain
cases, or to realize on certain property received in respect of any such claim
as security or otherwise. The Trustee will be permitted to engage in other
transactions; however, if it acquires any conflicting interest it must
eliminate such conflict within 90 days, apply to the Commission for permission
to continue or resign.
The Holders of a majority in principal amount of the then outstanding
Debentures will have the right to direct the time, method and place of
conducting any proceeding for exercising any remedy available to the Trustee,
subject to certain exceptions. The Indenture provides that in case an Event of
Default shall occur (which shall not be cured), the Trustee will be required,
in the exercise of its power, to use the degree of care of a prudent man in the
conduct of his own affairs. Subject to such provisions, the Trustee will be
under no obligation to exercise any of its rights or powers under the Indenture
at the request of any Holder of Debentures, unless such Holder shall have
offered to the Trustee security and indemnity satisfactory to it against any
loss, liability or expense.
ADDITIONAL INFORMATION
Anyone who receives this Prospectus may obtain a copy of the Indenture and
Registration Rights Agreement without charge by writing to AKI Holding Corp.,
1815 East Main Street, Chattanooga, Tennessee 37404; Attention: Chief Financial
Officer.
FORM, DENOMINATION AND BOOK-ENTRY PROCEDURES
The Old Debentures were initially sold to qualified institutional buyers
in reliance on Rule 144A under the Securities Act ("Rule 144A Debentures"). Old
Debentures also were offered and sold in offshore transactions in reliance on
Regulation S ("Regulation S Debentures"). Rule 144A Debentures and Regulation S
Debentures were each initially represented by one or more Debentures in
registered, global form without interest coupons (the "Old Global Debentures").
The Old Global Debentures were deposited upon issuance with the Trustee as
custodian for The Depository Trust Company ("DTC"), in New York, New York, and
registered in the name of a nominee of DTC, in each case for credit to an
account of a direct or indirect participant as described below. Regulation S
Debentures were deposited
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upon issuance with the Trustee as custodian for DTC, and registered in the name
of a nominee of DTC, in each case for credit to the accounts of Euroclear
System ("Euroclear") and Cedel Bank, S.A. ("CEDEL").
The New Debentures will be represented by one or more new debentures in
registered, global form without interest coupons (collectively, the "New Global
Debentures") and deposited with the Trustee as custodian and registered in the
name of a nominee of DTC. The Old Global Debentures, to the extent directed by
holders thereof in their Letters of Transmittal, will be exchanged through
book-entry electronic transfer for one or more New Global Debentures for credit
to an account of a direct or indirect participant as described below. No
service charge will be made for any registration of transfer or exchange of
Debentures, but Holding may require payment of a sum sufficient to cover any
tax or other governmental charge payable in connection therewith.
New Debentures issued to non-qualified institutional buyers in exchange
for Old Debentures held by such investors, if any, will be issued only in
certificated, fully registered, definitive form. The New Global Debenture will,
upon request, be exchangeable for other New Debentures in definitive, fully
registered form without coupons in denominations of $1,000 and integral
multiples thereof, but only in accordance with DTC's customary procedures. The
New Global Debenture will also be exchangeable in certain other limited
circumstances. See "--Exchange of Book-Entry Notes for Certificated
Debentures." Holding, the Trustee and any other agent thereof will be entitled
to treat DTC's nominee as the sole owner and holder of the unexchanged portion
of the New Global Debenture for all purposes.
Depositary Procedures
DTC has advised Holding that DTC is a limited-purpose trust company
created to hold securities for its participating organizations (collectively,
the "Participants") and to facilitate the clearance and settlement of
transactions in those securities between the Participants through electronic
book-entry changes in accounts of the Participants. The Participants include
securities brokers and dealers (including the Initial Purchasers), banks, trust
companies, clearing corporations and certain other organizations. Access to
DTC's system is also available to other entities such as banks, brokers,
dealers and trust companies that clear through or maintain a custodial
relationship with a Participant, either directly or indirectly (collectively,
the "Indirect Participants"). Persons who are not Participants may beneficially
own securities held by or on behalf of DTC only through the Participants or the
Indirect Participants. The ownership interest and transfer of ownership
interest of each actual purchaser of each security held by or on behalf of DTC
are recorded on the records of the Participants and the Indirect Participants.
DTC has also advised Holding that pursuant to procedures established by
it, (i) upon deposit of the New Global Debenture, DTC will credit the accounts
of Participants designated by the Participants with portions of the principal
amount of the Old Global Debentures and (ii) ownership of such interests in the
New Global Debenture will be shown on, and the transfer of ownership thereof
will be effected only through, records maintained by DTC (with respect to the
Participants) or by the Participants and the Indirect Participants (with
respect to other owners of beneficial interests in the New Global Debenture).
Investors in the New Global Debenture may hold their interests therein directly
through DTC, if they are Participants in such system, or indirectly through
organizations (including Euroclear and CEDEL) which are Participants in such
system. All interests in the New Global Debenture, including those held through
Euroclear or CEDEL, may be subject to the procedures and requirements of DTC.
Those interests held through Euroclear or CEDEL may also be subject to the
procedures and requirements of such system.
The laws of some states require that certain persons take physical
delivery in definitive form of securities that they own. Consequently, the
ability to transfer beneficial interests in the Old Global Notes or the New
Global Debenture to such persons may be limited to that extent. Because DTC can
act only on behalf of the Participants, which in turn act on behalf of the
Indirect Participants and certain banks, the ability of a person having
beneficial interests in the New Global Debenture to pledge such interests to
persons or entities that do not participate in the DTC system, or otherwise
take actions in respect of such interests, may be affected by the lack of a
physical certificate evidencing such interests. For certain other restrictions
on the transferability of the Debentures, see "--Exchange of Book-Entry
Debentures for Certificated Debentures."
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Except as described below, owners of interests in the New Global Debenture
will not have New Debentures registered in their names, will not receive
physical delivery of New Debentures in certificated form and will not be
considered the registered owners or holders thereof under the Indenture for any
purpose.
Payments in respect of the principal of (and premium, if any) and interest
on the New Global Debenture registered in the name of DTC or its nominee will
be payable by the Trustee to DTC or its nominee in its capacity as the
registered holder under the Indenture. Under the terms of the Indenture,
Holding and the Trustee will treat the persons in whose names the New
Debentures, including the New Global Debenture, are registered as the owners
thereof for the purpose of receiving such payments and for any and all other
purposes whatsoever. Consequently, neither Holding, the Trustee or any agent of
Holding or the Trustee has or will have any responsibility or liability for (i)
any aspect or accuracy of DTC's records or any Participant's or Indirect
Participant's records relating to or payments made on account of beneficial
ownership interests in the New Global Debenture, or for maintaining,
supervising or reviewing any of DTC's records or any Participant's or Indirect
Participant's records relating to the beneficial ownership interests in the New
Global Debenture, or (ii) any other matter relating to the actions and
practices of DTC or any of the Participants or the Indirect Participants.
DTC has advised Holding that its current practice, upon receipt of any
payment in respect of securities such as the New Debentures (including
principal and interest), is to credit the accounts of the relevant Participants
with the payment on the payment date, in amounts proportionate to their
respective holdings in principal amount of beneficial interests in the relevant
security as shown on the records of DTC. Payments by the Participants and the
Indirect Participants to the beneficial owners of New Debentures will be
governed by standing instructions and customary practices and will not be the
responsibility of DTC, the Trustee or Holding. Neither Holding nor the Trustee
will be liable for any delay by DTC or any of the Participants in identifying
the beneficial owners of the New Notes, and Holding and the Trustee may
conclusively rely on and will be protected in relying on instructions from DTC
or its nominee as the registered owner of the New Global Debenture for all
purposes.
DTC has advised Holding that it will take any action permitted to be taken
by a holder of Debentures only at the direction of one or more Participants to
whose account with DTC interests in the Old Global Debentures or the New Global
Debenture are credited and only in respect of such portion of the aggregate
principal amount of the Debentures as to which such Participant or Participants
has or have given such direction. However, if any of the events described under
"-- Exchange of Book Entry Notes for Certificated Notes" occurs, DTC reserves
the right to exchange the New Global Debenture for New Debentures in
certificate form and to distribute such New Debentures to its Participants.
Although DTC, Euroclear and CEDEL have agreed to the foregoing procedures
to facilitate transfers of interests in the Old Global Debentures and the New
Global Debenture among accountholders in DTC and accountholders of Euroclear
and CEDEL, they are under no obligation to perform or to continue to perform
such procedures, and such procedures may be discontinued at any time. None of
Holding or the Trustee nor any agent of Holding or the Trustee will have any
responsibility for the performance by DTC, Euroclear or CEDEL or their
respective participants, indirect participants or accountholders of their
respective obligations under the rules and procedures governing their
operations.
EXCHANGE OF BOOK-ENTRY DEBENTURES FOR CERTIFICATED DEBENTURES
The New Global Debenture is exchangeable for definitive New Debentures in
registered certificated form if (i) DTC (x) notifies Holding that it is
unwilling or unable to continue as depository for the New Global Debenture and
Holding thereupon fails to appoint a successor depository or (y) has ceased to
be a clearing agency registered under the Exchange Act, (ii) Holding, at its
option, notifies the Trustee in writing that it elects to cause the issuance of
the New Debentures in certificated form or (iii) there shall have occurred and
be continuing a Default or an Event of Default with respect to the New Notes.
In all cases, certificated New Debentures delivered in exchange for the New
Global Debenture or beneficial interests therein will be registered in the
names, and issued in any approved denominations, requested by or on behalf of
the depository (in accordance with its customary procedures). In addition,
subject to certain restrictions on the transferability of the New Debentures,
New Debentures in definitive form will
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be issued upon the resale, pledge or other transfer of any New Debentures or
interest therein to any person or entity that is not a qualified institutional
buyer or that does not participate in DTC.
The information in this section concerning DTC and DTC's book-entry system
has been obtained from sources that Holding believes to be reliable, but
Holding takes no responsibility for the accuracy thereof.
SAME DAY SETTLEMENT AND PAYMENT
The Indenture requires that payments in respect of the Debentures
represented by the Global Debenture (including principal, premium, if any,
interest and Liquidated Damages, if any) be made by wire transfer of
immediately available next day funds to the accounts specified by the Global
Debenture Holder. With respect to Certificated Debentures, Holding will make
all payments of principal, premium, if any, interest and Liquidated Damages, if
any, by wire transfer of immediately available funds to the accounts specified
by the Holders thereof or, if no such account is specified, by mailing a check
to each such Holder's registered address. Holding expects that secondary
trading in the Certificated Debentures will also be settled in immediately
available funds.
CERTAIN DEFINITIONS
Set forth below are certain defined terms used in the Indenture. Reference
is made to the Indenture for a full disclosure of all such terms, as well as
any other capitalized terms used herein for which no definition is provided.
"Accreted Value" means for each $1,000 of Debentures, as of any date of
determination prior to July 1, 2003, the sum of (i) the initial offering price
of each Debenture and (ii) that portion of the excess of the principal amount
of each Debenture over such initial offering price which shall have been
accreted thereon through such date, such amount to be so accreted on a daily
basis and compounded semi-annually on each January 1 and July 1 at the rate of
13 1/2% per annum from the date of issuance of the Debentures through the date
of determination.
"Acquired Debt" means, with respect to any specified Person, (i)
Indebtedness of any other Person existing at the time such other Person is
merged with or into or became a Subsidiary of such specified Person, including,
without limitation, Indebtedness incurred in connection with, or in
contemplation of, such other Person merging with or into or becoming a
Subsidiary of such specified Person, and (ii) Indebtedness secured by a Lien
encumbering any asset acquired by such specified Person.
"Affiliate" of any specified Person means any other Person directly or
indirectly controlling or controlled by or under direct or indirect common
control with such specified Person. For purposes of this definition, "control"
(including, with correlative meanings, the terms "controlling," "controlled by"
and "under common control with"), as used with respect to any Person, shall
mean the possession, directly or indirectly, of the power to direct or cause
the direction of the management or policies of such Person, whether through the
ownership of voting securities, by agreement or otherwise.
"Asset Sale" means (i) the sale, lease, conveyance or other disposition (a
"disposition") of any assets or rights (including, without limitation, by way
of a sale and leaseback) (provided that the sale, lease, conveyance or other
disposition of all or substantially all of the assets of Holding and its
Restricted Subsidiaries taken as a whole will be governed by the provisions of
the Indenture described above under the caption "--Repurchase at the Option of
Holders--Change of Control" and/or the provisions described above under the
caption "--Certain Covenants--Merger, Consolidation or Sale of Assets" and not
by the provisions of the Asset Sale covenant), and (ii) the issue or sale by
Holding or any of its Restricted Subsidiaries of Equity Interests of any of
Holding's Restricted Subsidiaries, in the case of either clause (i) or (ii),
whether in a single transaction or a series of related transactions (a) that
have a fair market value in excess of $3.0 million or (b) for net proceeds in
excess of $3.0 million. Notwithstanding the foregoing the following items shall
not be deemed to be Asset Sales: (i) a disposition of assets by Holding to a
Restricted Subsidiary or by a Restricted Subsidiary to Holding or to another
Restricted Subsidiary, (ii) an issuance of Equity Interests by a Restricted
Subsidiary to Holding or to another
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Restricted Subsidiary, (iii) a Restricted Payment that is permitted by the
covenant described above under the caption "--Certain Covenants--Restricted
Payments"; (iv) a disposition in the ordinary course of business, (v) the sale
and leaseback of any assets within 90 days of the acquisition thereof, (vi)
foreclosures on assets and (vii) any exchange of property pursuant to Section
1031 on the Internal Revenue Code of 1986, as amended, for use in a Related
Business.
"Attributable Debt" in respect of a sale and leaseback transaction means,
at the time of determination, the present value (discounted at the rate of
interest implicit in such transaction, determined in accordance with GAAP) of
the obligation of the lessee for net rental payments during the remaining term
of the lease included in such sale and leaseback transaction (including any
period for which such lease has been extended or may, at the option of the
lessor, be extended).
"Capital Lease Obligation" means, at the time any determination thereof is
to be made, the amount of the liability in respect of a capital lease that
would at such time be required to be capitalized on a balance sheet in
accordance with GAAP.
"Capital Stock" means (i) in the case of a corporation, corporate stock,
(ii) in the case of an association or business entity, any and all shares,
interests, participations, rights or other equivalents (however designated) of
corporate stock, (iii) in the case of a partnership or limited liability
company, partnership or membership interests (whether general or limited) and
(iv) any other interest or participation that confers on a Person the right to
receive a share of the profits and losses of, or distributions of assets of,
the issuing Person.
"Cash Equivalents" means (i) United States dollars, (ii) Government
Securities having maturities of not more than six months from the date of
acquisition, (iii) certificates of deposit and eurodollar time deposits with
maturities of six months or less from the date of acquisition, bankers'
acceptances with maturities not exceeding six months and overnight bank
deposits, in each case with the lender under the Credit Agreement or with any
domestic commercial bank having capital and surplus in excess of $500 million
and a Thompson Bank Watch Rating of "B" or better, (iv) repurchase obligations
with a term of not more than seven days for underlying securities of the types
described in clauses (ii) and (iii) above entered into with any financial
institution meeting the qualifications specified in clause (iii) above, (v)
commercial paper having the rating of "P-2" (or higher) from Moody's Investors
Service, Inc. or "A-3" (or higher) from Standard & Poor's Corporation and in
each case maturing within six months after the date of acquisition and (vi) any
fund investing exclusively in investments of the type described in clauses (i)
through (v) above.
"Change of Control" means the occurrence of any of the following: (i) the
sale, lease, transfer, conveyance or other disposition (other than by way of
merger or consolidation), in one or a series of related transactions, of all or
substantially all of the assets of Holding and its Subsidiaries taken as a
whole to any "person" (as such term is used in Section 13(d)(3) of the Exchange
Act) other than the Principals or their Related Parties (as defined below),
(ii) the adoption of a plan relating to the liquidation or dissolution of
Holding, (iii) the consummation of any transaction (including, without
limitation, any merger or consolidation) the result of which is that any
"person" (as defined above), other than the Principals and their Related
Parties, becomes the "beneficial owner" (as such term is defined in Rule 13d-3
and Rule 13d-5 under the Exchange Act, directly or indirectly, of more than 50%
of the Voting Stock of the Company (measured by voting power rather than number
of shares), or (iv) the first day on which a majority of the members of the
Board of Directors of Holding are not Continuing Directors.
"Consolidated Cash Flow" means, with respect to any Person for any period,
the Consolidated Net Income of such Person for such period plus (i) an amount
equal to any extraordinary loss plus any net loss realized in connection with
an Asset Sale (to the extent such losses were deducted in computing such
Consolidated Net Income), plus (ii) provision for taxes based on income or
profits of such Person and its Subsidiaries for such period, to the extent that
such provision for taxes was included in computing such Consolidated Net
Income, plus (iii) consolidated interest expense of such Person and its
Subsidiaries for such period, whether paid or accrued and whether or not
capitalized (including, without limitation, amortization of debt issuance costs
and original issue discount, non-cash interest payments, the interest component
of any deferred payment obligations, the interest component of all payments
associated with
72
Capital Lease Obligations, commissions, discounts and other fees and charges
incurred in respect of letter of credit or bankers' acceptance financings, and
net payments (if any) pursuant to Hedging Obligations), to the extent that any
such expense was deducted in computing such Consolidated Net Income, plus (iv)
depreciation, amortization (including amortization of goodwill and other
intangibles but excluding amortization of prepaid cash expenses that were paid
in a prior period) and other non-cash charges (excluding any such non-cash
charge to the extent that it represents an accrual of or reserve for cash
expenses in any future period or amortization of a prepaid cash expense that
was paid in a prior period) of such Person and its Subsidiaries for such period
to the extent that such depreciation, amortization and other non-cash expenses
were deducted in computing such Consolidated Net Income, plus (v) expenses and
charges of Holding or the Company related to the Refinancing which are paid,
taken or otherwise accounted for within 90 days of the consummation of the
Refinancing, plus (vi) any non-capitalized transaction costs incurred in
connection with actual or proposed financings, acquisitions or divestitures
(including, but not limited to, financing and refinancing fees and costs
incurred in connection with the Refinancing). Notwithstanding the foregoing,
the provision for taxes on the income or profits of, and the depreciation and
amortization and other non-cash charges of, a Subsidiary of the referent Person
shall be added to Consolidated Net Income to compute Consolidated Cash Flow
only to the extent (and in the same proportion) that Net Income of such
Subsidiary was included in calculating Consolidated Net Income of such Person.
"Consolidated Interest Expense" means, with respect to any Person for any
period, the sum of, without duplication, (a) the interest expense of such
Person and its Restricted Subsidiaries for such period, on a consolidated
basis, determined in accordance with GAAP (including amortization of original
issue discount, non-cash interest payments, the interest component of all
payments associated with Capital Lease Obligations, imputed interest with
respect to Attributable Debt, commissions, discounts and other fees and charges
incurred in respect of letter of credit or bankers' acceptance financings, and
net payments, if any, pursuant to Hedging Obligations; provided that in no
event shall any amortization of deferred financing costs be included in
Consolidated Interest Expense); and (b) the consolidated capitalized interest
of such Person and its Restricted Subsidiaries for such period, whether paid or
accrued. Notwithstanding the foregoing, the Consolidated Interest Expense with
respect to any Restricted Subsidiary that is not a Wholly Owned Restricted
Subsidiary shall be included only to the extent (and in the same proportion)
that the net income of such Restricted Subsidiary was included in calculating
Consolidated Net Income.
"Consolidated Net Income" means, with respect to any Person for any
period, the aggregate of the Net Income of such Person and its Restricted
Subsidiaries for such period, on a consolidated basis, determined in accordance
with GAAP; provided that (i) the Net Income (but not loss) of any Person that
is not a Restricted Subsidiary or that is accounted for by the equity method of
accounting shall be included only to the extent of the amount of dividends or
distributions paid in cash to the referent Person or a Restricted Subsidiary
thereof, (ii) the Net Income of any Restricted Subsidiary shall be excluded to
the extent that the declaration or payment of dividends or similar
distributions by that Restricted Subsidiary of that Net Income is not at the
date of determination permitted without any prior governmental approval (that
has not been obtained) or, directly or indirectly, by operation of the terms of
its charter or any judgment, decree, order, statute, rule or governmental
regulation applicable to that Subsidiary or its stockholders, (iii) the Net
Income of any Person acquired in a pooling of interests transaction for any
period prior to the date of such acquisition shall be excluded, (iv) the
cumulative effect of a change in accounting principles shall be excluded and
(v) the Net Income of any Unrestricted Subsidiary shall be excluded, whether or
not distributed to Holding or one of its Restricted Subsidiaries for purposes
of the covenant described under the caption "Incurrence of Indebtedness and
Issuance of Preferred Stock" and shall be included for purposes of the covenant
described under the caption "Restricted Payments" only to the extent of the
amount of dividends or distributions paid in cash to Holding or one of its
Restricted Subsidiaries.
"Continuing Directors" means, as of any date of determination, any member
of the Board of Directors of Holding who (i) was a member of such Board of
Directors on the date of the Indenture or (ii) was nominated for election or
elected to such Board of Directors with the approval of a majority of the
Continuing Directors who were members of such Board at the time of such
nomination or election.
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"Credit Agreement" means that certain Credit Agreement, dated as of April
30, 1996, as amended on December 12, 1997, between the Company and Heller
Financial, Inc., providing for revolving credit borrowings, including any
related notes, guarantees, collateral documents, instruments and agreements
executed in connection therewith, and in each case as amended, modified,
renewed, refunded, replaced or refinanced from time to time.
"Default" means any event that is or with the passage of time or the
giving of notice or both would be an Event of Default.
"Disqualified Stock" means any Capital Stock that, by its terms (or by the
terms of any security into which it is convertible or for which it is
exchangeable), or upon the happening of any event, matures or is mandatorily
redeemable, pursuant to a sinking fund obligation or otherwise, or redeemable
at the option of the Holder thereof, in whole or in part, on or prior to the
date that is 91 days after the date on which the Debentures mature; provided,
however, that any Capital Stock that would not qualify as Disqualified Stock
but for change of control provisions shall not constitute Disqualified Stock if
the provisions are not more favorable to the holders of such Capital Stock than
the provisions described under "--Change of Control" applicable to the Holders
of the Debentures.
"Equity Interests" means Capital Stock and all warrants, options or other
rights to acquire Capital Stock (but excluding any debt security that is
convertible into, or exchangeable for, Capital Stock).
"Existing Indebtedness" means Indebtedness of Holding and its Subsidiaries
(other than Indebtedness under the Credit Agreement) in existence on the date
of the Indenture, until such amounts are repaid.
"Fixed Charges" means, with respect to any Person for any period, the sum,
without duplication, of (i) the Consolidated Interest Expense of such Person
for such period, (ii) any interest expense on Indebtedness of another Person
that is Guaranteed by such Person or one of its Restricted Subsidiaries or
secured by a Lien on assets of such Person or one of its Restricted
Subsidiaries (whether or not such Guarantee or Lien is called upon) and (iii)
the product of (a) all dividend payments, whether or not in cash, on any series
of preferred stock of such Person or any of its Restricted Subsidiaries, other
than dividend payments on Equity Interests payable solely in Equity Interests
of Holding, times (b) a fraction, the numerator of which is one and the
denominator of which is one minus the then current combined federal, state and
local statutory tax rate of such Person, expressed as a decimal, in each case,
on a consolidated basis and in accordance with GAAP.
"Fixed Charge Coverage Ratio" means with respect to any Person for any
period, the ratio of the Consolidated Cash Flow of such Person for such period
to the Fixed Charges of such Person for such period. In the event that Holding
or any of its Restricted Subsidiaries incurs, assumes, Guarantees or redeems
any Indebtedness (other than revolving credit borrowings) or issues preferred
stock subsequent to the commencement of the period for which the Fixed Charge
Coverage Ratio is being calculated but prior to the date on which the event for
which the calculation of the Fixed Charge Coverage Ratio is made (the
"Calculation Date"), then the Fixed Charge Coverage Ratio shall be calculated
giving pro forma effect to such incurrence, assumption, Guarantee or redemption
of Indebtedness, or such issuance or redemption of preferred stock, as if the
same had occurred at the beginning of the applicable four-quarter reference
period. In addition, for purposes of making the computation referred to above,
(i) acquisitions that have been made by Holding or any of its Restricted
Subsidiaries, including through mergers or consolidations and including any
related financing transactions, during the four-quarter reference period or
subsequent to such reference period and on or prior to the Calculation Date
shall be calculated to include the Consolidated Cash Flow of the acquired
entities on a pro forma basis after giving effect to cost savings resulting
from employee terminations, facilities consolidations and closings,
standardization of employee benefits and compensation policies, consolidation
of property, casualty and other insurance coverage and policies,
standardization of sales and distribution methods, reductions in taxes other
than income taxes and other cost savings reasonably expected to be realized
from such acquisition, shall be deemed to have occurred on the first day of the
four-quarter reference period and Consolidated Cash Flow for such reference
period shall be calculated without giving effect to clause (iii) of the proviso
set forth in the definition of Consolidated Net Income, (ii) the Consolidated
Cash Flow attributable to
74
discontinued operations, as determined in accordance with GAAP, and operations
or businesses disposed of prior to the Calculation Date, shall be excluded, and
(iii) the Fixed Charges attributable to discontinued operations, as determined
in accordance with GAAP, and operations or businesses disposed of prior to the
Calculation Date, shall be excluded, but only to the extent that the
obligations giving rise to such Fixed Charges will not be obligations of the
referent Person or any of its Restricted Subsidiaries following the Calculation
Date.
"Foreign Subsidiary" means any Subsidiary of Holding that is not organized
under the laws of a state or territory of the United States or the District of
Columbia.
"GAAP" means generally accepted accounting principles set forth in the
opinions and pronouncements of the Accounting Principles Board of the American
Institute of Certified Public Accountants and statements and pronouncements of
the Financial Accounting Standards Board or in such other statements by such
other entity as have been approved by a significant segment of the accounting
profession, which are in effect on the date of the Indenture.
"Government Securities" means direct obligations of, or obligations
guaranteed by, the United States of America for the payment of which guarantee
or obligations the full faith and credit of the United States is pledged.
"Guarantee" means a guarantee (other than by endorsement of negotiable
instruments for collection in the ordinary course of business), direct or
indirect, in any manner (including, without limitation, letters of credit and
reimbursement agreements in respect thereof), of all or any part of any
Indebtedness.
"Hedging Obligations" means, with respect to any Person, the obligations
of such Person under (i) interest rate swap agreements, interest rate cap
agreements and interest rate collar agreements and (ii) other agreements or
arrangements designed to protect such Person against fluctuations in interest
rates or currency exchange rates.
"Indebtedness" means, with respect to any Person, any indebtedness of such
Person, in respect of borrowed money or evidenced by bonds, notes, debentures
or similar instruments or letters of credit (or reimbursement agreements in
respect thereof) or bankers' acceptances or representing Capital Lease
Obligations or the balance deferred and unpaid of the purchase price of any
property or representing any Hedging Obligations, except any such balance that
constitutes an accrued expense or trade payable, if and to the extent any of
the foregoing indebtedness (other than letters of credit and Hedging
Obligations) would appear as a liability upon a balance sheet of such Person
prepared in accordance with GAAP, as well as all indebtedness of others secured
by a Lien on any asset of such Person (whether or not such Indebtedness is
assumed by such Person) and, to the extent not otherwise included, the
Guarantee by such Person of any indebtedness of any other Person; provided that
Indebtedness shall not include the pledge by Holding of the Capital Stock of an
Unrestricted Subsidiary of Holding to secure Non-Recourse Debt of such
Unrestricted Subsidiary. The amount of any Indebtedness outstanding as of any
date shall be (i) the accreted value thereof, in the case of any Indebtedness
that does not require current payments of interest, and (ii) the principal
amount thereof, together with any interest thereon that is more than 30 days
past due, in the case of any other Indebtedness.
"Investments" means, with respect to any Person, all investments by such
Person in other Persons (including Affiliates) in the forms of direct or
indirect loans (including guarantees of Indebtedness or other obligations),
advances or capital contributions (excluding commission, travel and similar
advances to officers and employees made in the ordinary course of business),
purchases or other acquisitions for consideration of Indebtedness, Equity
Interests or other securities, together with all items that are or would be
classified as investments on a balance sheet prepared in accordance with GAAP.
If Holding or any Restricted Subsidiary of Holding sells or otherwise disposes
of any Equity Interests of any direct or indirect Restricted Subsidiary of
Holding such that, after giving effect to any such sale or disposition, such
Person is no longer a Restricted Subsidiary of Holding, Holding shall be deemed
to have made an Investment on the date of any such sale or disposition equal to
the fair market value of the Equity Interests of such Restricted Subsidiary not
sold or disposed of in an amount determined as provided in the final paragraph
of the covenant described above under the caption "--Restricted Payments."
75
"Lien" means, with respect to any asset, any mortgage, lien, pledge,
charge, security interest or encumbrance of any kind in respect of such asset,
whether or not filed, recorded or otherwise perfected under applicable law
(including any conditional sale or other title retention agreement, any lease
in the nature thereof, any option or other agreement to sell or give a security
interest in and any filing of or agreement to give any financing statement
under the Uniform Commercial Code (or equivalent statutes) of any
jurisdiction).
"Net Income" means, with respect to any Person, the net income (loss) of
such Person, determined in accordance with GAAP and before any reduction in
respect of preferred stock dividends, excluding, however, (i) any gain (but not
loss), together with any related provision for taxes on such gain (but not
loss), realized in connection with (a) any Asset Sale (including, without
limitation, dispositions pursuant to sale and leaseback transactions) or (b)
the disposition of any securities by such Person or any of its Restricted
Subsidiaries or the extinguishment of any Indebtedness of such Person or any of
its Restricted Subsidiaries and (ii) any extraordinary or nonrecurring gain
(but not loss), together with any related provision for taxes on such
extraordinary or nonrecurring gain (but not loss).
"Net Proceeds" means the aggregate cash proceeds received by Holding or
any of its Restricted Subsidiaries in respect of any Asset Sale (including,
without limitation, any cash received upon the sale or other disposition of any
non-cash consideration received in any Asset Sale), net of the direct costs
relating to such Asset Sale (including, without limitation, legal, accounting
and investment banking fees, and sales commissions) and any relocation expenses
incurred as a result thereof, taxes paid or payable as a result thereof (after
taking into account any available tax credits or deductions and any tax sharing
arrangements), the amounts required to be applied to the payment of
Indebtedness (other than Indebtedness incurred pursuant to the Credit
Agreement) secured by a Lien on the asset or assets that were the subject of
the Asset Sale, and any reserve for adjustment in respect of the sale price of
such asset or assets established in accordance with GAAP.
"Non-Recourse Debt" means Indebtedness (i) as to which neither Holding nor
any of its Restricted Subsidiaries (a) provides credit support of any kind
(including any undertaking, agreement or instrument that would constitute
Indebtedness), (b) is directly or indirectly liable (as a guarantor or
otherwise), or (c) constitutes the lender; (ii) no default with respect to
which (including any rights that the holders thereof may have to take
enforcement action against an Unrestricted Subsidiary) would permit (upon
notice, lapse of time or both) any holder of any other Indebtedness (other than
the Debentures being offered hereby and the Notes offered in the Notes
Offering) of Holding or any of its Restricted Subsidiaries to declare a default
on such other Indebtedness or cause the payment thereof to be accelerated or
payable prior to its stated maturity; and (iii) as to which the lenders have
been notified in writing that they will not have any recourse to the stock
(other than stock of an Unrestricted Subsidiary pledged by Holding to secure
debt of such Unrestricted Subsidiary) or assets of Holding or any of its
Restricted Subsidiaries.
"Obligations" means any principal, interest, penalties, fees,
indemnifications, reimbursements, damages and other liabilities payable under
the documentation governing any Indebtedness.
"Permitted Business" means any business in which Holding and its
respective Restricted Subsidiaries are engaged on the date of the Indenture or
any business reasonably related, incidental or ancillary thereto.
"Permitted Investments" means (a) any Investment in Holding or in a
Restricted Subsidiary of Holding that is engaged in a Permitted Business; (b)
any Investment in Cash Equivalents; (c) any Investment by Holding or any
Restricted Subsidiary of Holding in a Person, if as a result of such Investment
(i) such Person becomes a Restricted Subsidiary of Holding that is engaged in a
Permitted Business or (ii) such Person is merged, consolidated or amalgamated
with or into, or transfers or conveys substantially all of its assets to, or is
liquidated into, Holding or a Restricted Subsidiary of Holding that is engaged
in a Permitted Business; (d) any Restricted Investment made as a result of the
receipt of non-cash consideration from an Asset Sale that was made pursuant to
and in compliance with the covenant described above under the caption
"--Repurchase at the Option of Holders--Asset Sales"; (e) any acquisition of
assets solely in exchange for the issuance of Equity Interests (other than
Disqualified Stock) of Holding; and (f) other Investments made after the date
of the Indenture in any Person having
76
an aggregate fair market value (measured on the date each such Investment was
made and without giving effect to subsequent changes in value), when taken
together with all other Investments made pursuant to this clause (f) that are
at the time outstanding, not to exceed $10.0 million.
"Permitted Liens" means (i) Liens securing Indebtedness under the Credit
Agreement that was permitted by the terms of the Indenture to be incurred or
other Indebtedness allowed to be incurred under clause (i) of the covenant
described above under the caption "--Incurrence of Indebtedness and Issuance of
Preferred Stock"; (ii) Liens in favor of Holding; (iii) Liens on property of a
Person existing at the time such Person is merged into or consolidated with
Holding or any Restricted Subsidiary of Holding, provided that such Liens were
not incurred in contemplation of such merger or consolidation and do not extend
to any assets other than those of the Person merged into or consolidated with
Holding or any Restricted Subsidiary; (iv) Liens on property existing at the
time of acquisition thereof by Holding or any Restricted Subsidiary of Holding,
provided that such Liens were in existence prior to the contemplation of such
acquisition; (v) Liens to secure the performance of statutory obligations,
surety or appeal bonds, performance bonds or other obligations of a like nature
incurred in the ordinary course of business; (vi) Liens existing on the date of
the Indenture; (vii) Liens for taxes, assessments or governmental charges or
claims that are not yet delinquent or that are being contested in good faith by
appropriate proceedings promptly instituted and diligently concluded, provided
that any reserve or other appropriate provision as shall be required in
conformity with GAAP shall have been made therefor; (viii) Liens to secure
Indebtedness (including Capital Lease Obligations) permitted by clause (iv) of
the second paragraph of the covenant entitled "Incurrence of Indebtedness and
Issuance of Preferred Stock"; (ix) Liens securing Permitted Refinancing
Indebtedness where the Liens securing the Permitted Refinancing Indebtedness
were permitted under the Indenture; (x) Liens incurred in the ordinary course
of business of Holding or any Restricted Subsidiary of Holding with respect to
obligations that do not exceed $5.0 million at any one time outstanding and
that (a) are not incurred in connection with the borrowing of money or the
obtaining of advances or credit (other than trade credit in the ordinary course
of business) and (b) do not in the aggregate materially detract from the value
of the property or materially impair the use thereof in the operation of
business by Holding or such Restricted Subsidiary; and (xi) Liens on assets of
Unrestricted Subsidiaries that secure Non-Recourse Debt of Unrestricted
Subsidiaries.
"Permitted Refinancing Indebtedness" means any Indebtedness of Holding or
any of its Restricted Subsidiaries issued in exchange for, or the net proceeds
of which are used to extend, refinance, renew, replace, defease or refund other
Indebtedness of Holding or any of its Restricted Subsidiaries; provided that:
(i) the principal amount (or accreted value, if applicable) of such Permitted
Refinancing Indebtedness does not exceed the principal amount of (or accreted
value, if applicable), plus accrued interest on, the Indebtedness so extended,
refinanced, renewed, replaced, defeased or refunded (plus the amount of
reasonable expenses incurred in connection therewith); (ii) such Permitted
Refinancing Indebtedness has a final maturity date no earlier than the final
maturity date of, and has a Weighted Average Life to Maturity equal to or
greater than the Weighted Average Life to Maturity of, the Indebtedness being
extended, refinanced, renewed, replaced, defeased or refunded; and (iii) if the
Indebtedness being extended, refinanced, renewed, replaced, defeased or
refunded is subordinated in right of payment to the Debentures, such Permitted
Refinancing Indebtedness has a final maturity date later than the final
maturity date of, and is subordinated in right of payment to, the Debentures on
terms at least as favorable to the Holders of Debentures as those contained in
the documentation governing the Indebtedness being extended, refinanced,
renewed, replaced, defeased or refunded.
"Principals" means Roger L. Barnett, DLJ Merchant Banking Partners II,
L.P., DLJ Merchant Banking Partners II-A, L.P., DLJ Offshore Partners II, L.P.,
DLJ Offshore Partners II, C.V., DLJ Diversified Partners, L.P., DLJ Diversified
Partners-A, L.P., DLJMB Funding II, Inc., DLJ Millennium Partners, L.P., DLJ
Millennium Partners-A, L.P., DLJ EAB Partners, L.P., UK Investment Plan 1997
Partners and DLJ First ESC L.P.
"Public Equity Offering" means a public offering of Equity Interests
(other than Disqualified Stock) of (i) Holding or (ii) Acquisition Corp. to the
extent the net proceeds thereof are contributed to Holding as a capital
contribution, that, in each case, results in net proceeds to Holding of at
least $25.0 million.
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"Related Party" with respect to any Principal means (A) any controlling
stockholder or partner, 80% (or more) owned Subsidiary, or spouse or immediate
family member (in the case of an individual) of such Principal or (B) any
trust, corporation, partnership or other entity, the beneficiaries,
stockholders, partners, owners or Persons beneficially holding (directly or
through one or more Subsidiaries) a 51% or more controlling interest of which
consist of the Principals and/or such other Persons referred to in the
immediately preceding clause (A).
"Restricted Investment" means an Investment other than a Permitted
Investment.
"Restricted Subsidiary" of a Person means any Subsidiary of the referent
Person that is not an Unrestricted Subsidiary.
"Rule 144A" means Rule 144A promulgated under the Securities Act.
"Significant Subsidiary" means any Subsidiary that would be a "significant
subsidiary" as defined in Article 1, Rule 1-02 of Regulation S-X, promulgated
pursuant to the Act, as such Regulation is in effect on the date hereof.
"Stated Maturity" means, with respect to any installment of interest or
principal on any series of Indebtedness, the date on which such payment of
interest or principal was scheduled to be paid in the original documentation
governing such Indebtedness, and shall not include any contingent obligations
to repay, redeem or repurchase any such interest or principal prior to the date
originally scheduled for the payment thereof.
"Subsidiary" means, with respect to any Person, (i) any corporation,
association or other business entity of which more than 50% of the total voting
power of shares of Capital Stock entitled (without regard to the occurrence of
any contingency) to vote in the election of directors, managers or trustees
thereof is at the time owned or controlled, directly or indirectly, by such
Person or one or more of the other Subsidiaries of that Person (or a
combination thereof) and (ii) any partnership or limited liability company (a)
the sole general partner or the managing general partner or managing member of
which is such Person or a Subsidiary of such Person or (b) the only general
partners of which are such Person or of one or more Subsidiaries of such Person
(or any combination thereof).
"Unrestricted Subsidiary" means any Subsidiary that is designated by the
Board of Directors as an Unrestricted Subsidiary pursuant to a Board
Resolution; but only to the extent that such Subsidiary: (a) has no
Indebtedness other than Non-Recourse Debt; (b) is not party to any agreement,
contract, arrangement or understanding with Holding or any Restricted
Subsidiary of Holding unless the terms of any such agreement, contract,
arrangement or understanding are no less favorable to Holding or such
Restricted Subsidiary than those that might be obtained at the time from
Persons who are not Affiliates of Holding; (c) is a Person with respect to
which neither Holding nor any of its Restricted Subsidiaries has any direct or
indirect obligation (x) to subscribe for additional Equity Interests or (y) to
maintain or preserve such Person's financial condition or to cause such Person
to achieve any specified levels of operating results; and (d) has not
guaranteed or otherwise directly or indirectly provided credit support for any
Indebtedness of Holding or any of its Restricted Subsidiaries. Any such
designation by the Board of Directors shall be evidenced to the Trustee by
filing with the Trustee a certified copy of the Board Resolution giving effect
to such designation and an Officers' Certificate certifying that such
designation complied with the foregoing conditions and was permitted by the
covenant described above under the caption "Certain Covenants--Restricted
Payments." If, at any time, any Unrestricted Subsidiary would fail to meet the
foregoing requirements as an Unrestricted Subsidiary, it shall thereafter cease
to be an Unrestricted Subsidiary for purposes of the Indenture and any
Indebtedness of such Subsidiary shall be deemed to be incurred by a Restricted
Subsidiary of Holding as of such date (and, if such Indebtedness is not
permitted to be incurred as of such date under the covenant described under the
caption "Incurrence of Indebtedness and Issuance of Preferred Stock," Holding
shall be in default of such covenant). The Board of Directors of Holding may at
any time designate any Unrestricted Subsidiary to be a Restricted Subsidiary;
provided that such designation shall be deemed to be an incurrence of
Indebtedness by a Restricted Subsidiary of Holding of any outstanding
Indebtedness of such Unrestricted
78
Subsidiary and such designation shall be permitted only if (i) such
Indebtedness is permitted under the covenant described under the caption
"Certain Covenants--Incurrence of Indebtedness and Issuance of Preferred
Stock," and (ii) no Default or Event of Default would be in existence following
such designation.
"Voting Stock" of any Person as of any date means the Capital Stock of
such Person that is at the time entitled to vote in the election of the Board
of Directors of such Person.
"Weighted Average Life to Maturity" means, when applied to any
Indebtedness at any date, the number of years obtained by dividing (i) the sum
of the products obtained by multiplying (a) the amount of each then remaining
installment, sinking fund, serial maturity or other required payments of
principal, including payment at final maturity, in respect thereof, by (b) the
number of years (calculated to the nearest one- twelfth) that will elapse
between such date and the making of such payment, by (ii) the then outstanding
principal amount of such Indebtedness.
"Wholly Owned Subsidiary" of any Person means a Subsidiary of such Person
all of the outstanding Capital Stock or other ownership interests of which
(other than directors' qualifying shares) shall at the time be owned by such
Person or by one or more Wholly Owned Subsidiaries of such Person and one or
more Wholly Owned Subsidiaries of such Person.
79
CERTAIN U.S. FEDERAL INCOME TAX CONSIDERATIONS
The following is a summary of certain United States federal income tax
consequences of the purchase, ownership and disposition of Debentures by the
Holders who exchange Old Debentures for New Debentures pursuant to the Exchange
Offer. This summary is for general information only and does not consider all
aspects of federal income taxation that may be relevant to the purchase,
ownership and disposition of Debentures by a Holder in light of such Holder's
personal circumstances. The discussion also does not address the federal income
tax consequences of ownership of Debentures not held as capital assets within
the meaning of Section 1221 of the Internal Revenue Code of 1986, as amended
(the "Code"), or the federal income tax consequences to Holders subject to
special treatment under the federal income tax laws, such as dealers in
securities or foreign currency, tax-exempt investors, real estate investment
trusts, regulated investment companies, banks, thrifts, insurance companies or
other financial institutions, persons that hold the Debentures as a position in
a "straddle", or as part of a "synthetic security" or "hedge", "conversion
transaction" or other integrated investment, persons that have a "functional
currency" other than the U.S. dollar, or investors in pass-through entities.
Moreover, this discussion does not address the effect of any applicable state,
local or foreign tax laws or, except to the limited extent discussed under
"Non-U.S. Holders," the applicability of U.S. federal estate and gift taxation.
This discussion is based upon the Code, existing and proposed regulations
thereunder ("Treasury Regulations"), and current administrative rulings and
court decisions. All of the foregoing are subject to change, possibly on a
retroactive basis, and any such change could affect the continuing validity of
this discussion.
PERSONS CONSIDERING THE PURCHASE, OWNERSHIP AND DISPOSITION OF DEBENTURES
SHOULD CONSULT THEIR OWN TAX ADVISORS CONCERNING THE APPLICATION OF FEDERAL
INCOME TAX LAWS, AS WELL AS THE LAWS OF ANY STATE, LOCAL OR FOREIGN TAXING
JURISDICTION, TO THEIR PARTICULAR SITUATIONS.
EXCHANGE
The exchange of Old Debentures for New Debentures pursuant to the Exchange
Offer will not be treated as an exchange or other tax event for U.S. federal
income tax purposes because the New Debentures will not be considered to differ
materially in kind or extent from the Old Debentures. A Holder should have the
same adjusted basis and holding period in the New Debentures immediately after
the Exchange Offer as it had in the Old Debentures immediately before the
Exchange Offer.
U.S. HOLDERS
The following discussion is limited to the federal income tax consequences
relevant to a Holder that is (i) a citizen or resident (as defined in Section
7701(b)(1) of the Code) of the United States, (ii) a corporation organized
under the laws of the United States or any political subdivision thereof or
therein, (iii) an estate the income of which is subject to federal income tax
regardless of its source, or (iv) a trust with respect to which a court within
the United States is able to exercise primary supervision over its
administration and one or more U.S. persons have the authority to control all
of its substantial decisions (a "U.S. Holder"). Certain federal income tax
consequences relevant to a Holder other than a U.S. Holder are discussed
separately below.
In addition, this discussion is generally limited to the tax consequences
to initial Holders that purchased the Debentures at the "issue price." For this
purpose, the "issue price" of a Debenture is the first price at which a
substantial part of the Debentures are sold to the public for money (excluding
sales to bond houses, brokers, or similar persons or organizations acting in
the capacity of underwriters, placement agents or wholesalers).
ORIGINAL ISSUE DISCOUNT
The Debentures have been issued with original issue discount ("OID") for
federal income tax purposes. All U.S. Holders will be required to include OID
in income as it accrues, regardless of such
80
Holder's regular method of accounting for federal income tax purposes, and in
advance of the receipt of cash attributable to that income. OID generally will
be treated as interest income to the U.S. Holder and will accrue on a
yield-to-maturity basis over the life of the Debenture, as discussed below.
The amount of OID with respect to a Debenture will be an amount equal to
the excess of the stated redemption price at maturity of such Debenture over
the "issue price" (as defined above) of such Debenture. The Debentures have
been issued at a substantial discount. The stated redemption price at maturity
of each Debenture will include all cash payments required to be made under the
Debenture through maturity, whether denominated as principal or interest.
The amount of OID accruing to a Holder with respect to any Debenture will
be the sum of the "daily portions" of OID with respect to such Debenture for
each day during the taxable year (or portion thereof) on which such Holder owns
such Debenture ("accrued OID"). The daily portion is determined by allocating
to each day in any "accrual period" a pro rata portion of the OID allocable to
that accrual period. An accrual period for a Debenture may be of any length and
may vary in length over the term of a Debenture, provided that each accrual
period is no longer than one year and each scheduled payment of principal or
interest occurs either on the final day or on the first day of an accrual
period. The amount of OID accruing during any full accrual period with respect
to a Debenture will be equal to the following amount: (i) the "adjusted issue
price" of such Debenture at the beginning of that accrual period, multiplied by
(ii) the yield to maturity of such Debenture (taking into account the length of
the accrual period). The adjusted issue price at the beginning of an accrual
period is generally defined as (i) the issue price of the Debenture, plus (ii)
the aggregate amount of OID accrued during all prior accrual periods, minus
(iii) any cash payments made on the Debenture.
Under these rules, a Holder generally will have to include in income
increasingly greater amounts of OID in successive accrual periods. The "yield
to maturity" of a Debenture is the discount rate that, when used in computing
the present value of all payments to be made on a Debenture, produces an amount
equal to the issue price of the Debenture.
Holding does not intend to treat the possibility of an optional redemption
or repurchase of the Debentures as giving rise to any additional accrual of OID
or recognition of ordinary income upon redemption, sale or exchange of a
Debenture. Holders may wish to consider that United States Treasury Regulations
regarding the treatment of certain contingencies were recently issued and may
wish to consult their tax advisors in this regard.
Holding will report to Holders and the Internal Revenue Service (the
"Service") each year the amount of OID that accrued on the Debentures for that
year.
APPLICABLE HIGH YIELD DISCOUNT OBLIGATIONS
The Debentures are "applicable high yield discount obligations"
("AHYDOs"), as defined in the Code, because the yield to maturity of such
Debentures exceeds by more than five percentage points the "applicable federal
rate" ("AFR") in effect at the time such Debentures were issued. Under the
rules applicable to AHYDOs, the interest expense deduction to Holding otherwise
attributable to a portion of the OID that accrues on the Debentures will be
permanently disallowed (the "non-deductible portion"). Such non-deductible
portion of the OID will be an amount that bears the same ratio to such OID as
(i) the excess of the yield to maturity of the Debentures over the AFR plus six
percentage points bears to (ii) the yield to maturity of the Debentures. To the
extent the non-deductible portion of OID would have been treated as a dividend
if it had been distributed with respect to Holding's stock, it will be treated
as a dividend to Holders of the Debentures for purposes of the rules relating
to the dividends-received deduction for corporate Holders. Any remaining OID on
the Debentures (the "deductible portion") will not be deductible by Holding
until such OID is actually paid.
TAX BASIS
A U.S. Holder's adjusted tax basis in a Debenture at a given date
generally will be equal to the purchase price paid by such U.S. Holder for such
Debenture, increased by the amount of OID previously included in income with
respect to the Debentures and decreased by all prior payments received on the
Debentures.
81
SALE OR REDEMPTION OF DEBENTURES
Unless a nonrecognition provision applies, the sale, exchange, redemption
(including pursuant to an offer by Holding) or other disposition of a Debenture
will be a taxable event for federal income tax purposes ("Taxable
Disposition"). In such event, a U.S. Holder generally will recognize gain or
loss equal to the difference between (i) the amount of cash plus the fair
market value of any other property received upon the Taxable Disposition and
(ii) the U.S. Holder's adjusted tax basis therein. Such gain or loss generally
will be capital gain or loss and generally will be long-term capital gain or
loss if the Debenture was held by the U.S. Holder for more than one year at the
time of such sale, exchange, redemption or other disposition. The deductibility
of capital losses is subject to certain limitations.
BACKUP WITHHOLDING
A U.S. Holder of Debentures may be subject to "backup withholding" at a
rate of 31% with respect to certain "reportable payments" including interest
payments and, under certain circumstances, principal payments on the
Debentures. These backup withholding rules apply if the U.S. Holder, among
other things, (i) fails to furnish a social security number or other taxpayer
identification number ("TIN") certified under penalties of perjury within a
reasonable time after the request therefor, (ii) furnishes an incorrect TIN,
(iii) fails to report properly interest, or (iv) under certain circumstances,
fails to provide a certified statement, signed under penalties of perjury, that
the TIN furnished is the correct number and that such Holder is not subject to
backup withholding. A U.S. Holder who does not provide Holding with its correct
TIN also may be subject to penalties imposed by the Service. Any amount
withheld from a payment to a U.S. Holder under the backup withholding rules is
creditable against the U.S. Holder's federal income tax liability, provided the
required information is furnished to the Service. Backup withholding will not
apply, however, with respect to payments made to certain Holders, including
corporations and tax-exempt organizations, provided their exemption from backup
withholding is properly established.
Holding will report to the U.S. Holders of Debentures and to the Service
the amount of any "reportable payments" for each calendar year and the amount
of tax withheld, if any, with respect to such payments. U.S. Holders are
advised to consult their tax advisors regarding the applicability of the
aforementioned backup withholding rules to the U.S. Holder's particular
situation.
NON-U.S. HOLDERS
The following discussion is limited to the federal income tax consequences
relevant to a Holder of a Debenture that is not a U.S. Holder, as defined above
(a "Non-U.S. Holder").
For purposes of withholding tax on interest discussed below, a
non-resident alien or other non-resident fiduciary of an estate or trust will
be considered a Non-U.S. Holder. For purposes of the following discussion,
interest (including OID) from the Debentures, as well as gain on the sale,
exchange or other disposition of Debentures, will be considered to be "U.S.
trade or business income" if such income or gain is (i) effectively connected
with the conduct of a U.S. trade or business or, (ii) in the case of a Non-U.S.
Holder that is a resident of a nation with which the United States has entered
into an income tax treaty, attributable to a permanent establishment (or, in
the case of an individual, a fixed base) in the United States.
INTEREST
Generally, any interest (including OID) paid to a Non-U.S. Holder that is
not U.S. trade or business income will not be subject to federal income tax if
the interest qualifies as "portfolio interest". Interest on the Debentures will
generally qualify as portfolio interest if (i) the Non-U.S. Holder does not
actually or constructively own 10% or more of the total voting power of all
voting stock of Holding and is not a "controlled foreign corporation" with
respect to which Holding is a "related person" within the meaning of the Code,
and (ii) the beneficial owner (a) under penalties of perjury, certifies that
the beneficial owner is not a U.S. person and such certificate provides the
beneficial owner's name and address, and (b) is not a bank receiving interest
on an extension of credit made pursuant to a loan agreement made in the
ordinary course of its trade or business.
82
The gross amount of payments of interest to a Non-U.S. Holder that neither
qualify for the portfolio interest exception nor are U.S. trade or business
income will be subject to federal income tax at the rate of 30%, unless a
United States income tax treaty applies to reduce or eliminate withholding.
U.S. trade or business income will be taxed at regular federal income tax rates
rather than the 30% gross rate. In the case of a Non-U.S. Holder that is a
corporation, such U.S. trade or business income may also be subject to the
"branch profits tax" (which is generally imposed on a foreign corporation on
the actual or deemed repatriation from the United States of earnings and
profits attributable to U.S. trade or business income) at a rate of 30%. The
branch profits tax may not apply (or may apply at a reduced rate) if the
recipient is a qualified resident of certain countries with which the United
States has an income tax treaty. To claim the benefit of a tax treaty or to
claim exemption from withholding because the income is U.S. trade or business
income, the Non-U.S. Holder must provide a properly executed Form 1001 or 4224
(or such successor forms as the Service designates), as applicable, prior to
the payment of interest. These forms must be periodically updated. Under final
Treasury Regulations that will be effective for payments after December 31,
1999, subject to certain transition rules (the "Final Regulations"), the Forms
1001 and 4224 may be replaced by Form W-8. Also, under the Final Regulations, a
Non-U.S. Holder who is claiming the benefit of a treaty in certain
circumstances may be required to obtain a federal TIN and to provide certain
documentary evidence issued by the appropriate foreign governmental authority
to prove residence in the foreign country. Certain special procedures are
provided in the Final Regulations for payments through qualified
intermediaries. Prospective purchasers are urged to consult their tax advisors
regarding the Final Regulations.
SALE, EXCHANGE OR REDEMPTION OF DEBENTURES
Except as described below and subject to the discussion concerning backup
withholding, any gain realized by a Non-U.S. Holder on the sale, exchange,
redemption or other disposition of a Debenture generally will not be subject to
federal income tax, provided that (i) such gain is not U.S. trade or business
income; (ii) the Non-U.S. Holder is not an individual who holds the Debenture
as a capital asset, is present in the United States for 183 days or more in the
taxable year of the disposition and who meets certain other requirements; and
(iii) the Non-U.S. Holder is not subject to tax pursuant to the provisions of
federal tax law applicable to certain U.S. expatriates (including certain
former citizens or residents of the United States).
FEDERAL ESTATE TAX
Debentures held (or treated as held) by an individual who is not a citizen
or resident of the United States (for federal estate tax purposes) at the time
of his or her death will not be subject to the federal estate tax, provided
that (i) the individual does not actually or constructively own 10% or more of
the total voting power of all voting stock of Holding and (ii) income on the
Debentures was not U.S. trade or business income.
INFORMATION REPORTING AND BACKUP WITHHOLDING
Holding must report annually to the Service and to each Non-U.S. Holder
any interest that is subject to withholding, exempt from federal withholding
tax pursuant to a tax treaty, or exempt from federal income tax under the
portfolio interest exception. Copies of such information returns may also be
made available under the provisions of a specific treaty or agreement to the
tax authorities of the country in which the Non-U.S. Holder resides.
The Treasury Regulations provide that backup withholding and information
reporting will not apply to payments of principal on the Debentures by Holding
to a Non-U.S. Holder, if the Holder certifies, under penalties of perjury, as
to its non-U.S. status or otherwise establishes an exemption (provided that
neither Holding nor its paying agent has actual knowledge that the Holder is a
U.S. person or that the conditions of any other exemption are not, in fact,
satisfied).
The payment of the proceeds from the disposition of Debentures to or
through the U.S. office of any U.S. or foreign broker will be subject to
information reporting and possible backup withholding unless the owner
certifies, under penalties of perjury, as to its non-U.S. status or otherwise
establishes an exemption
83
(provided that the broker does not have actual knowledge that the Holder is a
U.S. person or that the conditions of any other exemptions are not, in fact,
satisfied). The payment of the proceeds from the disposition of a Debenture to
or through a non-U.S. office of a non-U.S. broker will not be subject to
information reporting or backup withholding unless the non-U.S. broker has
certain types of relationships with the United States (a "U.S. related
person").
In the case of the payment of proceeds from the disposition of the
Debentures to or through a non-U.S. office of a broker that is either a U.S.
person or a U.S. related person, the Treasury Regulations require information
reporting (but not backup withholding) on the payments unless the broker has
documentary evidence in its files that the owner is a Non-U.S. Holder and the
broker has no knowledge to the contrary.
Any amounts withheld under the backup withholding rules from a payment to
a Non-U.S. Holder will be allowed as a refund or credit against such Non-U.S.
Holder's federal income tax liability, provided that the requisite procedures
are followed.
In general, the Final Regulations discussed above do not significantly
alter the substantive withholding and information reporting requirements but
rather unify current certification procedures and forms and clarify reliance
standards. Non-U.S. Holders should consult their own tax advisors with respect
to the impact, if any, of the Final Regulations.
THE PRECEDING DISCUSSION OF CERTAIN FEDERAL INCOME TAX CONSEQUENCES IS FOR
GENERAL INFORMATION ONLY AND IS NOT TAX ADVICE. ACCORDINGLY, EACH INVESTOR
SHOULD CONSULT ITS OWN TAX ADVISOR AS TO PARTICULAR TAX CONSEQUENCES TO IT OF
PURCHASING, HOLDING AND DISPOSING OF DEBENTURES OF HOLDING AS WELL AS THE
EXCHANGE OF DEBENTURES FOR NEW DEBENTURES PURSUANT TO THE EXCHANGE OFFER,
INCLUDING THE APPLICABILITY AND EFFECT OF ANY STATE, LOCAL OR FOREIGN TAX LAWS,
AND OF ANY PROPOSED CHANGES IN APPLICABLE LAWS.
84
PLAN OF DISTRIBUTION
Subject to the terms and conditions set forth in the Purchase Agreement
dated June 22, 1998, Holding sold the Old Debentures to the Initial Purchaser.
The Initial Purchaser received a 2.1% discount and commissions totalling
$1,038,480 in connection with the Offering.
The Initial Purchaser received customary advisory fees and was reimbursed
for its expenses in connection with advice rendered regarding the Acquisition.
In addition, Holding has retained the Initial Purchaser as its financial
advisor until December 31, 2002. An affiliate of the Initial Purchaser provided
the Bridge Financing for the Acquisition for which it was paid customary fees
and reimbursed its expenses. A portion of the proceeds from the Offering was
used to repay the Bridge Notes. Other affiliates of the Initial Purchaser own
significant amounts of Acquisition Corp. Common Stock. See "Use or Proceeds,"
"Security Ownership of Certain Beneficial Owners and Management" and "Certain
Relationships and Related Transactions--Transactions with DLJMBII and their
Affiliates."
Each broker-dealer that receives New Debentures for its own account
pursuant to the Exchange Offer must acknowledge that it will deliver a
prospectus in connection with any resale of such New Debentures. This
Prospectus, as it may be amended or supplemented from time to time, may be used
by a broker-dealer in connection with resales of New Debentures received in
exchange for Old Debentures where such Old Debentures were acquired as a result
of market-making activities or other trading activities. Holding has agreed
that it will make this Prospectus, as amended or supplemented, available to any
broker-dealer for use in connection with any such resale for a period until 180
days after the Exchange Offer Registration Statement has been declared
effective, or such shorter period as will terminate when all Old Debentures
acquired by broker-dealers for their own accounts as a result of market-making
activities or other trading activities have been exchanged for New Debentures
and resold by such broker-dealers.
Holding will not receive any proceeds from any sale of New Debentures by
broker-dealers. New Debentures received by broker-dealers for their own account
pursuant to the Exchange Offer may be sold from time to time in one or more
transactions in the over-the-counter market, in negotiated transactions,
through the writing of options on the New Debentures or a combination of such
methods of resale, at market prices prevailing at the time of resale, at prices
related to such prevailing market prices or negotiated prices. Any such resale
may be made directly to purchasers or to or through brokers or dealers who may
receive compensation in the form of commissions or concessions from any such
broker-dealer and/or the purchasers of any such New Debentures. Any
broker-dealer that resells New Debentures that were received by it for its own
account pursuant to the Exchange Offer and any broker or dealer that
participates in a distribution of such New Debentures may be deemed to be an
"underwriter" within the meaning of the Securities Act and any profit on any
such resale of New Debentures and any commissions or concessions received by
any such persons may be deemed to be underwriting compensation under the
Securities Act. The Letter of Transmittal states that by acknowledging that it
will deliver and by delivering a prospectus, a broker-dealer will not be deemed
to admit that it is an "underwriter" within the meaning of the Securities Act.
For a period until 180 days after the Exchange Offer Registration
Statement has been declared effective, or such shorter period as will terminate
when all Old Debentures acquired by broker-dealers for their own accounts as a
result of market-making activities or other trading activities have been
exchanged for New Debentures and resold by such broker-dealers, Holding will
promptly send additional copies of this Prospectus and any amendment or
supplement to this Prospectus to any broker-dealer that requests such documents
in the Letter of Transmittal. Holding has agreed to pay all expenses incident
to the Exchange Offer, other than commissions or concessions of any brokers or
dealers and the fees of any counsel or other advisors or experts retained by
the Holders of the Debentures, except as expressly set forth in the
Registration Rights Agreement and will indemnify the Holders of the Debentures
(including any broker-dealers) against certain liabilities, including
liabilities under the Securities Act.
85
NOTICE TO HOLDERS
The New Debentures may not be sold or transferred to, and each Holder of
Old Debentures, by its exchange of Old Debentures for New Debentures shall be
deemed to have represented and covenanted that it is not acquiring the New
Debentures for or on behalf of, and will not transfer the New Debentures to,
any pension or welfare plan (as defined in Section 3 of the Employee Retirement
Income Security Act of 1974; "ERISA") except that such a purchase for or on
behalf of a pension or welfare plan shall be permitted:
(1) to the extent such purchase is made by or on behalf of a bank
collective investment fund maintained by the Holder in which no plan
(together with any other plans maintained by the same employer or employee
organization) has an interest in excess of 10% of the total assets in such
collective investment fund and the conditions of Section III of Prohibited
Transaction Class Exemption 91-38 issued by the Department of Labor are
satisfied;
(2) to the extent such purchase is made by or on behalf of an insurance
company pooled separate account maintained by the Holder in which, at any
time while the New Debentures are outstanding, no plan (together with any
other plans maintained by the same employer or employee organization) has
an interest in excess of 10% of the total of all assets in such pooled
separate account and the conditions of Section III of Prohibited
Transaction Class Exemption 90-1 issued by the Department of Labor are
satisfied;
(3) to the extent such purchase is made on behalf of a plan by (i) an
investment advisor registered under the Investment Advisers Act of 1940
that had as of the last day of its most recent fiscal year total assets
under its management and control in excess of $50,000,000 and had
stockholders' or partners' equity in excess of $750,000, as shown in its
most recent balance sheet prepared in accordance with generally accepted
accounting principles, or (ii) a bank as defined in Section 202(a)(2) of
the Investment Advisers Act of 1940 with equity capital in excess of
$1,000,000 as of the last day of its most recent fiscal year, or (iii) an
insurance company which is qualified under the laws of more than one state
to manage, acquire or dispose of any assets of a plan, which insurance
company has as of the last day of its most recent fiscal year, net worth in
excess of $1,000,000 and which is subject to supervision and examination by
state authority having supervision over insurance companies and, in any
case, such investment adviser, bank or insurance company is otherwise a
qualified professional asset manager, as such term is used in Prohibited
Transaction Class Exemption 84-14 issued by the Department of Labor, and
the assets of such plan when combined with the assets of other plans
established or maintained by the same employer (or affiliate thereof) or
employee organization and managed by such investment advisor, bank or
insurance company, do not represent more than 20% of the total client
assets managed by such investment advisor, bank or insurance company, and
the conditions of Section I of such exemption are otherwise satisfied;
(4) to the extent such purchase is made with funds from an insurance
company general account, the conditions of Sections I and IV of Prohibited
Transactions Class Exemption 95-60 issued by the Department of Labor are
satisfied;
(5) to the extent such plan is a governmental plan (as defined in Section
3 of ERISA) which is not subject to the provisions of Title I of ERISA of
Section 401 of the Internal Revenue Code; or
(6) to the extent such purchase is on behalf of a plan by an in-house
asset manager and the conditions of Part I of Prohibited Transactions Class
Exemptions 96-23 issued by the Department of Labor are satisfied.
LEGAL MATTERS
Certain legal matters with respect to the validity of the New Debentures
will be passed upon for Holding by Akin, Gump, Strauss, Hauer & Feld, L.L.P.,
New York, New York.
86
EXPERTS
The consolidated financial statements of AKI, Inc. and its subsidiaries as
of June 30, 1996 and 1997 and for each of the three years in the period ended
June 30, 1997 included in this Prospectus have been so included in reliance on
the report of Price Waterhouse LLP, independent accountants, given on the
authority of said firm as experts in auditing and accounting.
87
INDEX TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED
FINANCIAL DATA
PAGE
-----
Introduction to Unaudited Pro Forma Condensed Consolidated Financial Data ..... P-2
Unaudited Pro Forma Condensed Consolidated Balance Sheet as of March 31, 1998 . P-4
Notes to Unaudited Pro Forma Condensed Consolidated Balance Sheet
as of March 31, 1998 ......................................................... P-5
Unaudited Pro Forma Condensed Consolidated Statement of Operations
for the Year Ended June 30, 1997 ............................................. P-6
Unaudited Pro Forma Condensed Consolidated Statement of Operations for the Nine
Months Ended March 31, 1998 .................................................. P-7
Notes to Unaudited Pro Forma Condensed Consolidated Statements of Operations .. P-8
P-1
AKI HOLDING CORP. AND SUBSIDIARIES
INTRODUCTION TO UNAUDITED PRO FORMA CONDENSED
CONSOLIDATED FINANCIAL DATA
DLJ Merchant Banking Partners II, L.P. and certain related investors
(collectively, "DLJMBII") and certain members of Arcade Holding Corporation
(the "Predecessor") organized AHC I Acquisition Corp. ("Acquisition Corp.") and
AHC I Merger Corp. ("Merger Corp.") for purposes of acquiring the Predecessor.
Merger Corp. was capitalized by an equity contribution from Acquisition Corp.
and the issuance of senior increasing rate notes. On December 15, 1997, Merger
Corp. acquired all of the equity interests of the Predecessor (the
"Acquisition"), merged with and into the Predecessor and the combined entity
assumed the name AKI, Inc. Subsequent to the Acquisition, Acquisition Corp.
contributed all of its equity interest in AKI, Inc. to AKI Holding Corp.
("Holding" or the "Company"). Since all companies are under common control, and
since Holding has no operations other than those related to AKI, Inc., the
contribution was accounted for as if it was a pooling of interests.
On June 22, 1998, the Company acquired the fragrance sampling business,
including certain fixed assets, of the Industrial and Consumer Products
division of the Minnesota Mining and Manufacturing Company ("3M") for
approximately $7.25 million in cash and the assumption of the certain
liabilities (the "3M Acquisition").
The following unaudited pro forma condensed consolidated financial data of
the Company are based upon historical financial statements of the Company or
the Predecessor as adjusted to give effect to the Acquisition and the debenture
offering (the "Debenture Offering") by Holding of the Senior Discount
Debentures offered hereby (the "Debentures"), together with the concurrent
offering (the "Offering") by AKI, Inc. of the Senior Notes and the application
of the net proceeds therefrom as discussed under the caption "Use of Proceeds"
(collectively, the "Refinancing") and the 3M Acquisition. The accompanying
unaudited pro forma condensed consolidated balance sheet as of March 31, 1998
gives effect to the Refinancing and the 3M Acquisition as if they had occurred
on March 31, 1998. The unaudited historical balance sheet as of March 31, 1998
includes the effects of the Acquisition as such Acquisition occurred on
December 15, 1997. The accompanying unaudited pro forma condensed consolidated
statements of operations for the year ended June 30, 1997 and for the nine
months ended March 31, 1998 give effect to the Acquisition, the Refinancing and
the 3M Acquisition as if they had occurred at the beginning of the earliest
period presented.
Pro forma adjustments are described in the accompanying notes and are
applied to the historical consolidated balance sheet and consolidated
statements of operations of the Company or the Predecessor to account for the
Acquisition and the 3M Acquisition under the purchase method of accounting and
the Refinancing. In accordance with the consensus reached by the Emerging
Issues Task Force of the Financial Accounting Standards Board in Issue 88-16,
"Basis in Leveraged Buyout Transactions," the purchase price allocation
required an adjustment for the continuing interest attributable to management's
ownership interest in Predecessor carried over in connection with the
Acquisition. As a result, a reduction in stockholder's equity was recorded
which represents the difference between the fair value of the Company's assets
and the related book value attributable to the interest of the continuing
stockholders' investment in the Predecessor. The remaining purchase price has
been allocated to assets and liabilities based upon estimates of their
respective fair value as determined by management and a third-party appraisal
with respect to property, plant and equipment. Final allocations of certain
liabilities may be different from the amounts reflected; however, it is not
anticipated that any significant changes will be made to the preliminary
allocations. For the 3M Acquisition, the purchase price has been allocated to
assets purchased and liabilities assumed based upon estimates of their
respective fair value as of March 31, 1998 as determined by management.
Accordingly, the final allocations may be different from the amounts reflected;
however, it is not anticipated that any significant changes will be made to the
preliminary allocations.
The Company has preliminarily analyzed the savings it expects to realize
from reductions in management fees, total depreciation expense, salaries,
benefits, material costs and other operating expenses as a result of the
Acquisition. To the extent that the Company has agreed prospectively to
P-2
AKI HOLDING CORP. AND SUBSIDIARIES
INTRODUCTION TO UNAUDITED PRO FORMA CONDENSED
CONSOLIDATED FINANCIAL DATA -- (CONTINUED)
reductions in management fees (which represent the difference between the
Predecessor's management fees and the new financial advisory fees to which the
Company is contractually obligated through the Acquisition agreement) and has
quantified the expected reduction in total depreciation expense (useful lives
of certain property, plant and equipment were extended based upon the
third-party appraisal), these reductions have been reflected in the unaudited
pro forma condensed consolidated statements of operations. Other potential cost
savings have not been included in the unaudited pro forma condensed
consolidated statements of operations. Additionally, the unaudited pro forma
financial statements do not include any charges for a proposed stock option
plan.
As noted above, the Company has acquired the fragrance sampling business
of 3M. 3M's fragrance sampling business is predominantly a sales and
distribution business as it outsources the production of the majority of the
products it sells. The Company intends to terminate all such outsourcing
arrangements and relocate all of the purchased business' operations to its
Chattanooga facilities as the Company has excess manufacturing capacity at such
facilities. In addition, except for several sales and marketing employees, the
Company does not intend to extend employment to any employees from 3M; the
Company's management has preliminarily determined additional personnel will be
required at its Chattanooga facilities in the selling, general and
administrative functions in order to serve the incremental sales volume. As
described in the notes to the unaudited pro forma condensed consolidated
statements of operations, the Company has adjusted the historical operating
results of this business to reflect the cost of producing and selling such
products by the Company. The adjustments to 3M's historical results are based
on the Company's historical production and selling, general and administrative
cost structure, modified as described to account for the increased sales
volume.
The pro forma adjustments are based on estimates, available information
and certain assumptions and may be revised as additional information becomes
available. The unaudited pro forma condensed consolidated financial data do not
purport to represent what Holding's results of operations or financial position
that would actually have resulted if the Acquisition, the Refinancing or the 3M
Acquisition had occurred on the dates indicated and are not necessarily
representative of Holding's results of operations for any future period. The
unaudited pro forma condensed consolidated balance sheet and consolidated
statements of operations should be read in conjunction with the Consolidated
Financial Statements and the notes thereto, "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the other
financial information appearing elsewhere in this Prospectus.
P-3
AKI HOLDING CORP. AND SUBSIDIARIES
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET
AS OF MARCH 31, 1998
(DOLLARS IN THOUSANDS)
PRO FORMA 3M
REFINANCING FOR ACQUISITION
HOLDING ADJUSTMENTS REFINANCING ADJUSTMENTS PRO FORMA
----------- ------------------- ------------- ------------------ ------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents ............. $ 988 $ 9,099(a) $ 10,087 $ (7,250)(c) $ 2,837
Accounts receivable, net .............. 15,377 -- 15,377 -- 15,377
Inventory ............................. 2,278 -- 2,278 -- 2,278
Income tax refund receivable .......... 5,822 -- 5,822 -- 5,822
Prepaid expenses ...................... 268 -- 268 -- 268
Deferred income taxes ................. 1,983 1,013 (b) 2,996 -- 2,996
--------- ----------- --------- --------- ---------
TOTAL CURRENT ASSETS ............... 26,716 10,112 36,828 (7,250) 29,578
Property, plant and equipment, net 18,812 -- 18,812 143 (c) 18,955
Goodwill, net ......................... 152,804 -- 152,804 7,365 (c) 160,169
Deferred charges ...................... 3,207 6,113 (a) 6,653 -- 6,653
(2,667)(b)
Deferred income taxes ................. 922 -- 922 -- 922
Other assets .......................... 206 -- 206 -- 206
--------- ----------- --------- --------- ---------
TOTAL ASSETS ....................... $ 202,667 $ 13,558 $ 216,225 $ 258 $ 216,483
========= =========== ========= ========= =========
LIABILITIES AND
STOCKHOLDER'S EQUITY
CURRENT LIABILITIES
Current portion of capital lease
obligation ........................... $ 595 $ -- $ 595 $ -- $ 595
Current portion of other notes
payable .............................. 1,438 -- 1,438 -- 1,438
Senior increasing rate notes .......... 123,500 (123,500)(a) -- -- --
Accounts payable and accrued
expenses ............................. 9,004 (650)(a) 8,354 258 (c) 8,612
--------- ----------- --------- --------- ---------
TOTAL CURRENT LIABILITIES .......... 134,537 (124,150) 10,387 258 10,645
Revolving line of credit .............. 1,600 (1,600)(a) -- -- --
Long-term portion of capital lease
obligations .......................... 1,646 -- 1,646 -- 1,646
Long-term debt ........................ - 140,962 (a) 140,962 -- 140,962
Deferred income taxes ................. 3,611 -- 3,611 -- 3,611
--------- ----------- --------- --------- ---------
TOTAL LIABILITIES .................. 141,394 15,212 156,606 258 156,864
--------- ----------- --------- --------- ---------
STOCKHOLDER'S EQUITY
Common stock .......................... -- -- -- -- --
Additional paid-in capital ............ 78,363 -- 78,363 -- 78,363
Accumulated deficit ................... (1,284) (1,654)(b) (2,938) -- (2,938)
Cumulative translation adjustment (76) -- (76) -- (76)
Carryover basis adjustment ............ (15,730) -- (15,730) -- (15,730)
--------- ----------- --------- --------- ---------
TOTAL STOCKHOLDER'S EQUITY ......... 61,273 (1,654) 59,619 -- 59,619
--------- ----------- --------- --------- ---------
TOTAL LIABILITIES AND
STOCKHOLDER'S EQUITY .............. $ 202,667 $ 13,558 $ 216,225 $ 258 $ 216,483
========= =========== ========= ========= =========
See accompanying notes to Unaudited Pro Forma Condensed
Consolidated Balance Sheet.
P-4
AKI HOLDING CORP. AND SUBSIDIARIES
NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET
AS OF MARCH 31, 1998
(DOLLARS IN THOUSANDS)
REFINANCING ADJUSTMENTS
(a) Reflects the impact of the Refinancing, including (i) the assumed sale
of $50,000 of the Debentures offered hereby, net of original issue discount
($24,038) and underwriting discounts ($1,038), (ii) the assumed concurrent sale
of $115,000 of the Notes, net of estimated expenses (including underwriting
discounts) of $4,275, (iii) the estimated expenses of $225 to be paid in
connection with the sale of the Debentures and (iv) the repayment of the senior
increasing rate notes ($123,500), revolving line of credit ($1,600) and accrued
interest on the senior increasing rate notes and revolving line of credit
($650) from the proceeds of the sale of the Debentures and the Notes.
SUMMARY OF SOURCES AND USES OF PROCEEDS OF THE REFINANCING:
Sources of Funds:
Debentures offered hereby, net of discounts ......... $ 24,924
Sale of Notes, net of expenses ...................... 110,150
--------
Total sources ....................................... 135,074
--------
Use of Funds:
Expenses ............................................ 225
Repayment of senior increasing rate notes ........... 123,500
Repayment of revolving line of credit ............... 1,600
Accrued interest .................................... 650
--------
Total uses .......................................... 125,975
--------
Net increase in cash ................................ $ 9,099
========
(b) Reflects the write-off of the unamortized deferred financing costs
associated with the senior increasing rate notes ($2,667) and the recognition
of the related tax benefit ($1,013).
3M ACQUISITION ADJUSTMENTS
(c) Reflects the Company's purchase of 3M's fragrance sampling business,
including the acquisition of certain fixed assets ($143) through cash ($7,250)
and the assumption of certain liabilities ($258). Goodwill represents the
excess purchase price paid over the fair value of net identifiable assets
acquired and is amortized over forty years using the straight-line method.
P-5
AKI HOLDING CORP. AND SUBSIDIARIES
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED JUNE 30, 1997(I)
(DOLLARS IN THOUSANDS)
PRO FORMA
ACQUISITION FOR
HOLDING ADJUSTMENTS ACQUISITION
----------- ----------------- -------------
Net sales ........................ $ 77,723 $ -- $ 77,723
Cost of goods sold ............... 49,467 (677)(a) 48,790
-------- ---------- ---------
Gross profit .................. 28,256 677 28,933
Selling, general and
administrative expenses ......... 13,353 115 (a) 13,468
Amortization of goodwill ......... 1,214 2,634 (b) 3,848
-------- ---------- ---------
Income (loss) from
operations ................... 13,689 (2,072) 11,617
Other expenses (income):
Interest expense, net ........... 6,203 11,297 (c) 17,500
Management fees to
stockholder(s) ................ 470 (220)(d) 250
Other, net ...................... (101) -- (101)
-------- ---------- ---------
Income (loss) before
income taxes ................. 7,117 (13,149) (6,032)
Income tax expense (benefit) ..... 3,135 (3,953)(e) (818)
-------- ---------- ---------
Net income (loss) ............. $ 3,982 $ (9,196) $ (5,214)
======== ========== =========
PRO FORMA
FOR 3M
REFINANCING ACQUISITION AND ACQUISITION
ADJUSTMENTS REFINANCING ADJUSTMENTS (H) PRO FORMA
----------------- ----------------- ----------------- ------------
Net sales ........................ $ -- $ 77,723 $10,048 $ 87,771
Cost of goods sold ............... -- 48,790 5,367 54,157
--------- --------- ------- --------
Gross profit .................. -- 28,933 4,681 33,614
Selling, general and
administrative expenses ......... -- 13,468 867 14,335
Amortization of goodwill ......... -- 3,848 184 4,032
--------- --------- ------- --------
Income (loss) from
operations ................... -- 11,617 3,630 15,247
Other expenses (income):
Interest expense, net ........... (860) (f) 16,640 -- 16,640
Management fees to
stockholder(s) ................ -- 250 -- 250
Other, net ...................... -- (101) -- (101)
--------- --------- ------- --------
Income (loss) before
income taxes ................. 860 (5,172) 3,630 (1,542)
Income tax expense (benefit) ..... 469 (g) (349) 1,365 1,016
--------- --------- ------- --------
Net income (loss) ............. $ 391 $ (4,823) $ 2,265 $ (2,558)
========= ========= ======= ========
See accompanying notes to Unaudited Pro Forma Condensed
Consolidated Statements of Operations.
P-6
AKI HOLDING CORP. AND SUBSIDIARIES
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE NINE MONTHS ENDED MARCH 31, 1998(I)
(DOLLARS IN THOUSANDS)
PRO FORMA
ACQUISITION FOR
HOLDING ADJUSTMENTS ACQUISITION
-------------- ----------------- ---------------
Net sales ........................ $ 57,168 $ -- $ 57,168
Cost of goods sold ............... 36,591 (387)(a) 36,204
-------- ---------- --------
Gross profit .................. 20,577 387 20,964
Selling, general and
administrative expenses ......... 8,901 86 (a) 8,987
Amortization of goodwill ......... 1,684 1,206 (b) 2,890
-------- ---------- --------
Income (loss) from
operations ................... 9,992 (905) 9,087
Other expenses (income):
Interest expense, net ........... 7,809 5,237 (c) 13,046
Management fees to
stockholder(s) ................ 278 (90)(d) 188
Other, net ...................... (4) -- (4)
---------- ---------- -----------
Income (loss) before
income taxes ................. 1,909 (6,052) (4,143)
Income tax expense (benefit) ..... 1,400 (1,889)(e) (489)
--------- ---------- ----------
Net income (loss) ............. $ 509 $ (4,163) $ (3,654)
========= ========== ==========
PRO FORMA
FOR 3M
REFINANCING ACQUISITION AND ACQUISITION
ADJUSTMENTS REFINANCING ADJUSTMENTS (H) PRO FORMA
----------------- ----------------- ----------------- -------------
Net sales ........................ $ -- $ 57,168 $6,870 $64,038
Cost of goods sold ............... -- 36,204 3,452 39,656
--------- -------- ------ -------
Gross profit .................. -- 20,964 3,418 24,382
Selling, general and
administrative expenses ......... -- 8,987 660 9,647
Amortization of goodwill ......... -- 2,890 138 3,028
--------- -------- ------ -------
Income (loss) from
operations ................... -- 9,087 2,620 11,707
Other expenses (income):
Interest expense, net ........... (645) (f) 12,401 -- 12,401
Management fees to
stockholder(s) ................ -- 188 -- 188
Other, net ...................... -- (4) -- (4)
--------- ----------- ------ ----------
Income (loss) before
income taxes ................. 645 (3,498) 2,620 (878)
Income tax expense (benefit) ..... 364 (g) (125) 1,022 897
--------- ---------- ------ ---------
Net income (loss) ............. $ 281 $ (3,373) $1,598 $(1,775)
========= ========== ====== =========
See accompanying notes to Unaudited Pro Forma Condensed
Consolidated Statements of Operations.
P-7
AKI HOLDING CORP. AND SUBSIDIARIES
NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS
(DOLLARS IN THOUSANDS)
ACQUISITION ADJUSTMENTS
(a) Represents the net reduction of depreciation expense ($562 in the year
ended June 30, 1997 and $301 in the nine months ended March 31, 1998) as a
result of the fair values assigned to property, plant and equipment and
estimated useful lives which were extended as determined from the property,
plant and equipment appraisal commissioned by the Company in connection with
the application of purchase accounting associated with the Acquisition.
(b) Adjusts goodwill amortization to $3,848 in the year ended June 30,
1997 and $2,890 in the nine months ended March 31, 1998 based upon goodwill
arising from the Acquisition of $153,929 amortized using the straight-line
method over 40 years.
(c) Reflects incremental interest expense and amortization of deferred
charges ($11,297 in the year ended June 30, 1997 and $5,237 in the nine months
ended March 31, 1998) on the senior increasing rate notes issued in connection
with the Acquisition as though such issuance had occurred at the beginning of
the period.
(d) Reflects the elimination of management fees and expenses paid to
former stockholders, net of financial advisor fees agreed to on a prospective
basis through the Acquisition agreement ($220 in the year ended June 30, 1997
and $90 in the nine months ended March 31, 1998).
(e) Reflects incremental income tax benefit relating to pro forma
consolidated statements of operations' adjustments in (c) and (d) above ($3,953
in the year ended June 30, 1997 and $1,889 in the nine months ended March 31,
1998). Goodwill is not tax deductible.
REFINANCING ADJUSTMENTS
(f) Reflects incremental reduction in interest expense and amortization of
deferred charges ($860 in the year ended June 30, 1997 and $645 in the nine
months ended March 31, 1998) associated with the Refinancing as though such
Refinancing had occurred at the beginning of the period.
(g) Reflects the incremental provision for income taxes ($469 in the year
ended June 30, 1997 and $364 in the nine months ended March 31, 1998) on the
incremental reduction in interest expense associated with the Refinancing.
3M ACQUISITION ADJUSTMENTS
(h) Reflects the incremental impact of Holding's acquisition of 3M's
fragrance sampling business. The tables presented below set forth the 3M
fragrance sampling business' historical statements of operations conformed to
the periods indicated as well as the adjustments required to adjust those
historical results for contract alterations on a prospective basis and to
reflect the costs of producing and selling such products by Holding.
P-8
AKI HOLDING CORP. AND SUBSIDIARIES
NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS--(CONTINUED)
(DOLLARS IN THOUSANDS)
FOR THE YEAR ENDED JUNE 30, 1997
3M 3M
HISTORICAL ADJUSTMENTS ADJUSTED
------------ --------------------- ---------
Net sales ............................................ $15,342 $ (5,294)(i) $10,048
Cost of goods sold ................................... 10,195 (4,828)(ii) 5,367
------- ---------- -------
Gross profit ........................................ 5,147 (466) 4,681
Selling, general and administrative expenses ......... 4,694 (3,827)(iii) 867
Amortization of goodwill ............................. -- 184 (iv) 184
------- ---------- -------
Income before income taxes .......................... 453 3,177 3,630
Income tax expense (benefit) ......................... 163 1,202 (v) 1,365
------- ---------- -------
Net income .......................................... $ 290 $ 1,975 $ 2,265
======= ========== =======
FOR THE NINE MONTHS ENDED MARCH 31, 1998
3M 3M
HISTORICAL ADJUSTMENTS ADJUSTED
------------ --------------------- ---------
Net sales ............................................ $12,603 $ (5,733)(i) $6,870
Cost of goods sold ................................... 9,131 (5,679)(ii) 3,452
------- ---------- ------
Gross profit ........................................ 3,472 (54) 3,418
Selling, general and administrative expenses ......... 3,834 (3,174)(iii) 660
Amortization of goodwill ............................. -- 138 (iv) 138
------- ---------- ------
Income (loss) before income taxes ................... (362) 2,982 2,620
Income tax expense (benefit) ......................... (130) 1,152 (v) 1,022
------- ---------- ------
Net income (loss) ................................... $ (232) $ 1,830 $1,598
======= ========== ======
- ----------
(i) Reflects the decrease in net sales resulting from a change in the
customer base.
(ii) Reflects the decrease in production costs resulting from the change
in customer base noted in (i) above ($3,518 for the year ended June
30, 1997 and $4,154 for the nine months ended March 31, 1998) and
from the consolidation of all production into Holding's Chattanooga
facilities. The decrease takes into account Holding's available
manufacturing capacity at such facilities as well as the variable
costs (primarily materials and direct labor) of such incremental
sales. Due to Holding's existing capacity, fixed costs (primarily
depreciation and overhead) will not be affected by such incremental
sales.
(iii) Reflects the net decrease in selling, general and administrative
expenses due to the consolidation of these activities into the
Company. Upon the consummation of the 3M Acquisition, the Company
intends to add several additional sales and marketing employees as
well as certain additional administrative employees. The salaries,
benefits and commissions, if applicable, of these employees have
been accounted for in the adjustment. The Company believes that due
to the similarity of its existing customers and 3M's fragrance
sampling customers, no other additional employees will be required.
The adjustment also reflects the elimination of corporate expense
allocations that will be discontinued as a result of the transfer of
the 3M fragrance sampling business to the Company.
(iv) Represents amortization expense based upon goodwill of $7,365
arising from the 3M Acquisition amortized over 40 years using the
straight-line method.
(v) Reflects incremental income tax expense relating to the 3M
adjustments in (i) through (iv) above.
P-9
AKI HOLDING CORP. AND SUBSIDIARIES
NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS--(CONTINUED)
(DOLLARS IN THOUSANDS)
OTHER DATA
(i) EBITDA on a pro forma basis was $22,587 in the year ended June 30,
1997 and $17,213 in the nine months ended March 31, 1998. EBITDA represents
income from operations plus depreciation and amortization. EBITDA is discussed
because it is a widely accepted financial indicator used by certain investors
and analysts to analyze and compare companies on the basis of operating
performance. EBITDA is not intended to represent cash flows for the period, nor
has it been presented as an alternative to operating income as an indicator of
operating performance and should not be considered in isolation or as a
substitute for measures of performance prepared in accordance with generally
accepted accounting principles ("GAAP") in the United States and is not
indicative of operating income or cash flow from operations as determined under
GAAP.
Earnings used in computing the ratio of earnings to fixed charges consists
of income (loss) before income tax expense (benefit) plus fixed charges. Fixed
charges are defined as interest expense, which includes amortization of
deferred financing costs. For the unaudited pro forma results for the year
ended June 30, 1997 and the nine months ended March 31, 1998, after giving
effect to the Acquisition, the Refinancing and the 3M Acquisition, Holding's
fixed charges exceeded earnings available for fixed charges by $1,542 and $878,
respectively.
P-10
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Report of Independent Accountants ....................................................... F-2
Consolidated Balance Sheets at June 30, 1996 and 1997, and Unaudited Consolidated Balance
Sheet at March 31, 1998 ................................................................ F-3
Consolidated Statements of Operations for the Three Years Ended June 30, 1997 and
Unaudited Consolidated Statements of Operations for the Nine Months Ended March 31,
1997 and the Periods from July 1, 1997 through December 15, 1997 and from December 16,
1997 through March 31, 1998 ............................................................ F-4
Consolidated Statements of Changes in Stockholder(s) Equity for the Three Years Ended
June 30, 1997 and Unaudited Consolidated Statements of Changes in Stockholder(s) Equity
for the Periods from July 1, 1997 through December 15, 1997 and from December 16, 1997
through March 31, 1998 ................................................................. F-5
Consolidated Statements of Cash Flows for the Three Years Ended June 30, 1997 and
Unaudited Consolidated Statements of Cash Flows for the Nine Months Ended March 31,
1997 and the Periods from July 1, 1997 through December 15, 1997 and from December 16,
1997 through March 31, 1998 ............................................................ F-6
Notes to Consolidated Financial Statements .............................................. F-7
F-1
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
AKI, Inc. and Subsidiaries
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, of changes in stockholders'
equity and of cash flows present fairly, in all material respects, the
financial position of AKI, Inc. and Subsidiaries, formerly known as Arcade
Holding Corporation (the "Predecessor") at June 30, 1996 and 1997, and the
results of their operations and their cash flows for each of the three years in
the period ended June 30, 1997 in conformity with generally accepted accounting
principles. These financial statements are the responsibility of the
Predecessor's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
statements in accordance with generally accepted auditing standards which
require that we plan and perform the audit to obtain reasonable assurance about
whether the 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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for the opinion expressed above.
Price Waterhouse LLP
Nashville, Tennessee
April 22, 1998
F-2
AKI, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
PREDECESSOR SUCCESSOR
------------------------- ---------------
JUNE 30, MARCH 31, 1998
------------------------- ---------------
1996 1997
----------- -----------
(UNAUDITED)
ASSETS
CURRENT ASSETS
Cash and cash equivalents ................................ $ 626 $ 303 $ 988
Accounts receivable, net ................................. 12,746 10,200 15,377
Inventory ................................................ 2,236 2,786 2,278
Income tax refund receivable ............................. -- -- 5,822
Prepaid expenses ......................................... 285 221 268
Deferred income taxes .................................... 499 424 1,983
-------- ------- ---------
TOTAL CURRENT ASSETS .................................. 16,392 13,934 26,716
Property, plant and equipment, net ....................... 19,625 18,156 18,812
Goodwill, net ............................................ 45,507 44,293 152,804
Deferred charges ......................................... 807 555 3,207
Deferred income taxes .................................... -- -- 922
Other assets ............................................. 64 204 206
-------- ------- ---------
TOTAL ASSETS ........................................... $ 82,395 $77,142 $ 202,667
======== ======= =========
LIABILITIES AND STOCKHOLDER(S) EQUITY
CURRENT LIABILITIES
Current portion of loans payable to stockholder .......... $ 7,004 $37,892 $ --
Current portion of capital lease obligations ............. 2,467 557 595
Current portion of other notes payable ................... 1,200 100 1,438
Revolving line of credit ................................. -- 4,338 --
Senior increasing rate notes ............................. -- -- 123,500
Accounts payable, trade .................................. 4,862 3,435 4,200
Accrued income taxes ..................................... 1,188 26 --
Accrued bonuses .......................................... 1,017 1,396 682
Accrued expenses ......................................... 3,339 3,147 4,122
-------- ------- ---------
TOTAL CURRENT LIABILITIES .............................. 21,077 50,891 134,537
Revolving line of credit ................................. -- -- 1,600
Loans payable to stockholder, net ........................ 37,532 -- --
Long-term portion of capital lease obligations ........... 2,654 2,098 1,646
Other notes payable, net ................................. 1,201 1,301 --
Deferred income taxes .................................... 3,321 2,949 3,611
-------- ------- ---------
TOTAL LIABILITIES ...................................... 65,785 57,239 141,394
Commitments and contingencies (Note 10)
Redeemable preferred stock ............................... 8,678 8,678
STOCKHOLDER(S) EQUITY
Common stock, $0.01 par, 100,000 shares authorized;
48,000 shares issued and outstanding at June 30, 1996
and 1997 ................................................ 1 1
Preferred stock, $0.01 par, 8,700 shares authorized; no
shares issued or outstanding at March 31, 1998 .......... --
Common stock, $0.01 par, 100,000 shares authorized; 1,000
shares issued and outstanding at March 31, 1998 ......... --
Additional paid-in capital ............................... 4,889 4,889 78,363
Stock purchase warrants .................................. 1,923 1,923 --
Retained earnings (deficit) .............................. 1,199 4,565 (1,284)
Cumulative translation adjustment ........................ (80) (153) (76)
Carryover basis adjustment ............................... -- -- (15,730)
-------- ------- ---------
TOTAL STOCKHOLDER(S) EQUITY ............................ 7,932 11,225 61,273
-------- ------- ---------
TOTAL LIABILITIES AND STOCKHOLDER(S) EQUITY ............ $ 82,395 $77,142 $ 202,667
======== ======= =========
The accompanying notes are an integral part of these
consolidated financial statements.
F-3
AKI, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS)
PREDECESSOR SUCCESSOR
--------------------------------------------------------------------- ------------------
NINE MONTHS JULY 1, 1997
YEAR ENDED JUNE 30, ENDED TO DECEMBER 16, 1997
------------------------------------ MARCH 31, DECEMBER 15, TO
1995 1996 1997 1997 1997 MARCH 31, 1998
---------- ---------- ---------- ------------- -------------- ------------------
(UNAUDITED) (UNAUDITED) (UNAUDITED)
Net sales .................... $61,794 $73,486 $77,723 $62,367 $35,186 $ 21,982
Cost of goods sold ........... 38,333 49,862 49,467 39,529 22,809 13,782
------- ------- ------- ------- ------- --------
Gross profit ............... 23,461 23,624 28,256 22,838 12,377 8,200
Selling, general and
administrative expenses...... 8,483 10,655 13,353 10,470 5,712 3,189
Amortization of goodwill ..... 1,113 1,214 1,214 911 559 1,125
------- ------- ------- ------- ------- --------
Income from
operations ................ 13,865 11,755 13,689 11,457 6,106 3,886
Other expenses (income):
Interest expense to
stockholder(s) .............. 6,181 6,164 5,196 3,960 2,143 5,031
Interest expense (income),
other ....................... (11) 598 1,007 734 503 132
Management fees to
stockholder(s) .............. 470 470 470 353 215 63
Other, net ................... (22) 244 (101) (266) 11 (15)
------- ------- ------- ------- ------- --------
Income (loss) before
income taxes .............. 7,247 4,279 7,117 6,676 3,234 (1,325)
Income tax expense
(benefit) ................... 3,114 2,101 3,135 2,852 1,441 (41)
------- ------- ------- ------- ------- --------
Net income (loss) .......... $ 4,133 $ 2,178 $ 3,982 $ 3,824 $ 1,793 $ (1,284)
======= ======= ======= ======= ======= ========
The accompanying notes are an integral part of these
consolidated financial statements.
F-4
AKI, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER(S) EQUITY
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
COMMON STOCK STOCK CUMULATIVE CARRYOVER
----------------- PAID-IN PURCHASE RETAINED TRANSLATION BASIS
SHARES AMOUNT CAPITAL WARRANTS EARNINGS ADJUSTMENT ADJUSTMENT TOTAL
-------- -------- --------- ---------- ------------ ------------- ------------- -----------
PREDECESSOR
--------------------
Balances, June 30, 1994 ........... 48,000 $ 1 $ 4,889 $1,923 $ (3,886) $ -- $ -- $ 2,927
Preferred stock dividend ......... -- -- -- -- (608) -- -- (608)
Cumulative translation
adjustment ...................... -- -- -- -- -- 120 -- 120
Net income ....................... -- -- -- -- 4,133 -- -- 4,133
------ ---- ------- ------ -------- ------ --------- --------
Balances, June 30, 1995 ........... 48,000 1 4,889 1,923 (361) 120 -- 6,572
Preferred stock dividend ......... -- -- -- -- (618) -- -- (618)
Cumulative translation
adjustment ...................... -- -- -- -- -- (200) -- (200)
Net income ....................... -- -- -- -- 2,178 -- -- 2,178
------ ---- ------- ------ -------- ------ --------- --------
Balances, June 30, 1996 ........... 48,000 1 4,889 1,923 1,199 (80) -- 7,932
Preferred stock dividend ......... -- -- -- -- (616) -- -- (616)
Cumulative translation
adjustment ...................... -- -- -- -- -- (73) -- (73)
Net income ....................... -- -- -- -- 3,982 -- -- 3,982
------ ---- ------- ------ -------- ------ --------- --------
Balances, June 30, 1997 ........... 48,000 1 4,889 1,923 4,565 (153) -- 11,225
Preferred stock dividend
(unaudited) ..................... -- -- -- -- (283) -- -- (283)
Cumulative translation
adjustment (unaudited) .......... -- -- -- -- -- (19) -- (19)
Net income (unaudited) ........... -- -- -- -- 1,793 -- -- 1,793
------ ---- ------- ------ -------- ------ --------- --------
Balances, December 15, 1997
(unaudited) ...................... 48,000 $ 1 $ 4,889 $1,923 $ 6,075 $ (172) $ -- $ 12,716
====== ==== ======= ====== ======== ====== ========= ========
- --------------------------------------------------------------------------------
SUCCESSOR
-------
Balances, December 16, 1997
(unaudited) ...................... 1,000 $ -- $78,363 $ -- $ -- $ -- $ (15,730) $ 62,633
Cumulative translation
adjustment (unaudited) .......... -- -- -- -- -- (76) -- (76)
Net loss (unaudited) ............. -- -- -- -- (1,284) -- -- (1,284)
------ ---- ------- ------ -------- ------ --------- --------
Balances, March 31, 1998
(unaudited) ...................... 1,000 $ -- $78,363 $ -- $ (1,284) $ (76) $ (15,730) $ 61,273
====== ==== ======= ====== ======== ====== ========= ========
The accompanying notes are an integral part of these
consolidated financial statements.
F-5
AKI, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
PREDECESSOR SUCCESSOR
--------------------------------------------------------------- ------------------
NINE MONTHS JULY 1, 1997
YEAR ENDED JUNE 30, ENDED TO DECEMBER 16, 1997
----------------------------------- MARCH 31, DECEMBER 15, TO
1995 1996 1997 1997 1997 MARCH 31, 1998
----------- ----------- ----------- ------------- ------------- ------------------
(UNAUDITED) (UNAUDITED) (UNAUDITED)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) ....................... $ 4,133 $ 2,178 $ 3,982 $ 3,824 $ 1,793 $ (1,284)
Adjustment to reconcile net income
(loss) to net cash provided by
operating activities:
Depreciation and amortization of
goodwill and other intangibles ........ 3,627 4,422 5,084 3,828 2,456 2,007
Amortization of debt discount .......... 378 642 560 420 233 44
Amortization of loan closing costs 260 231 258 193 101 1,122
Deferred income taxes .................. 1,575 (483) (297) (967) (460) (148)
Other .................................. 382 239 (138) (124) (18) (76)
Changes in operating assets and
liabilities:
Accounts receivable .................... (4,962) (1,268) 2,546 (2,452) 1,153 (6,329)
Inventory .............................. (1,103) (304) (550) 67 69 220
Prepaid expenses, deferred charges
and other assets ...................... (293) (168) (101) (103) (62) (432)
Income taxes ........................... 784 75 (1,163) (540) 699 91
Accounts payable and accrued
expenses .............................. 1,920 (227) (1,239) (909) (1,036) (4,938)
Other liabilities ...................... (2,246) -- -- -- -- --
-------- -------- -------- -------- -------- ----------
Net cash provided by (used in)
operating activities ................... 4,455 5,337 8,942 3,237 4,928 (9,723)
-------- -------- -------- -------- -------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of equipment .................. (1,325) (2,051) (2,462) (1,839) (807) (255)
Proceeds from sale of equipment ......... -- 55 38 19 -- --
Refundable deposit on equipment ......... (1,984) 1,984 -- -- -- --
Payments for acquisitions, net of
cash acquired .......................... (528) -- -- -- -- (134,152)
-------- -------- -------- -------- -------- ----------
Net cash used in investing activities.... (3,837) (12) (2,424) (1,820) (807) (134,407)
-------- -------- -------- -------- -------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments under capital leases for
equipment .............................. (209) (646) (2,359) (2,227) (249) (165)
Proceeds on line of credit with
stockholder ............................ 3,500 7,500 -- -- -- --
Repayments on line of credit with
stockholder ............................ (3,500) (7,500) -- -- -- --
Net proceeds (repayments) on line
of credit .............................. -- -- 4,338 7,700 2,362 (5,100)
Proceeds from issuance of senior
increasing rate notes .................. -- -- -- -- -- 119,735
Proceeds from issuance of common
stock .................................. -- -- -- -- -- 76,000
Redemption of preferred stock ........... -- -- -- -- -- (8,678)
Proceeds from issuance of loans
payable to stockholder ................. 4,000 -- -- -- -- --
Repayment of loans payable to
stockholder ............................ (3,486) (6,004) (7,004) (5,253) (1,851) (36,649)
Repayment of other notes payable ........ (150) (1,627) (1,200) (1,175) (50) (25)
Dividends paid on preferred stock ....... (305) (618) (616) (460) (155) --
-------- -------- -------- -------- -------- ----------
Net cash provided by (used in)
financing activities ................... (150) (8,895) (6,841) (1,415) 57 145,118
-------- -------- -------- -------- -------- ----------
Net increase (decrease) in cash and
cash equivalents ........................ 468 (3,570) (323) 2 4,178 988
Cash and cash equivalents, beginning
of period ............................... 3,728 4,196 626 626 303 --
-------- -------- -------- -------- -------- ----------
Cash and cash equivalents, end of
period .................................. $ 4,196 $ 626 $ 303 $ 628 $ 4,481 $ 988
======== ======== ======== ======== ======== ==========
SUPPLEMENTAL INFORMATION:
Cash paid during the period for:
Interest to stockholder(s) .............. $ 5,561 $ 5,573 $ 4,559 $ 3,483 $ 1,146 $ 4,005
Interest, other ......................... 94 604 917 672 459 64
Income taxes ............................ 2,697 2,834 4,594 4,384 1,222 33
SIGNIFICANT NON-CASH ACTIVITIES:
Assets acquired under capital lease ..... $ 1,798 $ 3,555 $ -- $ -- $ -- $ --
The accompanying notes are an integral part of these
consolidated financial statements.
F-6
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
1. ORGANIZATION, BUSINESS AND ACQUISITION
Arcade Holding Corporation (the "Predecessor") was organized for the
purpose of acquiring all the issued and outstanding capital stock of Arcade,
Inc. ("Arcade") on November 4, 1993. Arcade manufactures and distributes
cosmetics sampling products from its Chattanooga, Tennessee facilities, and
distributes its products in Europe through its French subsidiary, Arcade Europe
S.A.R.L. On June 9, 1995, Arcade acquired all of the issued and outstanding
stock of Scent Seal Inc. ("Scent Seal") (see Note 8). The acquisition of Scent
Seal did not have a material impact on the financial position or results of
operations of the Predecessor. These acquisitions were accounted for as
purchase transactions whereby the purchase cost was allocated to the fair value
of the net assets acquired.
As more fully described in Note 15, DLJ Merchant Banking Partners II, L.P.
and certain related investors (collectively, "DLJMBII") and certain members of
the Predecessor organized AHC I Acquisition Corp. ("Acquisition Corp.") and AHC
I Merger Corp. ("Merger Corp.") for purposes of acquiring the Predecessor.
Merger Corp. was a wholly-owned subsidiary of Acquisition Corp. and was
initially capitalized by Acquisition Corp. with an equity contribution of
$78,363 ($76,000 of cash and $2,363 of non-cash consideration in the form of a
preferred stock option in Acquisition Corp.). Immediately following this equity
contribution, Merger Corp. issued $123,500 of senior increasing rate notes to
an entity that has a partial ownership interest in Acquisition Corp. On
December 15, 1997, Merger Corp. acquired all of the equity interests of the
Predecessor (the "Acquisition") for a total cost of $197,730, which consisted
of $138,634 cash paid for equity interests and related expenses, $2,363 in
non-cash consideration and the assumption of $56,733 in debt, preferred stock
and related interest and dividends, including capital lease obligations. Merger
Corp. then merged with and into the Predecessor and the combined entity assumed
the name AKI, Inc. ("AKI," the "Successor" or the "Company"). The Acquisition
was accounted for using the purchase method of accounting. Subsequent to the
Acquisition, Acquisition Corp. contributed all of its ownership interest in AKI
to AKI Holding Corp. ("Holding"). Since all companies are under common control,
and since Holding has no operations other than those related to the Company,
the contribution was accounted for as if it was a pooling of interests.
Unless otherwise indicated, all references to years refer to the
Predecessor's fiscal year, June 30.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Interim Financial Information
The consolidated balance sheet at March 31, 1998 and the consolidated
statements of operations, of changes in stockholder(s) equity and of cash flows
for the nine month period ended March 31, 1997, the period from July 1, 1997
through December 15, 1997 and the period from December 16, 1997 through March
31, 1998 are unaudited, and certain information and footnote disclosure related
thereto, normally included in financial statements prepared in accordance with
generally accepted accounting principles, have been omitted. In the opinion of
management, the unaudited interim consolidated financials were prepared
following the same policies and procedures used in the preparation of the
audited financial statements and all adjustments, consisting only of normal
recurring adjustments necessary to fairly present the financial position,
results of operations and cash flows with respect to the interim consolidated
financial statements, have been included. The results of operations for the
interim periods are not necessarily indicative of the results for the entire
fiscal year.
The accompanying unaudited interim consolidated financial statements as of
March 31, 1998 and for the period from December 16, 1997 through March 31,
1998, present the financial position and results of operations of the Company
on the basis of accounting described in Note 15 and, accordingly, are not
comparable with the audited Predecessor consolidated financial statements as of
June 30, 1996 and 1997
F-7
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
and for each of the three years in the period ended June 30, 1997, nor with the
unaudited Predecessor interim consolidated financial statements for the nine
months ended March 31, 1997 and the period from July 1, 1997 to December 15,
1997.
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
Predecessor and its wholly owned subsidiaries. All significant intercompany
transactions have been eliminated.
Reclassification
Certain prior year amounts have been reclassified to conform with the
current year presentation.
Cash and Cash Equivalents
For purposes of the consolidated statements of cash flows, Predecessor
considers all highly liquid investments with an original maturity of three
months or less at the time of purchase to be cash equivalents.
Concentration of Credit Risk
Predecessor maintains its cash in bank deposit accounts which, at times,
may exceed federally insured limits. Predecessor has not experienced any losses
in such accounts; in addition, Predecessor believes it is not exposed to any
significant credit risk on cash and cash equivalents. Predecessor grants credit
terms in the normal course of business to its customers and as part of its
ongoing procedures, Predecessor monitors the credit worthiness of its
customers. Predecessor does not believe that it is subject to any unusual
credit risk beyond the normal credit risk attendant in its business.
Approximately $9,354, $17,690 and $13,104 of net sales were from sales to
customers outside of the United States for the years ended June 30, 1995, 1996
and 1997, respectively. A single customer accounted for approximately 20.4% and
12.9% of Predecessor's net sales in 1995 and 1996, respectively. In 1997, two
customers accounted for 12.1% and 11.4% of Predecessor's net sales,
respectively.
Concentration of Purchasing
Products accounting for a majority of Predecessor's net sales utilize
specific grades of paper that are produced exclusively for Predecessor by one
international supplier. Predecessor does not have an agreement with this
supplier.
Revenue Recognition and Accounts Receivable
Product sales are recognized upon shipment, net of estimated discounts.
Accounts receivable are accounted for net of allowances for doubtful accounts.
Inventory
Paper inventory is stated at the lower of cost or market using the
last-in, first-out (LIFO) method; all other inventories are stated at the lower
of cost or market using the first-in, first-out (FIFO) method.
Property, Plant and Equipment
Property, plant and equipment are stated at cost. Expenditures that extend
the economic lives or improve the efficiency of equipment are capitalized. The
costs of maintenance and repairs are expensed as incurred. Upon retirement or
disposal, the related cost and accumulated depreciation are removed from the
respective accounts and any gain or loss is recorded.
F-8
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Depreciation is computed using the straight-line method based on the
estimated useful lives of the assets as indicated in Note 5 for financial
reporting purposes and accelerated methods for tax purposes.
Goodwill
The aggregate purchase price of business acquisitions was allocated to the
assets and liabilities of the acquired companies based on their respective fair
values as of the acquisition date. Goodwill represents the excess purchase
price paid over the fair value of net identifiable assets acquired and is
amortized over forty years using the straight-line method. Accumulated
amortization was $1,872, $3,086 and $4,300 at June 30, 1995, 1996 and 1997,
respectively.
Predecessor periodically reviews the value of its goodwill to determine if
an impairment has occurred. Predecessor measures the potential impairment of
recorded goodwill by the undiscounted value of expected future operating cash
flows in relation to its net capital investment. Based on its review,
Predecessor does not believe that an impairment of its goodwill has occurred.
Fair Value of Financial Instruments
SFAS No. 107, "Disclosures About Fair Values of Financial Instruments,"
requires the disclosure of the fair value of financial instruments, for assets
and liabilities recognized and not recognized on the balance sheet, for which
it is practicable to estimate fair value. The carrying value of Predecessor's
financial instruments approximates fair value.
Foreign Currency Transactions
Gains and losses on foreign currency transactions with third parties have
been included in the determination of net income in accordance with SFAS No.
52, "Foreign Currency Translation." Foreign currency losses and (gains)
amounted to $7, $(99) and $387 for the years ended June 30, 1995, 1996 and
1997, respectively.
Research and Development Expenses
Research and development expenditures are charged to selling, general and
administrative expenses in the period incurred. Research and development
expenses totaled $500, $1,012 and $1,263 for the years ended June 30, 1995,
1996 and 1997, respectively.
Debt Issuance Costs
Debt issuance costs are being amortized using the effective interest
method over the terms of the related debt. Such costs are included in the
accompanying consolidated balance sheets, net of accumulated amortization.
Income Taxes
Income taxes are provided in accordance with Statement of Financial
Accounting Standards No. 109, "Accounting for Income Taxes." Accordingly,
deferred tax assets and liabilities are recognized at the applicable income tax
rates based upon future tax consequences of temporary differences between the
tax basis and financial reporting basis of assets and liabilities using enacted
tax rates in effect in the years in which the differences are expected to
reverse. The measurement of deferred tax assets is reduced, if necessary, by
the amount of any tax benefits that, based on available evidence, are not
expected to be realized.
F-9
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
3. ACCOUNTS RECEIVABLE
The following table details the components of accounts receivable:
JUNE 30,
-----------------------
1996 1997
---------- ----------
Trade accounts receivable .................................... $12,707 $10,362
Allowance for doubtful accounts .............................. (467) (319)
------- -------
12,240 10,043
Employee and other related party accounts receivable ......... 218 121
Other accounts receivable .................................... 288 36
------- -------
$12,746 $10,200
======= =======
4. INVENTORY
The following table details the components of inventory:
JUNE 30,
--------------------
1996 1997
-------- ---------
Raw materials
Paper ....................... $ 653 $ 915
Other raw materials ......... 499 956
------ ------
Net raw materials ........... 1,152 1,871
Work in process ............... 1,084 915
------ ------
Net inventory ................. $2,236 $2,786
====== ======
Inventory would have been greater by $117 and $45 at June 30, 1996 and
1997, respectively, had it been stated using the FIFO method.
F-10
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
5. PROPERTY, PLANT AND EQUIPMENT
The following table details the components of property, plant and
equipment as well as their estimated useful lives:
JUNE 30,
--------------------------
ESTIMATED
USEFUL LIVES 1996 1997
---------------- ----------- ------------
Land .............................. -- $ 243 $ 243
Building and improvements ......... 15 -- 30 years 2,552 2,741
Machinery and equipment ........... 5 -- 7 years 21,573 23,250
Furniture and fixtures ............ 3 -- 5 years 1,760 2,359
Construction in progress .......... 543 424
-------- ---------
26,671 29,017
(7,046) (10,861)
-------- ---------
$ 19,625 $ 18,156
======== =========
Depreciation expense amounted to $2,496, $3,188 and $3,850 for the years
ended June 30, 1995, 1996 and 1997, respectively.
Property held under capital leases was included in the respective
property, plant and equipment account on the balance sheet as follows:
JUNE 30,
---------------------
1996 1997
--------- ---------
Machinery and equipment ............... $5,353 $3,555
Less accumulated depreciation ......... (382) (762)
------ ------
$4,971 $2,793
====== ======
Depreciation of capital leases totaled $156, $421 and $633 for the years
ended June 30, 1995, 1996 and 1997, respectively. Future minimum lease payments
under the remaining lease are as follows:
PAYMENT INTEREST
--------- ---------
1998 .......... $ 774 $217
1999 .......... 774 165
2000 .......... 774 107
2001 .......... 839 17
------ ----
$3,161 $506
====== ====
6. LINE OF CREDIT
Predecessor entered into a $15,000 revolving loan commitment ("Credit
Agreement") with an institutional lender in 1996. This facility would have
expired in November 1998. Borrowings were limited to a borrowing base
consisting of accounts receivable, inventory and property, plant and equipment.
Interest on amounts borrowed accrued at either prime plus 1% or LIBOR plus
2.75% (9.25% and 9.50% at June 30, 1996 and 1997, respectively). Predecessor
paid an annual commitment fee on its unused lines of credit amounting to 0.5%
of the unused amount and a facility fee of $38 per annum. The Credit Agreement
contained certain financial covenants and other restrictions including
restrictions on additional indebtedness and investments. Predecessor was not in
compliance with all such covenants at June 30, 1997. Therefore, all amounts
outstanding under the Credit Agreement at June 30, 1997 were classified as
short-term liabilities. However, all amounts outstanding under the Credit
Agreement were subsequently repaid upon the acquisition of Predecessor as
discussed in Note 15 and an amended credit agreement entered into.
F-11
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
7. LOANS PAYABLE TO STOCKHOLDER
Loans payable to stockholder consists of the following:
JUNE 30,
-------------------------
1996 1997
---------- ------------
Senior Loan ............................. $ 14,910 $ 7,906
Senior Subordinated Loans ............... 30,594 30,594
Less unamortized debt discounts ......... (968) (608)
-------- ---------
44,536 37,892
Less current portion .................... (7,004) (37,892)
-------- ---------
$ 37,532 $ --
======== =========
Predecessor entered into a Senior Loan Agreement and two Subordinated Loan
Agreements (collectively, the "Loan Agreements") with a party that owned
Predecessor's preferred stock and a significant portion of its common stock.
The Loan Agreements were collateralized by substantially all the assets of
Predecessor. The Loan Agreements limited the Predecessor's ability to incur
additional indebtedness, pay dividends and purchase fixed assets. Additionally,
the Loan Agreements required that certain financial covenants be maintained.
Predecessor was not in compliance with all such covenants at June 30, 1997.
Therefore, all amounts outstanding under the Loan Agreements at June 30, 1997
were classified as short-term liabilities. However, this debt was subsequently
retired upon the acquisition of Predecessor as discussed in Note 15.
Amounts borrowed under the Senior Loan Agreement were repayable in varying
quarterly amounts through December 1998. All amounts borrowed under the Senior
Loan Agreement bore interest at prime plus 1.50% (9.75% and 10% at June 30,
1996 and 1997, respectively) which was payable monthly.
Predecessor borrowed $30,000 under the Subordinated Loan Agreements, of
which $23,000 was designated as Loan I and $7,000 was designated as Loan II.
Loan I bore interest, payable quarterly, at 12% until November 4, 1998, and
then would have converted to prime plus 4%. Loan II bore interest, payable
quarterly, at 7%. The outstanding amount of the subordinated loans was net of
unamortized debt discounts, which were being amortized over the term of the
related loan. The loans were repayable in varying quarterly installments from
March 1999 until December 2001.
In connection with Loan II, Predecessor issued a warrant to purchase
19,233 shares of common stock at $0.05 per share. The warrant was exercisable
until November 4, 2003. Predecessor valued the warrants at $100 each based on
the fair market value of a share of the underlying common stock resulting from
a sale with a third party. In connection with the warrant issued, Predecessor
recorded debt discount of $1,923. In connection with the sale of Predecessor on
December 15, 1997 (Note 15), all outstanding warrants were purchased from the
holder by the buyer of Predecessor and retired.
Maturities of loans payable to stockholder at June 30, 1997, were as
follows:
1998 .................................... $ 7,404
1999 .................................... 5,502
2000 .................................... 10,000
2001 .................................... 10,000
2002 .................................... 5,594
-------
38,500
Less unamortized debt discounts ......... (608)
-------
$37,892
=======
F-12
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
8. OTHER NOTES PAYABLE
In connection with the acquisition of Scent Seal, Predecessor issued
$3,627 in noninterest bearing promissory notes ("Notes") to an employee of
Predecessor who was previously a Scent Seal stockholder. The remaining notes
are due in quarterly installments of $25 through June 1998 with a balloon
payment of $1,450 due in July 1998. Predecessor recorded a debt discount of
$649 in connection with the issuance of the Notes to reflect an effective
interest rate of 10%. The discount is being amortized over the term of the
Notes.
Maturities of other notes payable at June 30, 1997, were as follows:
1998 ................................... $ 100
1999 ................................... 1,450
------
1,550
Less unamortized debt discount ......... (149)
------
$1,401
======
9. REDEEMABLE PREFERRED STOCK
In connection with the 1993 acquisition of Arcade, Predecessor authorized
and issued 8,000 shares of 7% cumulative, $1 par value preferred stock at
$1,000 per share. The preferred stock prohibited the Predecessor from acquiring
its common stock as long as the preferred stock was outstanding and restricted
the payment of common stock dividends. Accrued and unpaid dividends of $678
accrued through December 31, 1994, were added to the outstanding balance. The
preferred stock would have been redeemable on December 31, 2001, at liquidation
value of $1,000 per share plus accrued and unpaid dividends.
In conjunction with the sale of Predecessor on December 15, 1997 (Note
15), all outstanding preferred stock was redeemed at $1,000 per share plus
accrued and unpaid dividends.
10. COMMITMENTS AND CONTINGENCIES
Operating Leases
Predecessor leases equipment and office space under operating leases
expiring at various dates. Rent expense was approximately $72, $355 and $443
for the years ended June 30, 1995, 1996 and 1997, respectively. Future minimum
lease payments under these leases are as follows:
1998 ................ $249
1999 ................ 235
2000 ................ 153
2001 ................ 129
----
$766
====
Royalty Agreements
Predecessor maintains licensing agreements for certain technologies used
in the manufacture of certain Predecessor products. Under the terms of one
licensing agreement, Predecessor is required to submit royalty payments based
on a percentage of net sales of those products manufactured with the specific
technology, or a minimum of $800 per year. This agreement expires in 2003 or
when a total of $12,500 in cumulative royalty payments has been paid.
F-13
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
10. COMMITMENTS AND CONTINGENCIES (CONTINUED)
Under the terms of another licensing agreement, Predecessor is required to
submit royalty payments based on the number of products sold that were
manufactured with the specific licensed technology, or a minimum of $475 per
year. This agreement expires in 2012, coinciding with the expiration of the
underlying patent.
Litigation
Predecessor is a party to litigation arising in the ordinary course of
business which, in the opinion of management, will not have a material adverse
effect on Predecessor's financial condition, results of operations or cash
flows.
Year 2000/European Monetary Unit
Predecessor has not implemented a strategy to be fully compliant with the
year 2000 and European monetary unit issues related to its computer systems.
Management does not believe that the costs related to implementing such a
strategy will have a material impact on the operations or financial statements
of Predecessor.
11. RETIREMENT PLANS
Predecessor has a 401(k) defined contribution plan (the "Plan") covering
substantially all full-time salaried employees. Applicable employees who have
six months of service and have attained age 21 are eligible to participate in
the Plan. Employees may elect to contribute a percentage of their earnings to
the Plan in accordance with limits prescribed by law. Predecessor's
contributions to the Plan are determined annually by the Board of Directors and
generally are a matching percentage of employee contributions. Predecessor's
contributions to this Plan were $132, $136 and $159 for the years ended June
30, 1995, 1996 and 1997, respectively.
Certain Predecessor hourly employees are covered under a multiemployer
defined benefit plan administered under a collective bargaining agreement.
Predecessor's cost (determined by union contract) under this Plan was $93, $127
and $143 for the years ended June 30, 1995, 1996 and 1997, respectively.
12. INCOME TAXES
Significant components of the provision (benefit) for income taxes are as
follows:
JUNE 30,
---------------------------------
1995 1996 1997
--------- --------- ---------
Current expense:
Federal ............ $1,340 $2,225 $2,880
State .............. 199 359 552
------ ------ ------
1,539 2,584 3,432
------ ------ ------
Deferred benefit:
Federal ............ 1,389 (418) (255)
State .............. 186 (65) (42)
------ ------ ------
1,575 (483) (297)
------ ------ ------
$3,114 $2,101 $3,135
====== ====== ======
F-14
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
12. INCOME TAXES (CONTINUED)
The significant components of Predecessor's deferred tax asset and
deferred tax liability at June 30, 1996 and 1997, were as follows:
JUNE 30,
--------------------------------------------
1996 1997
---------------------- ---------------------
CURRENT NONCURRENT CURRENT NONCURRENT
--------- ------------ --------- -----------
Deferred income tax asset:
Accrued expenses ............... $317 $ -- $300 $ --
Allowance for doubtful accounts 182 -- 124 --
---- ------ ---- ------
499 -- 424 --
---- ------ ---- ------
Deferred income tax liability:
Property, plant and equipment .. -- 3,321 -- 2,949
---- ------ ---- ------
$499 $3,321 $424 $2,949
==== ====== ==== ======
The income tax provision recognized by Predecessor for the years ended
June 30, 1995, 1996 and 1997, differs from the amount determined by applying
the applicable U.S. statutory federal income tax rate to Predecessor's pretax
income as a result of the following:
JUNE 30,
---------------------------------
1995 1996 1997
--------- --------- ---------
Computed tax provision at the statutory rate .............. $2,464 $1,455 $2,420
State income tax provision, net of Federal effect ......... 255 194 335
Nondeductible expenses .................................... 391 427 455
Other, net ................................................ 4 25 (75)
------ ------ ------
$3,114 $2,101 $3,135
====== ====== ======
13. STOCK OPTION AGREEMENT
Predecessor sponsored a key employee stock option plan under which a
maximum of 12,571 shares of Predecessor's common stock could be reserved for
nonqualified options; all stock options were granted with an exercise price
equal to the fair market value of $100 per share. All options vested ratably
over five years and would have expired ten years from the grant date.
Predecessor accounted for its employee stock options under Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees ("APB
25"). Under APB 25, because the exercise price of Predecessor's employee stock
options equaled the market value of the underlying stock on the date of grant,
no compensation expense was recognized.
A summary of Predecessor's stock option activity and related information
follows:
F-15
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
13. STOCK OPTION AGREEMENT (CONTINUED)
JUNE 30, 1995 JUNE 30, 1996 JUNE 30, 1997
------------------------- ----------------------- ----------------------
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
OPTIONS PRICE OPTIONS PRICE OPTIONS PRICE
----------- ----------- --------- ----------- --------- ----------
Outstanding, beginning of year ......... 8,380 $100 12,571 $100 12,571 $100
Granted ............................... 8,381 100 -- -- -- --
Exercised ............................. -- -- -- -- -- --
Forfeited ............................. (4,190) 100 -- -- -- --
------ ---- ------ ---- ------ ----
Outstanding, end of year ............... 12,571 $100 12,571 $100 12,571 $100
====== ====== ======
Exercisable at end of year ............. 838 $100 3,352 $100 5,866 $100
====== ====== ======
Weighted average remaining
contractual life ...................... 9.3 years 8.3 years 7.3 years
Statement of Financial Accounting Standards No. 123, Accounting for
Stock-Based Compensation ("SFAS 123"), requires disclosure of pro forma
information regarding net income for option grants subsequent to December 15,
1995. Because all of the Predecessor's options were granted prior to that date,
no pro forma adjustments to net income or disclosure of information would apply
under SFAS 123.
As a result of the sale of Predecessor on December 15, 1997 (Note 15), all
outstanding options became immediately vested and exercisable under the
individual stock option agreements. In connection with the sale, the buyer of
Predecessor purchased and retired 11,201 of the outstanding options. The
remaining 1,370 options were exchanged at their fair value for an option to
purchase Acquisition Corp.'s preferred stock.
14. RELATED PARTY TRANSACTIONS
The Predecessor made payments to a company controlled by a stockholder of
the Predecessor, of $451, $692 and $612 for the years ended June 30, 1995, 1996
and 1997, respectively, for management fees, bonuses and expense
reimbursements.
The Predecessor also made payments to another stockholder totaling $120
for each of the years ended June 30, 1995, 1996 and 1997 for management fees.
15. SUBSEQUENT EVENT
DLJMBII and certain members of the Predecessor organized Acquisition Corp.
and Merger Corp. for purposes of acquiring the Predecessor. Merger Corp. was a
wholly-owned subsidiary of Acquisition Corp. and was initially capitalized by
Acquisition Corp. with an equity contribution of $78,363 ($76,000 of cash and
$2,363 of non-cash consideration in the form of a preferred stock option in
Acquisition Corp.). Immediately following this equity contribution, Merger
Corp. issued $123,500 of senior increasing rate notes to an entity that has a
partial ownership interest in Acquisition Corp. The senior increasing rate
notes mature on December 15, 1998 and can be repaid without penalty at any time
prior to maturity. The senior increasing rate notes bear interest equal to the
greater of (i) a rate of 10.0% per annum and (ii) a daily floating rate of
prime plus 2.25% plus an additional percentage amount equal to (a) 1.0% from
and including the interest payment date on June 15, 1998 or (b) 1.5% from and
including the interest payment date on September 15, 1998. Merger Corp.
received cash proceeds from the issuance of the senior increasing rate notes of
$119,735, net of $3,765 of associated debt issuance costs.
On December 15, 1997, Merger Corp. acquired all of the equity interests of
the Predecessor (the "Acquisition") for a total cost of $197,730, which
consisted of $138,634 cash paid for equity interests and
F-16
AKI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE INFORMATION)
15. SUBSEQUENT EVENT (CONTINUED)
related expenses, $2,363 in non-cash consideration and the assumption of
$56,733 in debt, preferred stock and related interest and dividends, including
capital lease obligations. Merger Corp. then merged with and into the
Predecessor and the combined entity assumed the name AKI. Subsequent to the
Acquisition, Acquisition Corp. contributed all of its ownership interest in AKI
to Holding. Since all companies are under common control, and since Holding has
no operations other than those related to the Company, the contribution was
accounted for as if it was a pooling of interests.
The Acquisition was accounted for using the purchase method of accounting.
In accordance with the consensus reached by the Emerging Issues Task Force of
the Financial Accounting Standards Board in Issue 88-16, "Basis in Leveraged
Buyout Transactions," the purchase price allocation required an adjustment for
the continuing interest attributable to management's ownership interest in
Predecessor carried over in connection with the Acquisition. As a result, a
reduction in stockholder's equity of $15,730 was recorded which represents the
difference between the fair value of the Company's assets and the related book
value attributable to the interest of the continuing shareholders' investment
in Predecessor. The remaining purchase price has been allocated to assets and
liabilities based upon estimates of their respective fair value as determined
by management and a third-party appraisal with respect to property, plant and
equipment.
In connection with the Acquisition, the Company repaid the outstanding
balance and related interest of Predecessor's loans payable to a shareholder of
$37,374, the outstanding balance and related interest on the Predecessor's line
of credit of $6,728 and redeemed all outstanding preferred stock and related
dividends for $8,806.
The following shows the acquisition costs and the preliminary allocation
of the purchase price:
Acquisition costs
Cash paid for stock ................................................. $ 134,403
Direct acquisition costs ............................................ 4,231
---------
138,634
Non-cash consideration for stock .................................... 2,363
---------
Total ............................................................... 140,997
Less--Carryover basis adjustment .................................... (15,730)
---------
Purchase price to be allocated ...................................... $ 125,267
=========
Summary allocation of purchase price
Cash ................................................................ $ 4,481
Other current assets ................................................ 18,936
Fixed assets ........................................................ 20,132
Deferred income taxes ............................................... 1,799
Other assets ........................................................ 329
Goodwill ............................................................ 153,929
---------
Total allocation to assets .......................................... $ 199,606
=========
Current liabilities ................................................. 13,190
Long-term debt (including current portion) and related interest ..... 47,927
Deferred income taxes ............................................... 4,416
Preferred stock and related dividends ............................... 8,806
---------
Total liabilities assumed ........................................... $ 74,339
=========
Final allocations of certain liabilities may be different from amounts
reflected; however, it is not anticipated that any significant changes will be
made to the preliminary allocations.
F-17
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NO DEALER, SALESPERSON, OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS IN CONNECTION WITH THIS EXCHANGE
OFFER OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH
INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED
BY HOLDING OR THE INITIAL PURCHASER. THIS PROSPECTUS DOES NOT CONSTITUTE AN
OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY SECURITIES OTHER THAN
THE SECURITIES TO WHICH IT RELATES, NOR DOES IT CONSTITUTE AN OFFER TO SELL OR
THE SOLICITATION OF AN OFFER TO BUY SUCH SECURITIES IN ANY JURISDICTION IN
WHICH SUCH OFFER OR SOLICITATION IS NOT AUTHORIZED, OR IN WHICH THE PERSON
MAKING SUCH OFFER OR SOLICITATION IS NOT QUALIFIED TO DO SO, OR TO ANY PERSON
TO WHOM IT IS UNLAWFUL TO MAKE SUCH AN OFFER OR SOLICITATION. NEITHER THE
DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE
AFFAIRS OF HOLDING SINCE THE DATE HEREOF OR THAT THE INFORMATION CONTAINED
HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO ITS DATE.
--------------------------
TABLE OF CONTENTS
PAGE
-----------
Available Information ........................ iii
Prospectus Summary ........................... 1
Risk Factors ................................. 14
Use of Proceeds .............................. 20
The Exchange Offer ........................... 21
Capitalization ............................... 28
Selected Historical Consolidated Financial
Data ...................................... 29
Management's Discussion and Analysis of
Financial Condition and Results of
Operations ................................ 30
Business ..................................... 36
The Transactions ............................. 46
Management ................................... 47
Security Ownership of Certain Beneficial
Owners and Management ..................... 50
Certain Relationships and Related
Transactions .............................. 51
Description of Certain Indebtedness .......... 53
Description of New Debentures ................ 55
Certain U.S. Federal Income Tax
Considerations ............................ 80
Plan of Distribution ......................... 85
Notice to Holders ............................ 86
Legal Matters ................................ 86
Experts ...................................... 87
Index to Unaudited Pro Forma
Condensed Consolidated Financial
Data ...................................... P-1
Index to Consolidated Financial
Statements ................................ F-1
OFFER TO EXCHANGE
13 1/2% NEW SENIOR DISCOUNT
DEBENTURES DUE 2009
FOR UP TO $50,000,000
IN PRINCIPAL
AMOUNT OUTSTANDING
13 1/2% SENIOR DISCOUNT
DEBENTURES DUE 2009
AKI HOLDING CORP.
--------------------------------------------
PROSPECTUS
--------------------------------------------
, 1998
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF ANY OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO ANY REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY STATE.
[ALTERNATE COVER FOR MARKET-MAKING PROSPECTUS]
PROSPECTUS
AKI HOLDING CORP.
13 1/2% NEW SENIOR DISCOUNT DEBENTURES DUE 2009
----------------
The 13 1/2% New Senior Discount Debentures due 2009 (the "New Debentures")
were issued in exchange for the 13 1/2% Senior Discount Debentures due 2009
(the "Old Debentures") by AKI Holding Corp., a Delaware corporation
("Holding"). The New Debentures are obligations of Holding.
The New Debentures will mature on July 1, 2009. The New Debentures have
been issued at a substantial discount from their principal amount. The New
Debentures will accrete at a rate of 13 1/2%, compounded semi-annually to an
aggregate principal amount of $50.0 million at July 1, 2003. Thereafter, the
New Debentures will accrete interest at a rate of 13 1/2% per annum, payable
semi-annually on January 1 and July 1 of each year, commencing on January 1,
2004. The New Debentures are redeemable at the option of Holding, in whole or
in part, at anytime on or after July 1, 2003, in cash at the redemption prices
set forth herein, plus accrued and unpaid interest and Liquidated Damages (as
defined herein), if any, thereon to the date of redemption. In addition, at any
time prior to July 1, 2001, Holding may on any one or more occasions redeem up
to 35% of the aggregate principal amount of New Debentures originally issued at
a redemption price equal to 113.5% of the Accreted Value (as defined herein)
thereof on the date of redemption plus Liquidated Damages, if any, to the
redemption date with the net cash proceeds of one or more Public Equity
Offerings (as defined herein); provided that at least 65% of the aggregate
principal amount of New Debentures originally issued remains outstanding
immediately after the occurrence of any such redemption. See "Description of
New Debentures--Optional Redemption." In addition, upon the occurrence of a
Change of Control (as defined herein), each holder of Debentures will have the
right to require Holding to repurchase all or any part of such holder's
Debentures at an offer price in cash equal to 101% of the Accreted Value
thereof, on the date of repurchase (if such date of repurchase is prior to July
1, 2003) or 101% of the aggregate principal amount thereof (if such date of
repurchase is on or after July 1, 2003) plus accrued and unpaid interest and
Liquidated Damages, if any, thereon to the date of repurchase. See "Description
of New Debentures--Repurchase at the Option of Holders--Change of Control."
There can be no assurance that, in the event of a Change of Control, Holding
would have sufficient funds to purchase all Debentures tendered. See "Risk
Factors--Limitations on Ability to Make Change of Control Payment."
The New Debentures are general unsecured obligations of Holding, and rank
pari passu in right of payment to all existing and future senior unsecured
indebtedness of Holding and rank senior in right of payment to all existing and
future subordinated indebtedness of Holding. The New Debentures, however, are
effectively subordinated to all secured obligations of Holding, to the extent
of the assets securing such obligations. The Debentures, however, will be (i)
effectively subordinated to all secured obligations of Holding, to the extent
of the assets securing such obligations, and (ii) structurally subordinated to
all obligations of Holding's subsidiaries. As of March 31,1998, on a pro forma
basis, after giving effect to the Refinancing (as defined herein) and the
consummation of the 3M Acquisition (as defined herein), Holding would have had
no outstanding secured obligations and Holding's subsidiaries would have had
$122.9 million of outstanding liabilities (including trade payables).
(Continued on next page)
----------------
SEE "RISK FACTORS" BEGINNING ON PAGE 14 OF THIS PROSPECTUS FOR A
DISCUSSION OF CERTAIN FACTORS THAT SHOULD BE CONSIDERED IN CONNECTION WITH AN
INVESTMENT IN THE NEW DEBENTURES.
----------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THE PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
This Prospectus is to be used by Donaldson, Lufkin & Jenrette Securities
Corporation ("DLJ") in connection with the offers and sales in market-making
transactions at negotiated prices related to prevailing market prices at the
time of sale. Holding does not intend to list the New Debentures on a national
securities exchange or to apply for quotation of the New Debentures through the
National Association of Securities Dealers Automated Quotation System. DLJ has
advised Holding that it intends to make a market in the New Debentures. However
DLJ is not obligated to do so and any market-making activities with respect to
the New Debentures may be discontinued at any time without notice. Holding will
receive no portion of the proceeds of the sale of the New Debentures and will
bear expenses incident to the registration thereof.
DONALDSON, LUFKIN & JENRETTE
SECURITIES CORPORATION
The date of this Prospectus is , 1998
A-1
[ALTERNATE SECTION FOR MARKET-MAKING PROSPECTUS]
NO DEALER, SALESPERSON, OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS NOT CONTAINED IN THIS PROSPECTUS. IF
GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS
HAVING BEEN AUTHORIZED BY HOLDING OR DLJ. THIS PROSPECTUS DOES NOT CONSTITUTE
AN OFFER TO SELL, OR A SOLICITATION OF AN OFFER TO BUY, ANY OF THE NEW
DEBENTURES IN ANY JURISDICTION WHERE, OR TO ANY PERSON TO WHOM IT IS UNLAWFUL
TO MAKE SUCH AN OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS
NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY
IMPLICATION THAT THERE HAS NOT BEEN ANY CHANGE IN THE FACTS SET FORTH IN THIS
PROSPECTUS OR IN THE AFFAIRS OF HOLDING SINCE THE DATE HEREOF.
A-2
[ALTERNATE SECTION FOR MARKET-MAKING PROSPECTUS]
----------------
AVAILABLE INFORMATION
Holding has filed with the Commission a Registration Statement on Form S-4
(the "Exchange Offer Registration Statement") under the Securities Act with
respect to the New Debentures being offered by this Prospectus. This Prospectus
does not contain all of the information set forth in the Exchange Offer
Registration Statement and the exhibits and schedules thereto, certain portions
of which have been omitted pursuant to the rules and regulations of the
Commission. Statements made in this Prospectus as to the contents of any
contract, agreement or other document are not necessarily complete. With
respect to each such contract, agreement or other document filed or
incorporated by reference as an exhibit to the Exchange Offer Registration
Statement, reference is made to such exhibit for a more complete description of
the matter involved, and each such statement is qualified in its entirety by
such reference.
Upon the effectiveness of the Exchange Offer Registration Statement,
Holding became subject to the information requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and in accordance
therewith will file reports and other information with the Commission. The
Exchange Offer Registration Statement and the exhibits and schedules thereto as
well as any reports and other information filed by Holding may be inspected and
copied at the public reference facilities maintained by the Commission at Room
1024, Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549 and will
also be available for inspection and copying at the regional offices of the
Commission located at 7 World Trade Center, New York, New York 10048 and at 500
West Madison Street (Suite 1400), Chicago, Illinois 60661. Copies of such
material may also be obtained from the Public Reference Section of the
Commission at 450 Fifth Street, N.W., Washington, D.C. 20549 at prescribed
rates. The Commission maintains a web site (http://www.sec.gov) that contains
reports, proxy statements and other information regarding registrants that file
electronically with the Commission. Under the terms of the Indenture pursuant
to which the New Debentures were issued, Holding has agreed that, whether or
not it is required to do so by the rules and regulations of the Commission, for
so long as any of the Debentures remain outstanding, it will furnish to the
Trustee and Holders of the Debentures and file with the Commission (unless the
Commission will not accept such a filing) (i) all quarterly and annual
financial information that would be required to be contained in such a filing
with the Commission on Forms 10-Q and 10-K if Holding was required to file such
forms, including a "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and, with respect to the annual information only, a
report thereon by Holding's certified independent public accountants and (ii)
all reports that would be required to be filed with the Commission on Form 8-K
if Holding was required to file such reports. Holding has agreed to make such
information available to the Trustee, securities analysts and prospective
investors upon request. In addition, for so long as any of the Debentures
remain outstanding, Holding has agreed to make available to any prospective
purchaser of the Debentures or Holder of the Debentures in connection with any
sale thereof, the information required by Rule 144A(d)(4) under the Securities
Act.
A-3
[ALTERNATE SECTION FOR MARKET-MAKING PROSPECTUS]
TRADING MARKET FOR THE NEW NOTES
There is no existing trading market for the New Debentures, and there can
be no assurance regarding the future development of a market for the New
Debentures or the ability of the Holders of the New Debentures to sell their
New Debentures or the price at which such Holders may be able to sell their New
Debentures. If such market were to develop, the New Debentures could trade at
prices that may be higher or lower than their initial offering price depending
on many factors, including prevailing interest rates, Holding's operating
results and the market for similar securities. Although it is not obligated to
do so, DLJ intends to make a market in the New Debentures. Any such
market-making activity may be discontinued at any time, for any reason, without
notice at the sole discretion of DLJ. No assurance can be given as to the
liquidity of or the trading market for the New Debentures.
DLJ may be deemed to be an affiliate of Holding and, as such, may be
required to deliver a prospectus in connection with its market-making
activities in the New Debentures. Pursuant to the Registration Rights
Agreement, Holding agreed to use its respective best efforts to file and
maintain a registration statement that would allow DLJ to engage in
market-making transactions in the New Debentures. Holding has agreed to bear
substantially all the costs and expenses related to such registration
statement.
A-4
[ATLERNATE SECTION FOR MARKET-MAKING PROSPECTUS]
USE OF PROCEEDS
This Prospectus is delivered in connection with the sale of the New
Debentures by DLJ in market-making transactions. Holding will not receive any
of the proceeds from such transactions.
A-5
[ALTERNATE SECTION FOR MARKET-MAKING PROSPECTUS]
PLAN OF DISTRIBUTION
This Prospectus is to be used by DLJ (the "Initial Purchaser") in
connection with offers and sales of the New Debentures in market-making
transactions effected from time to time. The Initial Purchaser may act as a
principal or agent in such transactions, including as agent for the
counterparty when acting as principal or as agent for both counterparties, and
may receive compensation in the form of discounts and commissions, including
from both counterparties when it acts as agent for both. Such sales will be
made at prevailing market prices at the time of sale, at prices related thereto
or at negotiated prices. DLJ has informed Holding that it does not intend to
confirm sales of the New Debentures to any accounts over which it exercises
discretionary authority without the prior specific written approval of such
transactions by the customer.
DLJMBII, an affiliate of DLJ, and certain of its affiliates beneficially
own approximately 81.3% of the outstanding Acquisition Corp. Common Stock.
Messrs. Dean, Michael and Wittels, who are directors of Holding and officers
and directors of Holding and Acquisition Corp., are officers of DLJ Merchant
Banking. The Initial Purchaser is also an affiliate of DLJ Merchant Banking and
DLJMBII and has acted as financial advisor to the Company in connection with
the structuring of the Acquisition. For these financial advisory services, the
Initial Purchaser received a customary fee and was reimbursed for its
out-of-pocket expenses. In addition, pursuant to an agreement between the
Initial Purchaser and Acquisition Corp., the Initial Purchaser will receive a
customary annual fee for acting as the exclusive financial and investment
banking advisor to the Company ending December 31, 2002. DLJ acted as a
purchaser in connection with the initial sale of the Old Debentures and
received an underwriting discount of $1.04 million in connection therewith. See
"Certain Relationships and Related Party Transactions."
Holding has been advised by the Initial Purchaser that, subject to
applicable laws and regulations, the Initial Purchaser currently intends to
make a market in the New Debentures following completion of the Exchange Offer.
However, the Initial Purchaser is not obligated to do so and any such
market-making may be interrupted or discontinued at any time without notice. In
addition, such market-making activity will be subject to the limits imposed by
the Securities Act and the Exchange Act. There can be no assurance that an
active trading market will develop or be sustained. See "Risk Factors --Trading
Market for the New Debentures."
The Initial Purchaser and Holding have entered into the Registration
Rights Agreement with respect to the use by the Initial Purchaser of this
Prospectus. Pursuant to such agreement, Holding agreed to bear all registration
expenses incurred under such agreement, and Holding agreed to indemnify the
Initial Purchaser in connection with its acting as Initial Purchaser and as
financial advisor.
A-6
[ALTERNATE SECTION FOR MARKET-MAKING PROSPECTUS]
CERTAIN U.S. FEDERAL INCOME TAX CONSIDERATIONS
The following is a summary of certain United States federal income tax
consequences of the purchase, ownership and disposition of Debentures by the
Holders thereof. This summary is for general information only and does not
consider all aspects of federal income taxation that may be relevant to the
purchase, ownership and disposition of Debentures by a Holder in light of such
Holder's personal circumstances. The discussion also does not address the
federal income tax consequences of ownership of Debentures not held as capital
assets within the meaning of Section 1221 of the Internal Revenue Code of 1986,
as amended (the "Code"), or the federal income tax consequences to Holders
subject to special treatment under the federal income tax laws, such as dealers
in securities or foreign currency, tax-exempt investors, real estate investment
trusts, regulated investment companies, banks, thrifts, insurance companies or
other financial institutions, persons that hold the Debentures as a position in
a "straddle", or as part of a "synthetic security" or "hedge", "conversion
transaction" or other integrated investment, persons that have a "functional
currency" other than the U.S. dollar, or investors in pass-through entities.
Moreover, this discussion does not address the effect of any applicable state,
local or foreign tax laws or, except to the limited extent discussed under
"Non-U.S. Holders," the applicability of U.S. federal estate and gift taxation.
This discussion is based upon the Code, existing and proposed regulations
thereunder ("Treasury Regulations"), and current administrative rulings and
court decisions. All of the foregoing are subject to change, possibly on a
retroactive basis, and any such change could affect the continuing validity of
this discussion.
PERSONS CONSIDERING THE PURCHASE, OWNERSHIP AND DISPOSITION OF DEBENTURES
SHOULD CONSULT THEIR OWN TAX ADVISORS CONCERNING THE APPLICATION OF FEDERAL
INCOME TAX LAWS, AS WELL AS THE LAWS OF ANY STATE, LOCAL OR FOREIGN TAXING
JURISDICTION, TO THEIR PARTICULAR SITUATIONS.
U.S. HOLDERS
The following discussion is limited to the federal income tax consequences
relevant to a Holder that is (i) a citizen or resident (as defined in Section
7701(b)(1) of the Code) of the United States, (ii) a corporation organized
under the laws of the United States or any political subdivision thereof or
therein, (iii) an estate the income of which is subject to federal income tax
regardless of its source, or (iv) a trust with respect to which a court within
the United States is able to exercise primary supervision over its
administration and one or more U.S. persons have the authority to control all
of its substantial decisions (a "U.S. Holder"). Certain federal income tax
consequences relevant to a Holder other than a U.S. Holder are discussed
separately below.
In addition, this discussion is generally limited to the tax consequences
to initial Holders that purchased the Debentures at the "issue price." For this
purpose, the "issue price" of a Debenture is the first price at which a
substantial part of the Debentures are sold to the public for money (excluding
sales to bond houses, brokers, or similar persons or organizations acting in
the capacity of underwriters, placement agents or wholesalers).
ORIGINAL ISSUE DISCOUNT
The Debentures have been issued with original issue discount ("OID") for
federal income tax purposes. All U.S. Holders will be required to include OID
in income as it accrues, regardless of such Holder's regular method of
accounting for federal income tax purposes, and in advance of the receipt of
cash attributable to that income. OID generally will be treated as interest
income to the U.S. Holder and will accrue on a yield-to-maturity basis over the
life of the Debenture, as discussed below.
The amount of OID with respect to a Debenture will be an amount equal to
the excess of the stated redemption price at maturity of such Debenture over
the "issue price" (as defined above) of such Debenture. The Debentures have
been issued at a substantial discount. The stated redemption price at maturity
of each Debenture will include all cash payments required to be made under the
Debenture through maturity, whether denominated as principal or interest.
A-7
The amount of OID accruing to a Holder with respect to any Debenture will
be the sum of the "daily portions" of OID with respect to such Debenture for
each day during the taxable year (or portion thereof) on which such Holder owns
such Debenture ("accrued OID"). The daily portion is determined by allocating
to each day in any "accrual period" a pro rata portion of the OID allocable to
that accrual period. An accrual period for a Debenture may be of any length and
may vary in length over the term of a Debenture, provided that each accrual
period is no longer than one year and each scheduled payment of principal or
interest occurs either on the final day or on the first day of an accrual
period. The amount of OID accruing during any full accrual period with respect
to a Debenture will be equal to the following amount: (i) the "adjusted issue
price" of such Debenture at the beginning of that accrual period, multiplied by
(ii) the yield to maturity of such Debenture (taking into account the length of
the accrual period). The adjusted issue price at the beginning of an accrual
period is generally defined as (i) the issue price of the Debenture, plus (ii)
the aggregate amount of OID accrued during all prior accrual periods, minus
(iii) any cash payments made on the Debenture.
Under these rules, a Holder generally will have to include in income
increasingly greater amounts of OID in successive accrual periods. The "yield
to maturity" of a Debenture is the discount rate that, when used in computing
the present value of all payments to be made on a Debenture, produces an amount
equal to the issue price of the Debenture.
Holding does not intend to treat the possibility of an optional redemption
or repurchase of the Debentures as giving rise to any additional accrual of OID
or recognition of ordinary income upon redemption, sale or exchange of a
Debenture. Holders may wish to consider that United States Treasury Regulations
regarding the treatment of certain contingencies were recently issued and may
wish to consult their tax advisors in this regard.
Holding will report to Holders and the Internal Revenue Service (the
"Service") each year the amount of OID that accrued on the Debentures for that
year.
APPLICABLE HIGH YIELD DISCOUNT OBLIGATIONS
The Debentures are "applicable high yield discount obligations"
("AHYDOs"), as defined in the Code, because the yield to maturity of such
Debentures exceeds by more than five percentage points the "applicable federal
rate" ("AFR") in effect at the time such Debentures were issued. Under the
rules applicable to AHYDOs, the interest expense deduction to Holding otherwise
attributable to a portion of the OID that accrues on the Debentures will be
permanently disallowed (the "non-deductible portion"). Such non-deductible
portion of the OID will be an amount that bears the same ratio to such OID as
(i) the excess of the yield to maturity of the Debentures over the AFR plus six
percentage points bears to (ii) the yield to maturity of the Debentures. To the
extent the non-deductible portion of OID would have been treated as a dividend
if it had been distributed with respect to Holding's stock, it will be treated
as a dividend to Holders of the Debentures for purposes of the rules relating
to the dividends-received deduction for corporate Holders. Any remaining OID on
the Debentures (the "deductible portion") will not be deductible by Holding
until such OID is actually paid.
TAX BASIS
A U.S. Holder's adjusted tax basis in a Debenture at a given date
generally will be equal to the purchase price paid by such U.S. Holder for such
Debenture, increased by the amount of OID previously included in income with
respect to the Debentures and decreased by all prior payments received on the
Debentures.
SALE OR REDEMPTION OF DEBENTURES
Unless a nonrecognition provision applies, the sale, exchange, redemption
(including pursuant to an offer by Holding) or other disposition of a Debenture
will be a taxable event for federal income tax purposes ("Taxable
Disposition"). In such event, a U.S. Holder generally will recognize gain or
loss equal to the difference between (i) the amount of cash plus the fair
market value of any other property received upon the Taxable Disposition and
(ii) the U.S. Holder's adjusted tax basis therein. Such gain or loss
A-8
generally will be capital gain or loss and generally will be long-term capital
gain or loss if the Debenture was held by the U.S. Holder for more than one
year at the time of such sale, exchange, redemption or other disposition. The
deductibility of capital losses is subject to certain limitations.
BACKUP WITHHOLDING
A U.S. Holder of Debentures may be subject to "backup withholding" at a
rate of 31% with respect to certain "reportable payments" including interest
payments and, under certain circumstances, principal payments on the
Debentures. These backup withholding rules apply if the U.S. Holder, among
other things, (i) fails to furnish a social security number or other taxpayer
identification number ("TIN") certified under penalties of perjury within a
reasonable time after the request therefor, (ii) furnishes an incorrect TIN,
(iii) fails to report properly interest, or (iv) under certain circumstances,
fails to provide a certified statement, signed under penalties of perjury, that
the TIN furnished is the correct number and that such Holder is not subject to
backup withholding. A U.S. Holder who does not provide Holding with its correct
TIN also may be subject to penalties imposed by the Service. Any amount
withheld from a payment to a U.S. Holder under the backup withholding rules is
creditable against the U.S. Holder's federal income tax liability, provided the
required information is furnished to the Service. Backup withholding will not
apply, however, with respect to payments made to certain Holders, including
corporations and tax-exempt organizations, provided their exemption from backup
withholding is properly established.
Holding will report to the U.S. Holders of Debentures and to the Service
the amount of any "reportable payments" for each calendar year and the amount
of tax withheld, if any, with respect to such payments. U.S. Holders are
advised to consult their tax advisors regarding the applicability of the
aforementioned backup withholding rules to the U.S. Holder's particular
situation.
NON-U.S. HOLDERS
The following discussion is limited to the federal income tax consequences
relevant to a Holder of a Debenture that is not a U.S. Holder, as defined above
(a "Non-U.S. Holder").
For purposes of withholding tax on interest discussed below, a
non-resident alien or other non-resident fiduciary of an estate or trust will
be considered a Non-U.S. Holder. For purposes of the following discussion,
interest (including OID) from the Debentures, as well as gain on the sale,
exchange or other disposition of Debentures, will be considered to be "U.S.
trade or business income" if such income or gain is (i) effectively connected
with the conduct of a U.S. trade or business or, (ii) in the case of a Non-U.S.
Holder that is a resident of a nation with which the United States has entered
into an income tax treaty, attributable to a permanent establishment (or, in
the case of an individual, a fixed base) in the United States.
INTEREST
Generally, any interest (including OID) paid to a Non-U.S. Holder that is
not U.S. trade or business income will not be subject to federal income tax if
the interest qualifies as "portfolio interest". Interest on the Debentures will
generally qualify as portfolio interest if (i) the Non-U.S. Holder does not
actually or constructively own 10% or more of the total voting power of all
voting stock of Holding and is not a "controlled foreign corporation" with
respect to which Holding is a "related person" within the meaning of the Code,
and (ii) the beneficial owner (a) under penalties of perjury, certifies that
the beneficial owner is not a U.S. person and such certificate provides the
beneficial owner's name and address, and (b) is not a bank receiving interest
on an extension of credit made pursuant to a loan agreement made in the
ordinary course of its trade or business.
The gross amount of payments of interest to a Non-U.S. Holder that neither
qualify for the portfolio interest exception nor are U.S. trade or business
income will be subject to federal income tax at the rate of 30%, unless a
United States income tax treaty applies to reduce or eliminate withholding.
U.S. trade or business income will be taxed at regular federal income tax rates
rather than the 30% gross rate. In the case of a Non-U.S. Holder that is a
corporation, such U.S. trade or business income may also be subject
A-9
to the "branch profits tax" (which is generally imposed on a foreign
corporation on the actual or deemed repatriation from the United States of
earnings and profits attributable to U.S. trade or business income) at a rate
of 30%. The branch profits tax may not apply (or may apply at a reduced rate)
if the recipient is a qualified resident of certain countries with which the
United States has an income tax treaty. To claim the benefit of a tax treaty or
to claim exemption from withholding because the income is U.S. trade or
business income, the Non-U.S. Holder must provide a properly executed Form 1001
or 4224 (or such successor forms as the Service designates), as applicable,
prior to the payment of interest. These forms must be periodically updated.
Under final Treasury Regulations that will be effective for payments after
December 31, 1999, subject to certain transition rules (the "Final
Regulations"), the Forms 1001 and 4224 may be replaced by Form W-8. Also, under
the Final Regulations, a Non-U.S. Holder who is claiming the benefit of a
treaty in certain circumstances may be required to obtain a federal TIN and to
provide certain documentary evidence issued by the appropriate foreign
governmental authority to prove residence in the foreign country. Certain
special procedures are provided in the Final Regulations for payments through
qualified intermediaries. Prospective purchasers are urged to consult their tax
advisors regarding the Final Regulations.
SALE, EXCHANGE OR REDEMPTION OF DEBENTURES
Except as described below and subject to the discussion concerning backup
withholding, any gain realized by a Non-U.S. Holder on the sale, exchange,
redemption or other disposition of a Debenture generally will not be subject to
federal income tax, provided that (i) such gain is not U.S. trade or business
income; (ii) the Non-U.S. Holder is not an individual who holds the Debenture
as a capital asset, is present in the United States for 183 days or more in the
taxable year of the disposition and who meets certain other requirements; and
(iii) the Non-U.S. Holder is not subject to tax pursuant to the provisions of
federal tax law applicable to certain U.S. expatriates (including certain
former citizens or residents of the United States).
A-10
[ALTERNATE COVER FOR MARKET-MAKING PROSPECTUS]
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NO DEALER, SALESPERSON, OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS IN CONNECTION WITH THIS OFFERING
OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH
INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED
BY HOLDING. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A
SOLICITATION OF AN OFFER TO BUY ANY SECURITIES OTHER THAN THE SECURITIES TO
WHICH IT RELATES, NOR DOES IT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION
OF AN OFFER TO BUY SUCH SECURITIES IN ANY JURISDICTION IN WHICH SUCH OFFER OR
SOLICITATION IS NOT AUTHORIZED, OR IN WHICH THE PERSON MAKING SUCH OFFER OR
SOLICITATION IS NOT QUALIFIED TO DO SO, OR TO ANY PERSON TO WHOM IT IS UNLAWFUL
TO MAKE SUCH AN OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS
NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY
IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF HOLDING SINCE THE
DATE HEREOF OR THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY TIME
SUBSEQUENT TO ITS DATE.
--------------------------
TABLE OF CONTENTS
PAGE
-----------
Available Information ........................ iii
Prospectus Summary ........................... 1
Risk Factors ................................. 14
Use of Proceeds .............................. 20
The Exchange Offer ........................... 21
Capitalization ............................... 28
Selected Historical Consolidated Financial
Data ...................................... 29
Management's Discussion and Analysis of
Financial Condition and Results of
Operations ................................ 30
Business ..................................... 36
The Transactions ............................. 46
Management ................................... 47
Security Ownership of Certain Beneficial
Owners and Management ..................... 50
Certain Relationships and Related
Transactions .............................. 51
Description of Certain Indebtedness .......... 53
Description of New Debentures ................ 55
Certain U.S. Federal Income Tax
Considerations ............................ 80
Plan of Distribution ......................... 85
Notice to Investors .......................... 86
Legal Matters ................................ 86
Experts ...................................... 87
Index to Unaudited Pro Forma
Condensed Consolidated Financial
Data ...................................... P-1
Index to Consolidated Financial
Statements ................................ F-1
13 1/2% NEW SENIOR
DISCOUNT DEBENTURES
DUE 2009
AKI HOLDING CORP.
--------------------------------------------
PROSPECTUS
--------------------------------------------
, 1998
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
A-11
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 20. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Pursuant to Section 102(b)(7) of the Delaware General Corporation Law (the
"DGCL"), Article Tenth of Holding's Certificate of Incorporation, (the
"Certificate of Incorporation") (incorporated by reference as Exhibit 3.1 to
this Registration Statement), eliminates the liability of Holding's directors
to Holding or its stockholders, except for liabilities related to breach of
duty of loyalty, actions not in good faith and certain other liabilities.
Section 145 of the DGCL provides, in substance, that Delaware corporations
shall have the power, under specified circumstances, to indemnify their
directors, officers, employees and agents in connection with actions, suits or
proceedings brought against them by a third party or in the right of the
corporation, by reason of the fact that they were or are such directors,
officers, employees or agents, against expenses incurred in any such action,
suit or proceeding. The DGCL also provides that Delaware corporations may
purchase insurance on behalf of any such director, officer, employee or agent.
Article Tenth of the Certificate of Incorporation provides that Holding
shall indemnify any director or officer to the fullest extent permitted by the
DGCL. Holding also maintains officers' and directors' liability insurance which
insures against liabilities that officers and directors of Holding may incur in
such capacities.
Reference is made to Section 8 of the Registration Rights Agreement filed
as Exhibit 4.3 to this Exchange Offer Registration Statement which provides for
indemnification for the officers and directors of Holding and certain control
persons of Holding against certain liabilities, including liabilities caused by
any untrue statement of material fact or omission contained in any registration
statement, preliminary prospectus, prospectus or any amendments thereto.
ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Exhibits
1.1. Purchase Agreement dated June 22, 1998 between DLJ and Holding.
3.1. Certificate of Incorporation of Holding.*
3.2. Bylaws of Holding.
4.1. Indenture dated as of June 25, 1998 between Holding and State Street Bank and Trust
Company, as Trustee.
4.2. Form of 13 1/2% Senior Discount Debentures due July 1, 2009.*
4.3. Registration Rights Agreement, dated as of June 25, 1998 between Holding and DLJ.
5.1. Legal opinion of Akin, Gump, Strauss, Hauer & Feld, L.L.P. concerning the legality of the
Debentures.*
8.1. Legal opinion of Akin, Gump, Strauss, Hauer & Feld, L.L.P. concerning certain tax
matters.*
10.1. Acquisition Corp. Stock Option Plan.
10.2. Option Letter Agreement relating to the Time Vesting Options dated as of June 17, 1998
between Acquisition Corp. and Roger L. Barnett.
10.3. Option Letter Agreement relating to the Standard Options dated as of June 17, 1998
between Acquisition Corp. and Roger L. Barnett.
II-1
10.4. Employment Agreement dated as of June 17, 1998 between the Company and Roger L.
Barnett.
10.5. Employment Agreement dated as of May 12, 1998 between the Company and Barry W.
Miller.
10.6. Stockholders Agreement dated as of December 15, 1997 between Acquisition Corp.,
DLJMBII and certain other investors including Roger L. Barnett.
10.7. Credit Agreement dated as of April 30, 1996, as amended on December 12, 1997, between
the Company and Heller Financial, Inc.
10.8. Securities Purchase Agreement dated as of December 15, 1997 between the Company and
the Bridge Lender.*
10.9. Asset Purchase Agreement dated as of June 22, 1998 between Arcade Marketing, Inc. and
Minnesota, Mining and Manufacturing Company.
10.10. Acquisition Agreement dated as of December 15, 1997 between the Company and
DLJMBII and certain related investors.*
10.11. Put Option Agreement dated as of December , 1997 between Roger L. Barnett,
Acquisition Corp. and DLJMBII.*
10.12. Indenture dated as of June 25, 1998 between the Company and IBJ Schroder Bank &
Trust Company.
12.1. Computation of Earnings to Fixed Charges.
16.1. Letter from Coopers & Lybrand, L.L.P. dated as of , 1998 regarding Change in
Certifying Accountant.*
23.1. Consent of Price Waterhouse LLP
23.2. Consent of Akin, Gump, Strauss, Hauer & Feld, L.L.P. (included in Exhibit 5.1).*
24.1. Powers of Attorney (included on signature page hereto).
25.1. Form T-1 Statement of Eligibility of Trustee and Qualification under the Trust Indenture
Act of 1939 of State Street Bank and Trust Company, as Trustee under the Indenture.*
99.1. Letter of Transmittal.*
99.2. Notice of Guaranteed Delivery.*
(b) Financial Statement Schedules
Schedule II -- Allowance for Doubtful Accounts
- ----------
* To be filed by amendment.
II-2
ITEM 22. UNDERTAKINGS.
Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the DGCL, the Certificate of Incorporation and Bylaws,
or otherwise, the Registrant has been advised that in the opinion of the
Securities and Exchange Commission such indemnification is against public
policy as expressed in such Securities Act, and is, therefore, unenforceable.
In the event that a claim for indemnification against such liabilities (other
than payment by the Registrant of expenses incurred or paid by a director,
officer or controlling person of the Registrant in the successful defense of
any action, suit or proceeding) is asserted by such director, officer or
controlling person in connection with the securities being registered, the
Registrant will, unless in the opinion of its counsel the matter has been
settled by controlling precedent, submit to a court of appropriate jurisdiction
the question whether such indemnification by it is against public policy as
expressed in such Securities Act and will be governed by the final adjudication
of such issue.
The undersigned Registrant hereby undertakes to respond to requests for
information that is incorporated by reference into the Prospectus pursuant to
items 4.10(b), 11 or 13 of this Form, within one business day receipt of such
request, and to send the incorporated documents by first class mail or other
equally prompt means. This includes information contained in documents filed
subsequent to the effective date of the Registration Statement through the date
of responding to the request.
The undersigned Registrant hereby undertakes to supply by means of a
post-effective amendment all information concerning a transaction, and the
company being acquired involved therein, that was not the subject of and
included in the Registration Statement when it became effective.
II-3
SIGNATURES
Pursuant to the requirements of the Securities Act, the registrant has
duly caused this Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of New York, State of New
York, on the 7th day of August 1998.
AKI HOLDING CORP.
By: /s/ Kenneth A. Budde
----------------------------------
Kenneth A. Budde
Chief Financial Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Roger L. Barnett and David M. Wittels,
and each of them his true and lawful attorneys-in-fact and agents, with full
power of substitution and resubstitution, for and in his name, place and stead,
in any and all capacities, to sign any and all amendments (including
post-effective amendments) to this Registration Statement, and to file the
same, with all exhibits thereto, and other documents in connection therewith,
with the Securities and Exchange Commission, granting unto said
attorneys-in-fact and agents, and each of them, full power and authority to do
and perform each and every act and thing requisite and necessary to be done in
and about the premises, as fully to all intents and purposes as might or could
be done in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents or his substitute may lawfully do or cause to be
done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities and on the dates indicated.
SIGNATURE TITLE DATE
- --------------------------- ------------------------------------ ---------------
/s/ Roger L. Barnett President, Chief Executive Officer August 7, 1998
- ------------------------- (principal executive officer)
Roger L. Barnett and Director
/s/ Thompson Dean Chairman of the Board and Director August 7, 1998
- -------------------------
Thompson Dean
/s/ Barry W. Miller Chief Operating Officer August 7, 1998
- -------------------------
Barry W. Miller
/s/Kenneth A. Budde Chief Financial Officer (principal August 7, 1998
- ------------------------- financial officer and principal
Kenneth A. Budde accounting officer)
/s/Hugh R. Kirkpatrick Director August 7, 1998
- -------------------------
Hugh R. Kirkpatrick
Director August 7, 1998
- -------------------------
Mark Michaels
/s/ David M. Wittels Director August 7, 1998
- -------------------------
David M. Wittels
II-4
SCHEDULE II
AKI, INC. AND SUBSIDIARIES
ALLOWANCE FOR DOUBTFUL ACCOUNTS
(DOLLARS IN THOUSANDS)
BALANCE AT BALANCE AT
YEAR BEGINNING END OF
ENDED OF PERIOD ADDITIONS(1) DEDUCTIONS(2) PERIOD
- -------- ------------ -------------- --------------- -----------
1995 375 671 (667) 379
1996 379 337 (249) 467
1997 467 120 (268) 319
- ----------
(1) Additions represent amounts charged to expense during the respective
periods.
(2) Deductions represent net writeoffs and recoveries recorded by the Company
during the respective periods.